Gibraltar Blockchain Exchange's chief executive Nick Cowan
The cryptocurrency world is buzzing at the plans of Pavel Durov, the Russian founder of the Telegram messaging app that attracted 60 million users in its first two years after launching in 2013 and now has around 200 million, to build a new blockchain network for encrypted messaging in multiple media across multiple devices.
The tech heads say this network could even be blockchain 3.0, surpassing Ethereum, the second-generation distributed ledger which won support by improving on the processing capacity, resiliency and speed of the original bitcoin blockchain.
For financiers, the most tantalizing aspect of the rumours is how Telegram will fund the build out. It is right now running a private token sale to invited investors that, according to various reports, could raise between $600 million and $800 million equivalent. An even larger public token sale will follow in March.
Combined, the two tranches could raise anywhere from $1.2 billion to $2 billion, making this by far the biggest ICO yet, in a market that has so far raised around $4 billion in aggregate from hundreds of smaller deals.
It would take ICOs into the big league of global financing markets.
And so, even as cryptocurrencies fell in value in January, market participants were looking past this short-term volatility and exploring ways to bring to the primary and secondary crypto markets at least some semblance of the same kinds of investor protections that institutional investors are used to in conventional regulated financial markets.
Regulators such as the SEC have become infuriated that entrepreneurs have taken to dressing up as utility tokens what are essentially claims on the earnings and resources of their start-up companies, which should be subject to the full force of securities laws.
The ICO set to run in February from Tend, the platform for tokenizing luxury assets, aims to set new standards. Its security tokens will be structured to mirror Swiss participation certificates, a familiar form of non-voting shares in Switzerland.
Looking instead at utility tokens, the Gibraltar stock exchange aims to become the first EU-regulated stock exchange to offer a licensed and regulated utility token sale platform in its new subsidiary the Gibraltar Blockchain Exchange (GBX). Its chief executive is Nick Cowan, who spent a career in conventional regulated capital markets including as global head of equities at ING Barings.
“We believe that the tokenization of financial markets and whole economies has only just started,” Cowan tells Euromoney. “At the start of 2018, we saw Kodak issue a token and in the next three years I think we will start to see Fortune 500 companies raising finance through token sales and even governments.
“Coming from a regulated exchange versed in investor protections, we are now attempting to take a blank piece of paper and write appropriate rules for utility token sales where today there are none.”
He adds: “We see the potential for substantial cross-over between the crypto community and mainstream institutional investors.”
A first distinguishing feature of this regime will be requiring potential issuers of utility tokens to appoint a qualified sponsor firm, a gatekeeper, to check that the offering really does consist of a utility token – and not a securities token – as well as to conduct due diligence on the company itself, its financials, its white paper, the structure of the smart contract for its token and the appropriate legal advice on eligibility of tokens in the jurisdictions where an issuer intends to sell them.
As the world’s biggest banks for now shun cryptocurrency, the field is open for a new breed of advisers to emerge and guide issuers through the process of raising substantial funds from token sales. As ICOs disrupt venture capital, some venture capitalists are now recasting themselves as advisers, monetizing their experience in vetting companies, but now in the pursuit of advisory fees rather than principal investment opportunities.
There are no bulge bracket equivalents in token sales yet of Morgan Stanley, Goldman Sachs or JPMorgan. There are already candidates though.
Coinsilium might be one. It is an investor in and manager of early-stage blockchain companies, a specialist venture capitalist. However, in 2017 it also earned revenue from advising four companies on their so-called token generation events (TGEs), including Hdac Technology AG, which completed a combined pre-sale and TGE of $258 million in bitcoin equivalent at the TGE completion day’s rate on December 22, 2017.
Coinsilium’s advisory services division has four more deals in the pipeline right now.
Kenetic Capital is another venture investor now fast expanding into advisory. The firm is working with GBX on its own utility token sale, comprising a $21 million equivalent private pre-sale and $6 million follow-on public offer of so-called rock tokens to build the platform.
“Hong Kong-based Kenetic Capital, lead adviser to GBX, is, in my opinion, at the high end of qualified token advisers, an early investor in the crypto space that has probably had 500 white papers across its desk and invested in a select handful,” says Cowan.
“When we first made the decision to issue our own token in 2017, we decided to approach Kenetic – even though to be honest I had not previously heard of them. When we asked for a meeting the reply was along the lines of: ‘Do you know how busy we are?’ But after that first meeting, Kenetic loved the concept of what we were doing and within 48 hours we had agreed terms and they were attending our first off-site in Malaga, Spain.”
Cowan says that issuers of utility tokens on the exchange will not only have to meet strict eligibility criteria as verified by qualified sponsor firms and legal advisers, but also face continuing reporting obligations to provide audited accounts and updates on build outs of white papers. Buyers will have to open wallets on the exchange and verify their identities by submitting passports as well as another proof of ID.
“If all that frightens away 90% of issuers, then we are quite happy,” says Cowan. “There are concerns that many of the people behind the ICOs so far could be scammers. We won’t know for another 12 to 24 months or so. But we only want those companies that meet the criteria of disclosure and transparency laid out in our rules.”
And there are more ways in which GBX will hold companies coming to the exchange to account.
“Issuers will have to deposit a portion of their proceeds with the exchange – stakes will be held in escrow – and if they fail in their continuing reporting obligations we have the power to distribute those tokens back to the community of market participants,” says Cowan. “We can ask our token holders to vote on how we should use the tokens, for example funding a start-up, a university grant, etc.
“And we’re also going to require sponsors to take payment in the tokens of issuers they introduce, a portion of which they will have to retain for at least six months.”
As interest in accessing and intermediating this new form of funding grows, Cowan claims confidence that the business will grow.
He reports: “We have been overwhelmed by enquiries from potential issuers, telling us that GBX is exactly the kind of principles-based regulated platform they want to distinguish their offerings from the potential frauds.”
As to timing, he says: “We intend to go live with phase one for utility tokens in the first quarter and hope to be ready to move into tokenized securities in the fourth quarter of 2018.”