This article assumes the reader has some foundational knowledge regarding blockchain technology and digital assets.
Crypto assets have become wildly popular in recent years and they do not give the impression of slowing down. According to a New York Times article, about 100 cryptocurrencies are created every day and token tracking websites, such as coinmarketcap.com, have thousands listed. As cryptocurrencies and “tokenization” take over, you may be asking yourself how a new token could fit into your business or even whether it could be your business.
The first step in reaching any goal is creating a roadmap of how to get there. This article identifies some of the key considerations that will need to be included in your new token roadmap and breaks them down into three areas: business, technical and legal. While each category is discussed separately below, they are all closely intertwined – as business-related issues are considered, proposed solutions will have implications on the technical and legal analysis of the token and vice versa. With that in mind, the path to a new token’s development may be better described as a “web” than a “map.”
A Word on Tokens
The very first question is whether a token is actually what you are looking for. While tokens and cryptocurrencies are both digital assets and often used interchangeably in conversation, they are not the same thing. Cryptocurrencies are the native token on their own blockchain, while tokens are built on existing blockchain networks using smart contracts. For example, while there may be many tokens existing on Ethereum’s blockchain protocol, Ether is the sole native cryptocurrency on the Ethereum network.
“Tokenization” refers to the process of creating a token that represents some sort of right or asset for whoever holds it. Tokens can represent shares or securities (security tokens), the right to participate in a community or to access specific goods or services (utility tokens), commodities (currencies), uniquely identifiable, authenticated assets (non-fungible tokens), and more. They have applications in a variety of projects and industries, from funding charitable undertakings, to permitting fractionalized ownership of royalty streams or real estate, to facilitating “in game” purchases in video games or virtual worlds. They can be easily divided to permit ownership of a small percentage of an asset or right and, the fact that they operate through blockchain technology and smart contracts, means they facilitate quick, inexpensive, accessible and verifiable transactions. Understanding the opportunities created by the unique characteristics of tokens will help you to determine if developing a token is the right move for your business.
Business considerations are a good place to start on the token roadmap. Asking some big picture business-based questions and then brainstorming how you can achieve the desired results will help you to set the general boundaries of what you want to accomplish. What will your token actually do? How will it assist your business? What is its place in the market amongst the countless tokens already out there?
Once you have determined that a token is the right tool to facilitate your business goals, turn your mind to more nuanced questions and the assembly of your business team. Depending on your budget and the type of token you wish to develop, the early stages in your token’s development might involve adding a business analyst to your team to conduct market research and help delineate key considerations and logistics. You will also need to determine your target user. Successful tokens are backed by solid, established communities that use them. Who will be your community? Are they already customers? Will they be local or international? You Consider coordinating with a public relations firm and marketing experts to plan the branding and launch of your token.
Another key business issue is how you will raise the funds for your token’s development—how will you fund the creation of the actual token, its ecosystem (where applicable) and the project or product it relates to? Few developers will have the requisite funds from the beginning without some help. Start-ups frequently fund their endeavors with private placements, where investors are offered equity in the company at a discounted price in exchange for funding the project. Over the last several years, many projects have funded their development through initial token offerings (“ITOs”). However, these types of offerings have increasingly come under the scrutiny of regulators in North America. Therefore, if you are contemplating an ITO to fund your project it is imperative that you seek legal advice on this process. This issue is addressed further under legal considerations.
Before you can sell your token, you need to create it. Here, the key members of your team are your blockchain consultants and developers who can assist with concretely implementing your vision for your business through technology. Understanding the uses for your token and the rights associated with it will assist in its technical development. Moreover, it goes without saying that if your token represents the right to a particular asset, you not only need to ensure that tokenization occurs, but you will need to ensure that the particular product the token is linked to has been developed as well. Depending on your project or product, this process may require additional technical consultation.
Do you intend to create your own blockchain framework for your token? Or will you use a token standard, such as Ethereum’s ERC-20, to issue your token on an already established blockchain network? If the former, you will need to develop the network, create your own smart contracts from scratch and ensure your token is compatible with pre-existing wallets and exchanges. The smart contracts are where the features of your token and the ways it interacts with the blockchain protocol are programmed. You may also wish to develop your own wallet for holders of your token. If you will issue your token on a pre-existing network using smart contracts, technical considerations are somewhat streamlined as much of the work will already be done. Instead, the central issue will simply be how to actually tokenize your product or service. You will need to coordinate the level of expertise and consultation required from your technical team, depending on what your token will do and how you intend for it to work.
Investors usually wish to review a white paper before any investments are pledged. As your token’s characteristics take shape, contemplate creating a white paper or pitch deck, which sets out the details of what it is, how it works, and its role in the market. This step depends on having completed at least some technical development of your token, though it is also strongly tied to business considerations discussed above.
If business considerations will help you to define the “what” of your token, then technical and legal considerations put the focus on the “how.” Token development raises a variety of legal issues, including some which are unique to the token world and others which are common to any new business venture.
While the crypto space may be characterized by its open-source nature, intellectual property rights are also a key consideration. You will need to determine if you are infringing on anyone else’s rights in pursuing your token and its related project or products. You may also want to register your own intellectual property rights in your work product, whether that is a patent for your product or a trademark for your brand. Moreover, if your token is representative of certain rights held by the token’s owner, clarify what those rights are, how they are conferred and whether you have the right to pass them on through your token.
As mentioned above, securities laws often play a part in the initiation of start-ups because any funding rounds need to be in compliance with the relevant securities regulations. Securities considerations are especially complex and important when planning the distribution or sale of tokens. To date, unlike some jurisdictions, Canada has not developed a custom-made, comprehensive framework for the regulation of crypto assets. Instead, the Canadian Securities Administrators (“CSA”) have chosen to apply existing, traditional securities laws to the crypto asset market. Over the last several years, the CSA have published a significant amount of guidance on how they intend to apply securities laws to the crypto market space and the issuance and distribution of tokens. If you are planning to launch a token in Canada, it is imperative that you have legal advisors who understand and can advise you on how these laws may affect your project.
Tokens may be considered securities under Canadian securities laws in certain circumstances. This is important because it is illegal to offer or sell securities in Canada unless the offer and sale are exempt under provincial securities laws or made pursuant to an effective prospectus filed with the relevant provincial securities regulator in the province where the security is offered for sale. Notably, if your token is a security, a white paper or pitch deck that provides investors with information as to how the token works is not the same as the documents required for compliance with securities laws. The area of crypto asset law and regulation is rapidly evolving, as securities regulators update their policies and interpretations. Therefore, the task of determining if your token is a security, and subject to the restrictions imposed by securities regulators, is likely best left to your legal team. Your legal team can provide an opinion setting out its analysis and conclusions for you to rely on when raising funds for your token’s development and seeking out partnerships with exchanges.
If you believe developing a new token is the right step for your business, you will likely need to work with an interdisciplinary team to make sure no issues are missed and the development runs smoothly. Business, technical and legal questions will be intertwined as you work to define the process. However, the very first step towards your new token is creating a roadmap for each of those considerations and determining the route you will take.
Miller Thomson employs lawyers who specialize in securities, business, intellectual property, corporate and tax law in the context of the crypto and blockchain space and have experience assisting businesses at all stages of token development.