Words by Marcelo Garcia Casil

Cryptocurrencies and blockchain technology seem to go through hype cycles, and I’ve noticed that asset tokenisation is the latest hype. I wanted to share my thoughts about it because, at Maecenas, we’ve been working on fine art tokenisation for a few years now, way before the word “tokenisation” was coined (no pun intended).

We are building a decentralised gallery, democratising access to fine art investment. What we do is

“…divide up masterpieces into many fractions, creating financial units that can then be traded efficiently and transparently on our Blockchain-powered platform.”

It basically means that fine art will no longer be the privilege of the super-rich. Owning a piece of a Picasso will now be so much more affordable.

But there clearly has to be a process to achieve all this. So how do we do it?

When I go to events and people see me presenting Maecenas, one of the questions that I’m frequently asked in the Q&A is: “How do you link the tokens to the actual artworks?”

And this is the key question that everyone running a blockchain start-up claiming to tokenise any asset should be able to answer. What is asset tokenisation really, and what do companies mean when they claim that they’re tokenising assets?

Before going further into this topic I wanted to make the distinction between two types of tokens that exists, and that it may not be entirely obvious to everyone. I call them soft tokens and hard tokens.

TL;DR; Tokens representing fractions of assets are worthless without a legal contract that gives those tokens bearer rights over the underlying assets.

Soft Tokens

Tokens that are digitally native and have no representation of an asset, either physical or intangible, are by definition confined to the chain in which they exist. The prime example of this is Bitcoin. When you own Bitcoin, you don’t own any claims on anything that belongs in the non-digital world. There is no collateral behind each Bitcoin, you can’t really redeem them for an underlying asset, and it doesn’t give you any rights to claim anything against it. Yes, you can use Bitcoin to purchase a cup of coffee, but the merchant accepts your Bitcoins at their own discretion since they have no legal obligation to take your Bitcoin and give you coffee. Bitcoin, therefore, is a soft token as it’s confined to its own chain and has no rights outside the blockchain.

Ethereum, another prime example, is a soft token. If you own Ether you can use it to pay miners to execute your smart contract code. But you can’t use Ether to claim some of the equipment used in the computation, or to demand to visit the facilities used by the miners to run your code. Ether has no rights outside of the Ethereum blockchain. It is confined to it.

Storj, Golem, Sia, and many others are also examples of soft tokens. These tokens derive their value from the features that their chain itself offers. When you own a soft token, in a way, you own a fraction of the value of the blockchain in which the token exists. The Bitcoin blockchain allows people to transfer money electronically without intermediaries. That’s its value. The market cap of Bitcoin, in a way, represents the value of P2P electronic money represents to its users. The more users Bitcoin has, the greater its value is.

Soft tokens could be seen as “prepaid API keys” which create a tacit on-chain service agreement between the service provider and the token holder. The understanding is that as long as that chain exists the token can be redeemed for the service it provides.

Hard Tokens

The concept of hard tokens doesn’t just apply to physical things. You could have a hard token that gives you rights to rent a bike. Riding a bike is a service, not a physical thing. Yet this “bikecoin” gives rights to the bearer to access a bike riding service for certain time. The token has claims outside of its chain and therefore it’s not confined by it.

When we talk about rights in the real world, we are effectively talking about laws. Contracts, a word often misused in the blockchain world (i.e. smart contracts), create legally binding obligations between two or more parties. For “bikecoin” to be a hard token, there needs to be a legal framework behind it that gives real world rights to the bearer to ride a bike. Either the company issuing the coin, or the company owning the bikes, has to have a contractual obligation with the token bearer to transfer the bike riding right to them. Without this legal framework, bikecoins would actually be soft tokens, meaning that the bearer may be refused access to the underlying service at any time and without prejudice. If the blockchain in which bikecoin resides offers no on-chain service, then bikecoins are no more than a tokenised gentlemen’s promise. Therefore, in financial terms, the price of bikecoins must be adjusted to the risk of that promise not being fulfilled.

Who provides this legal framework, in which jurisdictions it applies, who is the counterparty of the legal agreement and what recourses you have as a token holder are all questions that you should be asking if you are thinking about buying hard tokens.

Asset Tokenisation

Now that we understand the distinction between soft tokens and hard tokens, the topic of asset tokenisation becomes much easier to digest. To tokenise an asset, really, is to tokenise a legal contract.

I am often asked what has been the hardest thing about building Maecenas. People expect the answer to be the tech platform, the art logistics, or the access to liquidity. But really

“…the most challenging aspect that we had to overcome was the legal part.”

In fact, this has now become one of the most valuable resources that we have created at Maecenas. (My lawyer friends will feel proud when reading that!).

Asset tokenisation is very much a legal issue. When people talk about tokenising, for example, real estate, and having a token that represents a square meter of a house somewhere, really what they should be saying is that they own a fraction of a contract that gives them rights over this house.

Let me put this in bold because it’s really important:

“You can’t tokenise an asset if you don’t have a tokenisable legal contract behind it.”

It’s all well and good to say that you will issue tokens backed by gold, tokens backed by real estate, or your asset of choice. But tokens are worthless without a legal contract that gives those tokens bearer rights over the underlying assets.

If you hold tokens of some tokenised asset, but they’re not hard tokens, you don’t really own the asset and you have no rights whatsoever over such an asset.

A global marketplace like Maecenas where asset owners, legal structures and investors could all be domiciled in different locations creates a cross-jurisdictional regulatory scenario that is actually fairly complex (and expensive) to resolve.

Asset tokenisation is primarily a legal exercise that in a way resembles a securitisation process. Anyone can create tokens and make any promises over them, but very few will go through the effort of identifying and designing the required legal framework behind it to harden the tokens and legally bind them to the asset.

So, next time you get excited about the latest and greatest project that “tokenises everything”, I suggest that you inquire about the legal side, and if you don’t get a very compelling and concrete answer then you should stay away from it, as far as you can.