ICOs have become a popular way for young companies to source investment, and their usage has soared in the last couple of years. It is the ideal way for fledgling companies to quickly raise money, with some ICOs drawing in millions of pounds of investment, with this in turn kickstarting some great companies. This is a straightforward way to secure funding and has been hailed as the fastest growing investment strategies, growing by almost 50 percent in less than a year, highlighting its fundamentality in the world of 21st century business.
On top of this, investors are turning their attention towards security tokens over utility tokens, bringing with it increased operational stability and reduced risk when embarking on ICO investment. These also offer a unique business advantage for those seeking investment, demonstrating their governing capabilities to potential investors. But just how does this all work? We catch up with Dusan Stokanovic, Founder and Director of True Global Ventures, to get the inside scoop on the future of ICOs and the prominence of tokens in contemporary investment.
Thanks for catching up with us today Dusan. Firstly, ICOs and tokens might seem confusing for those outside of the business arena. How would you begin to explain these for new start-ups seeking funding options?
I’d start by working through tokens, their various kinds and how we define them. Telegram, for example, is laning the largest ICO in the world, which would equate to about $2 billion, and just this morning they raised $850 million. Another example that comes from the financial services sector, which is more in line with today’s topic. The largest exchange that is trading crypto currently is one called Binance. They process around $2 million worth of revenue on a daily basis, equating to around $700 million on an annual basis. The reason I go over this is that leading financial organisations and stock exchanges around the world are asking themselves some fundamental questions now that they have recognised the enormous need to trade crypto.
Now before I delve into the matter of security tokens and financial services, I feel it is important to clarify that there are three kinds of tokens: there are utility tokens; there are payment tokens, which often are forms of utility token; and there are security tokens, which are related to financial services.
Looking specifically at utility tokens, how do these work? And which business models currently utilise these?
I’ll give you a definition of a utility token to demonstrate the point. It is defined as being able to be used within the tokenised company. Let’s look at LinkedIn as an example. I was among the first thousand European users of the site, and back then, I would phone a person and tell them that I was sending them a LinkedIn invitation, and ask them to accept it. They would ask me why, and I would tell them that it would be beneficial for their network and they would usually agree to do it simply because they knew and trusted me, although they didn’t really understand the benefit of what they were doing at that point. In this way, I gained around one thousand LinkedIn connections within a few days. I received a letter from LinkedIn thanking me for being among their first one thousand users.
Now, in a tokenised LinkedIn, and I give Click as an example, which is a recent ICO, I would receive a token as a reward for the action I took in finding new LinkedIn users. In that way, in the original 2004 generation of LinkedIn, I would be aligned to LinkedIn and the value created of that token. That is an example of how you can use the token within the ecosystem. This is what you call the network effect, which is extremely important for the utility token.
How would utility tokens be used in a business format rather than a social media platform?
Another example is a very successful ICO in financial services called OmiseGO. They have a $1 billion valuation on its ICO. OmiseGO is not hugely well known yet, so to demonstrate my point, let’s take Paypal as an example. In the case of Paypal, you have a wallet which back in the day was used almost exclusively within eBay, and as time went on, Paypal began to expand its use to outside of eBay, and became a global eWallet standard. We have a tokenised economy and tokenised Paypal, and all of the people and merchants using Paypal outside of eBay would have been aligned and received some tokens and rewards as opposed to commissions.
In this same way, you can build something internally and then apply it to the outside world. Again, this is where the network effects are very strong. In payments, it is a real possibility to use the tokens and that’s a big part of financial services. The Paypal example I gave with the payments rewards policies is a utility token – not a security token. The reason I emphasise this is that if it is a utility token and you can see the network effect, then it is basically commodity laws, or laws that are not security laws, which are applied.
How would a security token differ from a utility token and why might investors choose this option over utility tokens?
My final example is that you only invest into a company for financial returns. I have been asked before – particularly over the course of this forum – why you can’t have an ICO for any company, and opt for an ICO instead of an IPO. The clear objective for that is to get a financial return; you make a financial investment and that is it. That is a security token and then the lawyers try to package it and make it sound like a utility token, but now a lot of regulators are seeing through that and recognise that security law should be applied. This is a security token.
The first security token was common, at least in the US, from a legal regulatory point of view. One of my portfolio companies did a $42 million raise for a security token. It was a traditional investment proposal where people invested money purely because they wanted a financial return in that company. We had a license and fifty thousand accredited investors who wanted to invest into this security token for one main reason: liquidity. So what is the difference? If I am running Uber or Airbnb, how do I use tokens rather than simply raising money from a VC or private equity firm? Liquidity is the answer. We did this $42 million raise and wanted to offer liquidity immediately afterwards, and that is the main driver of security tokens.
We’ve heard that security tokens are particularly popular for EMs and fledgling businesses, could you explain this a bit for us?
If I could give a really good emerging market piece that I believe is a good security token example, it would be fractional ownership. If you think about how we actually invest in real estate, many times there are barriers to entry to real estate investment because the minimum investment amount is very high and then leverage comes on top of that. With the blockchain you can fractionalise a lot of that ownership into small pieces, so that you can get into the sector for $100 and then put leverage on top of it. That case is very interesting from a blockchain perspective, and it already exists, and on top of that, you can get trading for the small investment you make in security token liquidity.
How will this impact investors?
The most interesting example is one I shared yesterday at another presentation. About how DC or private equity angels or accelerators can actually benefit from it, and this I believe is the most disruptive piece. The problem is that any investor or angel syndicate can get liquidity in the smart contract after a certain period of time, and that is really disruptive. I think that is the most destructive user case within financial services.
Investors are always looking for new ways to be part of innovative businesses. Do you think this is a strategic option for investors?
Investors can definitely be a part of this. You can run a fund, but I want to mention one other case. Many of those ICOs taking place, whether it’s security token or utility token, we know that we can run syndicates with angels. Someone takes the lead and carries out the necessary due diligence, then they redistribute an allotment between different investors, and that is very much how angel investing works. For me, this is one of the stronger user cases from an angel investment point of view, in that we’ve invested in a company with a pure sense of security token. From there we can participate in the private sale where syndication takes place, and then take the company to the ICO. This is why I can see a redefined role for angel investors, particularly when it comes to security tokens. Because, of course, we are investing for one main reason, and that is to make a return on investment, not to create a token system.
You can listen to the full speech at http://www.wbaf2018.istanbul/video-2018/