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Tokenization To Make $1 Trillion of VC Investments Liquid

05 October 2018 11:58, UTC
Tokenization To Make $1 Trillion of VC Investments Liquid
By Anastasia Ermolaeva

Holders of large capital and institutional investors are increasingly turning to the crypto market in a hope of discovering new income opportunities, as well as solving the problems they face in the traditional financial sphere. Venture funds, which suffer from their investments “sitting” in startups for an average of 3-7 years, are no exception. Representatives of the Luxembourg exchange platform VNX Exchange noted that about $1 trln is held in venture funds without any movement, which reduces the profitability of such investments and the overall efficiency of their holding. In case of a successful performance by the financed project, venture investors receive excess profit, but there is no one-hundred-percent guarantee that the startup will meet the yield expectations and at least return the funds invested in it.

Venture capitalists always play with fire, as in the case of the project failure, they lose all the investments made, which is only a part of their actual losses. By investing for long periods, venture investors miss out on other opportunities to generate revenues.

Cambridge Associates (CA) analyzed the performance of 27,000 venture startups over the past 20 years. The study found that the percentage of venture projects that returned less or the actual amount of capital invested has not exceeded 60% since 2001. Now let’s imagine the worst scenario and assume that out of all the $1 trln of “sitting” investments, 60% of startups will return the amount equivalent to investments, but only in 7 years, or it maybe even worse - when 60% of venture projects will not return anything at all. It may take $600 bln away from the world economy. Obviously, such a scenario is unlikely, but it reflects the scale of possible risks on the venture capital market.

The expediency of investments is also assessed by comparing the combination of the expected percent of incomes, the amount of funds invested and risks to a bank deposit, which does not require any additional resources and the risk of losing money is minimal. Let’s take a key rate of one of the most developed economies in the world with a reliable banking system and analyze the approximate profit made from the alternative to venture investments. In August 2018, the key rate in Singapore, whose three banks are in the top 20 world’s safest banks according to the Global Finance rating, was 1.06%. If we suppose that the annual deposit rate of a Singapore bank is equal to the key rate, in 7 years a deposit of $1 trln can generate a yield of $76.6 bln. Therefore, if the evelatuation of the venture income provides a lower return or higher one, but it will go together with disproportionately high risks and additional spending of resources, such investments can be considered ineffective.

Tokenization of venture projects can be a possible solution to the liquidity problem, which will reduce investors risks and make venture capital assets more attractive. A new generation of tokens, such as security tokens, can provide investors many financial rights: equity, dividends, share in profits, voting rights, buy-back rights, etc. Transactions with tokens are conducted on the blockchain, to which crypto investors get access through their wallets or depositories, registered in a decentralized ledger. "A token is very easily tradable and so it provides liquidity to non liquid assets class", - says the founder of HealChain Kori LEON.

Development tokenization of venture assets is already underway. For instance, VNX Exchange in partnership with the venture fund ADDCAPITAL will issue tokens for $20 mln in order to finance venture projects, create high-yield products, enable earlier venture capital withdrawal and as a whole expand the range of qualified venture investors.

The startup accelerator Startup Bootcamp will be the first to utilize the new solution offered by ADDCAPITAL and VNX Exchange, which implies the possibility of token conversation into shares of venture funds and projects at any time.

Someone will complain that the blockchain is just what the venture capital market needs. The market is growing, and therefore there are no problems to deal with. Indeed, the KPMG report shows that overall the venture market increased up to $155 bln in 2017, reaching its maximum in this decade. Moreover, according to Pitchbook, last year late-stage investments in projects, when startups already developed the product, organized its production and sale, showed an increase of 85%. Currently, venture funds, the average size of which has doubled, have become more selective in the choice of investment subjects, which was the reason for the formation of the trend described above. Meanwhile, the total number of venture capitalists' exits decreased by 27%.

It would seem that such dynamics should solely have a positive impact on the development of innovative startups as well as the entire world economy as a whole, since enlargement of venture funds lead to growth of financing. However, the low liquidity of venture investment means that the funding of new startups is very limited, as well as the size of possible investors revenues, which slows down the growth of the entire global economy.

The initiative to increase the liquidity of venture assets is also supported and promoted by an entrepreneur Keith TEARE. The creator of the Europe's first internet provider EasyNet and venture capitalist plans to launch the global Venture Network ecosystem, the office is planned to be located in the heart of Silicon Valley. Assets of the investors and founders, that have joined this global network, will become liquid after going through three stages of conversion. Venture Network will issue reward tokens for startup founders and investors. The entity will sell 300 bln venture tokens, and proceeds will be directed to the Venture Network Fund, which will make 80% of the assets it has invested in available on the market to its token holders.

Mr. LEON believes that the new investment product, which falls under the concept of a security token, can “change the culture of investing and the fundraising process for entrepreneurs”, namely “simplifying transfer of ownership, lowering costs, improving transparency”. The new model will replace a traditionally slow, offline, not easily accessible and paperwork-intensive process of attracting venture capital. Tokenization will not only eliminate the lack of liquidity, but also diversify risks when investing in startups, giving access to the most profitable transactions to a wider range of people

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