Why are utility tokens necessary
Briefly explained: opportunities and limitations of utility tokens as an investment
Bitcoin and other cryptocurrencies, i.e. investments based on tokens, are becoming interesting for more and more investors. In particular, the chance of high profits that can be realized in the short term seems attractive. But what are these utility tokens all about?
Bitcoin and other cryptocurrencies are token-based investments.
Basically, BaFin distinguishes between three types of tokens:
- Utility token,
- Payment tokens and
- Equity token.
Utility tokens, also known as app tokens or usage tokens, enable access to certain services or products. These utility tokens are used like an admission ticket or a voucher on the respective platform.
There are also payment tokens, also known as payment tokens or digital currencies, which include classic crypto currencies such as Bitcoin and which are used as an alternative means of payment.
The third type of token are equity tokens, also known as asset tokens or security tokens. This grants the token owners claims under the law of obligations and co-determination. While utility tokens and payment tokens are not securities, equity tokens are security-like tokens with corresponding rights and obligations for companies and investors. When issuing utility tokens, the term Initial Coin Offering is usually used and, based on this, when issuing equity tokens, Equity Token Offering is used for corporate financing.
The lack of regulatory requirements led to the up and down of utility tokens
2017 was the year of the Initial Coin Offerings, also known as ICOs. According to Cointelegraph, many innovative, promising as well as numerous dubious projects collected 8.7 billion euros by issuing tokens. Many startups and young companies dreamed of a new type of financing option: financing without banks and venture capital investors directly from the crowd, but with a multiple volume of the previous crowdfunding options. Because now projects could even reach investors worldwide, instead of being limited to more regional funding as was previously the case. In addition, due to the sharp rise in the Bitcoin price, the topic was increasingly played in the press and many utility token issuers used this opportunity to present their projects to the appropriate target group. Almost all ICO issuers wanted to avoid licensing and prospectus requirements, the issue of utility tokens was largely unregulated. Equity Token Offerings, also known as ETOs, i.e. the public offering of regulated company investments represented by blockchain tokens, was not even conceivable at the time. It was only with the end of the ICO hype in the spring of 2018 and the consequent declining interest of buyers in classic ICOs that there was a rethink in the industry.
Equity tokens are designed to regain customer trust
In order to regain the trust that was lost through the ICOs and the subsequent price losses, the rights of investors should be strengthened with equity tokens. Equity tokens are investments in the respective company and often also contain a possible profit sharing in the future success of the company. This can best be equated with stocks and they are treated very similarly in regulatory terms. These tokens are subject to securities regulations. This point is particularly important for the BaFin, SEC and other regulatory authorities. The higher regulatory requirements for token issuers are also intended to prevent fraudulent ETOs.
Utility tokens are not intended as a means of investment
A comparison with utility tokens helps to better assess the advantages and disadvantages of equity tokens. A utility token offers the buyer access to a company's product or service and is usually used as a means of payment for their platform. It is basically not intended as an investment, which is why there are no strict regulatory requirements for utility tokens. Accordingly, many companies tried to mark their tokens as utility tokens in order to purchase their products and to issue them as such. However, only BaFin can make a mandatory assessment of the respective token type. There, in turn, each token is checked as an individual case, which means that in Germany there was no legal certainty for the clear majority of tokens at the respective ICO. The purpose of a utility token can be illustrated using the following example: If a customer were to buy a utility token from the fictional game console manufacturer ARCADE, then the customer would not participate in the profits or the price development of the company ARCADE, but could use the utility token only buy new games for the ARCADE game console. If you now consider that positive news about the company ARCADE lead to an increase in the value of the utility token, the fundamental problem becomes clear. Because usually positive or negative news about companies has no effect on the in-game currencies, as these are a self-contained system.
Utility tokens are not company shares
However, many investors assume that they will participate in the respective company with a utility token, simply because it is simply the only type of token that the company has issued. Therefore, they equate the course of the utility token with a share price and transfer the positive news about the company to the course of the utility token. Often it is regulatory ignorance that leads to utility tokens being confused with an investment. But the lack of knowledge of the majority of customers in turn leads to a share-like price trend of the utility token, as this is formed from supply and demand and with positive news about the company, attention and demand for its utility token increases. Therefore, positive news really leads to positive performance of the utility token, which means that investors feel confirmed in their investment behavior, even though the utility token is intended for other purposes from a regulatory point of view. In turn, this problem is exacerbated by the fact that many investors do not want or cannot use the utility token services themselves. As a result, the utility token finally loses its sense as a “voucher” for the platform or products, which was originally intended by the regulations, and is viewed by buyers as a pure object of speculation.
Equity tokens enable ownership rights to the company
More and more companies have recognized this misunderstanding and want to eliminate it by issuing equity tokens. Equity tokens offer investors a variety of advantages over utility tokens. The biggest difference here is that owners of equity tokens have property rights. Accordingly, utility token owners have no co-determination rights or shares in the company and its asset growth. In addition, ICOs are now banned in many countries because they have not met the necessary regulatory requirements. There have been some projects in the past whose sole purpose was to enrich the issuer of the token. This was also one of the reasons why the ICOs eventually fell into disrepute. Another point of criticism was that ICOs are very speculative and offer no collateral. In some cases, the prices of the utility token were even adjusted during the so-called coin offering, as they are not linked to any asset or actual value. With equity tokens, on the other hand, there is always a corresponding asset behind it.
Classic stock exchanges will decide the future of utility tokens
Banks and online brokers such as comdirect will probably decide on the future of utility tokens in the future, because if they only consistently offer equity tokens and payment tokens for trading on their platforms, then utility tokens will be denied to a large group of customers. The question also arises as to whether the Bafin may completely prohibit the trading of utility tokens on classic stock exchanges so that they can regain their importance originally envisaged by the regulatory framework. The future development of utility tokens will therefore remain exciting. Regardless of the type of token, there are currently a lot of exciting ideas in the blockchain area, but this analysis of utility tokens shows that, as a regulated financial institution, you should look very carefully there. Promising projects can, however, apply to the comdirect Startup Garage at any time. Here we develop a fully functional prototype together with the startup within three months. If this is successful, long-term cooperation is ideally sought.
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