Crowdfunding has emerged as a transformative force in finance. For instance, global equity crowdfunding ballooned to $113.52 billion in 2022 from raising $8.61 billion in 2020.
This explosion shows the popularity of crowdfunding, which is a way of raising capital from a large number of people to finance projects and businesses via online platforms.
Equity crowdfunding, meanwhile, involves selling small equity stakes in a company to a large number of investors, enabling access to a wider pool of investors. By allowing companies to reach a large number of investors, especially those who may not have previously had the opportunity to invest, it lowers barriers to entry.
“From foreign investors to accredited and non-accredited investors, crowdfunding allows almost everyone to invest. Also, it's being used as a kind of like bootstrap to fund subsequent larger raises, not just raise capital and launch under the crowdfunding but under other sub-crowdfunding types of raises as well.”
– Laura Pamatian, Tokenization Project Manager at Upside at Security Token Market's (STM) inaugural conference, TokenizeThis.
This way, crowdfunding allows companies to raise capital with less restrictive requirements and lower minimum investments while enabling investments from retail investors who would otherwise be left out and giving them the opportunity to diversify their portfolio and easily spread risk across a variety of companies and industries.
New Way to Attract the Next Generation
According to Joel Steinmetz, COO and co-founder of Rialto Markets:
“There's going to be trillions of dollars that are transferred to the next generation, which trades and invests differently — they invest with their feet, hearts, and in things they care about, and they want to control their investments.”
So, we should be able to take traditional capital markets to the next generation, which is not traditional. Hence, it needs thinking a lot more out of the box and innovatively in order to create wealth for the next generation and to create new businesses, new opportunities, and new visions in all different industries, he said at the virtual conference.
Crowdfunding is a new way not only for issuers to raise capital and be able to be “entrepreneurial as necessary” but it's also a new way for investors to diversify their investments and “participate in areas that until just a few years ago they were not able to do,” Steinmetz said.
Through crowdfunding, which only came about in 2016, startups have been providing democratizing access to private companies. However, crowdfunding comes with its own limitations. The absence of accountability and regulatory oversight presents the risks of fraud, mismanagement, and more.
Here, the use of blockchain technology through tokenization offers a unique solution to many challenges plaguing crowdfunding platforms. Tokenization is the process of issuing a digital representation of a real-world asset, such as artwork, real estate, or equity in a company, using tokens on a blockchain.
From startups and small businesses to large organizations like BlackRock and JPMorgan, everyone is taking advantage of tokenization to modernize, streamline, and automate many practices of the traditional finance world.
Crowdfunding Meets Tokenization
Tokenization is revolutionizing the crowdfunding market, opening up a world of possibilities for investors and entrepreneurs alike.
Digital tokens can be bought, sold, and traded online through digital asset platforms, much like how stocks are traded on a stock exchange. By making it easy to trade these tokens on secondary markets, it makes capital readily available, which helps companies attract more investors and, at the same time, greater liquidity for investors, as well as the ability to exit positions that used to completely lack liquidity.
Tokenization as a crowdfunding platform is to really give investors a different type of way to interact with traditional kind of equity assets that they've had before, providing more liquidity through secondary trading and also a more tangible way to hold and kind of interact with your investments, said Caitlin Szikszai, investment team member at Republic.
In addition, tokenization enables fractional ownership, allowing shares in a company or real estate to be divided into smaller, more affordable units. This makes it possible for investors to purchase fractional ownership rather than having to buy an entire share. So, while crowdfunding lowers barriers to entry, tokenization completely eliminates them.
“Tokenization plus crowdfunding has the potential to change capital markets,” is how Corey Goodlander, CEO of Chainraise, feels about this combination.
Tokenization's Impact on Crowdfunding
Today, there are many private equity funds, and retail investors have always read about them that everyone's getting rich off of. So, now funds are tokenizing their products so that they can get investments that were minimums of $250,000 to now as low as $25 and $100 because they've been tokenized. On this, Steinmetz added:
“By tokenizing these funds, we're bringing them to the retail segment. So, now this entire fund market that really was designated for PE firms or hedge funds and all those things that retail investors have read about but have never been able to participate in is now being made available for their participation.”
Besides democratizing capital raising through automation, tokenization reduces the costs and complexity of the process, such as issuance, transfer, management, and compliance, making it more accessible for companies and investors. Tokenization also helps increase investor confidence by making it easier to access real-time information and track and verify ownership, hence improving transparency, reducing the risk of fraud, and enhancing trust and security.
Furthermore, tokenization token-gates these processes by only opening the communication channels to those who have made a contribution, enabling them to tap into exclusive perks and content.
Not to mention, tokenization transcends borders, and investors can participate in crowdfunding regardless of their location. By expanding global reach, tokenization enhances the diversity of investors, fostering cross-border collaboration and new investment opportunities.
The Tokenization Frontier
As we saw, tokenization has a lot to offer, and it particularly benefits traditionally illiquid assets, such as early-stage startup equity. But it's not only that, Pamatian of Upside particularly emphasizes on an organization's ability to allow people to invest in an idea they are excited about.
Tokenization allows those who really love and are passionate about the cause to participate in such a project's development, and the idea that they can share in the success is game-changing for the industry, said Pamatian.
Tokens can further be designed with various functionalities, such as voting rights, revenue-sharing mechanisms, or access to exclusive perks. Specific functionalities incentivize investors to actively engage with the company and align their interests with long-term success.
The local business you visit regularly allows you to enjoy extra perks as a token holder of that restaurant. Whether it's preferred seating, discounts, or drinks, having the ability to gain benefits from an establishment you've invested in is a significant advantage, explained Goodlander.
That's important because when you really think about why early-stage investors typically invest in a set company, he added, it's usually because they're connected to that product for a personal reason; at least, that's what I've seen from Angel Investors. So, this way, they're investing into something that they want to use themselves and have a written incentive, something that is literally structured into kind of their rights as a shareholder, Goodlander said.
A New Era of Investment
When it comes to the future of crowdfunding markets, it hinges on efficiency and democratization. What's happening with crowdfunding and with tokenization, in general, is the idea that we're going to make investing in real estate, commercial assets, and others efficient and, at the same time, provide the ability for everyone to really do that, said Pamatian.
Meanwhile, for Goodlander, it's not only about building a good product but marketing it just as well. At the end of the day, we can build all this technology in the world, but if someone doesn't desire the asset that is being offered, all this is for the show. Thus, I hope the future of digital capital raising and tokenization emphasizes the importance of robust digital marketing and building a community, he said.
It is ultimately your responsibility to create that demand in the secondary market, so entrepreneurs must understand that they have to leverage the power of the internet to get people interested, said Goodlander, adding they should do whatever it takes to get people excited to be a shareholder because there's no shortcut around that.
As for what's ahead for crowdfunding markets, Szikszai is particularly interested in the tokenization of real-world assets, which has already started happening and is gaining momentum and interest from TradFi players. For instance, $690.3 mln of total value has been tokenized in Treasuries so far.
Something that's really exciting and moving into a second phase, especially with the tokenization aspect coming into play, is the ability to fractionalize and invest in real-world assets, said Szikszai.
It really does change the game because traditionally, with startups, you have a much longer hold time, and you don't get that immediate liquidity or revenue because startups don't necessarily pay dividends, so it's a pretty long-term commitment that you have to make. But with tokenization, it makes it really easy for investors to get access to those projects with the ability to liquidate their investment quite quickly, an exit strategy, she added.
As it all shows, the convergence of crowdfunding and tokenization brings unprecedented opportunities, which not only empower investors but also entrepreneurs to tap into an efficient and borderless fundraising ecosystem.