In front of you is the third article in our new mini-series that deals with Security Token Offerings or STOs. In this article, we will speak more about the principles behind Security Token Offerings, the similarities, and differences between Security Token Offerings and Initial Coin Offerings (ICOs) and their backgrounds. Then, we will analyze whether these offerings are the next logical step for the financial world or if they are just a recent trend in the ever-developing world of finance.
Should you want to read up on our previous article on security tokens, you can do so here. And, the first article in this mini-series on the general principles of asset tokenization can be found here.
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As we defined the term ‘security token’ in the previous article, we settled on a definition that it is a “highly regulated digital asset that guarantees the ownership of an asset”, and its primary use is “to digitally represent an investment in and ownership of a common enterprise with the expectation of profit”.
To reiterate, a security token represents a financial security with which you become an owner of a part of a valuable and fungible asset. Except this financial security – the security token – is entirely digital and written on the blockchain; no paper certificates of ownership are released and sent out, plus there are other benefits that we covered previously, such as:
• significantly reducing the dependence on the middleman in transactions (or entirely erasing its significance in some situations),
• faster trading execution and completion,
• drastically lower fees, just to name a few.
But what is a security token offering, or STO then?
A security token offering is a process in which an entity (a company, for example) tokenizes some or all of their financial assets (their shares, for example) and offers them to potential investors to buy them. In return for investing in the tokenized assets, the buyers can then expect either a potential profit down the line and ownership of the entity, depending on how the benefits of owning the tokenized asset were defined. This is a highly regulated process that requires the paperwork for the process to be delivered to the SEC (for the US) or FCA (for the UK) or similar bodies for evaluation and for checking whether the security tokens are backed by a collateral, whether the paperwork is in order, and whether the investors can safely invest in the entity.
Now that we covered what a security token offering is and touched on how the process is handled, we should go into the points that differentiate a security token offering (STO) from an initial coin offering (ICO).
The main difference between an STO and an ICO is in their regulatory governance – STOs are highly regulated offerings that must comply with laws that are applied to all securities and must operate in a particular legal framework. ICOs, on the other hand, can circumvent strict regulation by defining their tokens as ‘utility’ tokens which do not give ownership to investors, but serve as ‘tickets’ for utilizing an asset and building upon it – be it a blockchain, a DApp or both.
However, exactly due to the ability to circumvent the legal framework that STOs belong to, ICOs are brought to the public more easily and quickly, and can actually bring wider public to invest in it since they are not deemed securities. There is no threshold for investors, they oftentimes do not require certified investors to back it and there are fewer barriers than investing in an STO.
There are many similarities between a security token offering and an initial public offering in the sense that both are very regulated processes. However, initial public offerings (IPOs) are done when a private company or enterprise wants to get into the stock market and go public out of various reasons – to raise funds, to increase market share or to gain an additional influx of investments.
In the IPO process, an investor receives a genuine certificate of ownership either in a digital, PDF form or it is mailed to them, while for STOs, the investors are written in the blockchain, and any change of ownership is updated on the blockchain itself, thus reducing the time necessary to update the ownership information as it is nearly instant in STOs compared to IPOs.
Also, STOs don’t necessarily make the company public as IPOs do, since any asset can be tokenized, and for example, startups can use STOs for their seed investment series, or a private company can bring in a board of shareholders in by offering security tokens, and still remain private.
For the time being, it seems that security token offerings are the next logical step in decentralizing the financial systems around the world and utilizing the new technology of blockchain as the primary means of processing the admin side of owning an asset. A facilitating factor is the fact that security token offerings are regulated and protect the investors from potential fraudulent actions. Though this may seem bothersome to some people since they are looking for complete decentralization and want to distance themselves from established regulatory bodies, which is to be expected since the technology that allows security token offerings to really bloom started as such - a decentralized and solely community-regulated piece of code. But will it be adopted and will it be accepted as a new form of launching security offerings? We have yet to witness that, but we are optimistic this new and improved way is here to stay.
We at Bullbear Analytics follow these trends daily and provide our premium members with an opportunity to gain early information on their development. In our next article, we will cover how security token offerings can change the world of finance, so make sure you subscribe here and be the first to get the newest articles!
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