With the rise of cryptocurrencies began a new era where companies, individuals, and enterprises could use digital currencies secured by the blockchain to raise funds for their ventures, allowing investors to contribute to the development of the future behemoths.
However, as shall be explained later in this article, the space soon exploded with several different token offerings types: utility tokens, security tokens, equity tokens, asset tokens, payment tokens, and exchange tokens, which vary in function and form, each with its own set of advantages and disadvantages, not to mention their specific legal implications and compliance requirements. It is imperative for both token issuers, developers, and investors to understand the nuances of the different token types and what each has in store for them.
The following is a discussion of these different fundraising ventures and a study of the main characteristics of the token types associated.
Utility Tokens and ICOs
Utility tokens are digital tokens that help with crowdfunding. When someone purchases a utility token, they are contributing money to the token issuer to be able to use specific services or goods that would be offered to them in the future. The buyer is allowed to redeem the token for this very purpose. In essence, then, utility tokens serve as the gateways that allow individuals access to features.
ICOs (Initial Coin Offerings) are revolutionary processes wherein a company or a startup issues utility tokens in the cryptocurrencies in exchange for fiat money. ICOs are crypto’s own version of crowdsales. Utility tokens derive their price from speculations and phenomena such as Fear Of Missing Out (FOMO) where buyers purchase tokens being optimistic about price hikes in the future that could entail higher profits.
Security Tokens and STOs
Security tokens source their value from an external asset that is also tradable. These are legally securities and must hence abide by the legal compliance procedures and regulations. Security tokens benefit from the involvement of real financial assets as well as the transparency and security of the blockchain ledger, which makes them unique.
A Security Token Offering (STO) is one where investors can purchase security tokens— this entails greater security since there is more legal clarity for both the issuer and the buyers. Security tokens, however, suffer from lower liquidity since they are subject to restrictions. The rise of security token trading platforms will serve to increase the liquidity and trading activity of these token types.
The interest in STOs has been spurred by the SEC’s recent crackdowns on several ICOs. STOs help make investments more secure on account of the asset backing mechanism that underlies their function. Security tokens have been considered the safest types of tokens but are characterized by increased complications of the requirement of KYC and AML procedures, for instance.
Equity Tokens and ETOs
Equity tokens are a specific type of security tokens which are characterized by asset ownership such as company stock or debt. These function in the manner of stock assets and will represent ownership in a company.
The success or failure of this project ultimately determines the worth of the equity tokens. With an Equity Token Offering (ETO), entrepreneurs can offer investors a piece of ownership in their projects rather than simply portraying an idea and its potential utilities as in a conventional ICO.
An Equity Token Offering is considered a hybrid fundraise model that combines the best of IPOs, VC funding, and ICOs. It helps reduce costs and saves time while diversifying the risks involved.
Asset Tokens and Asset ICOs
FINMA, the Swiss Financial Market Supervisory Authority has categorized tokens and fundraising ventures into various types in a bid to apply regulations to specific offering types. One of the three token types is the asset token which the FINMA defines as one involving participation in earning streams or companies or those characterized by an entitlement to interest or dividend, for instance.
Asset ICOs are token offerings where issuers provide investors with asset tokens that function in the manner of bonds, equities, or derivates. Since asset tokens are technically securities, they must comply with the securities laws.
Payment Tokens and Payment ICOs
FINMA regards payment tokens identical to cryptocurrencies which serve as facilitators of payment without being linked to any project. These serve as payment media and are digital currencies in the purest form. FINMA does not consider payment tokens as securities. Payment tokens will be stores of inherent value in the manner of gold and cash, for instance.
The payment ICO uses a payment token to facilitate financial transactions and might be required by FINMA to comply with anti-money laundering regulations.
Exchange Tokens and Initial Exchange Offerings (IEOs)
An Initial Exchange Offering (IEO) involves developers generating tokens and sending them over to an exchange which will ultimately sell these to the interested contributors. Typically, all participants will create accounts on the exchange involved and deposit their Ether in that account. The investor will later be able to obtain the tokens from the exchange when the IEO begins. Involving an exchange as the counter-party has numerous benefits since the fundraise can exploit the existing user base of the exchange.
IEOs have been rapidly gaining popularity in Korean markets, especially among retail investors which deem these ventures safer as the onus falls on the local exchanges when it comes to preventing frauds. Exchanges can vet the token issuers and help facilitate secure investments for token buyers.
With a varied class of tokens on offer, blockchain entrepreneurs can unleash their creative forces while investors can contribute to promising projects with confidence. It is imperative to use the right fundraising venture models and the right digital token types which will be dictated by the nature of the project and the legal aspects.
It’s better to be wary of security issues when it comes to buying and selling tokens, after all. Maintaining compliance with legal requirements helps establish trust and transparency between all dealing parties.