Security Token Offerings: The future of SME financing?

Security Token Offerings (STOs) are similar to IPOs, where a company issues stocks to shareholders. Likewise, an STO issuer provides Security Tokens to investors in exchange for cash.  

What is a security token?

Security tokens are digitized securities. “Securities” are, for example, stocks, bonds, or real estate – anything that qualifies as a security under financial market law. A “token” is a digital representation of a safe, stored on a blockchain, a digital database. The rights of the purchaser are governed by a smart contract and will be enforced automatically. For instance, if the security token is a digital stock, the smart contract might include a right to dividend payments, voting rights, or an automated stock repurchase agreement – all in digital form. 

What is the difference between STOs and ICOs?

ICOs, which means “Initial Coin Offering,” issue a Utility Token, usually granting a usage right of a technology platform. As utility tokens do not qualify as financial securities, they don’t fall under securities and financial market law. Thus, ICO issuers do not have to apply with a financial market authority for approval and do not have to issue securities prospectuses.

Why are STOs relevant for SMEs?

Today, SMEs mostly finance their businesses via bank loans, bonds, or they issue stocks. The costs of these financing options are elevated by the involvement of financial markets intermediaries, for example, banks. Especially bond and stock issuances come with high banking and legal fees and are out of reach for most SMEs. Security tokens provide a relatively low-cost way of financing, as SMEs could issue bonds or stocks in a digital form directly to investors without the involvement of financial intermediaries. Transactions, dividend payments, repurchases, and other processes can be automated, which further reduces the costs of the issuer.

Why are SMEs not yet using STOs? 

Blockchain is still a relatively young technology, and there is a lack of regulations and infrastructure. However, governments around the world have started to amend their legislation, and established financial exchanges have launched digital trading platforms. As a result, the liquidity of security token markets is increasing, meaning it is only a matter of time until STOs will arrive in the SME realm. 

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