ICOs becoming the next goldmine for trade finance lenders

22 Sep 2017

Non-bank lenders looking to ICOs as a source of funds for trade finance lending.

An increasing number of non-bank lenders are looking to initial coin offerings (ICOs) as a source of funds for trade finance lending.

ICOs – also referred to as token sales – are unregulated means of crowdfunding, using cryptocurrency. In theory, through an ICO, you can raise money from anybody, anywhere in the world.

This is done by issuing digital tokens, which in turn gives investors a stake of the company. Early backers are usually motivated by a prospective return on their investment, as a startup’s success would often translate into a higher token value.

For trade finance lenders, it offers access to an unorthodox – and, theoretically, unlimited – pool of investors in a market that is booming. In July, a report by research firm Autonomous found that startups had raised in total a record US$1.27bn in the first half of 2017 through ICOs, while the top four ICOs of the year, according to research firm Smith and Crown, have to date raised US$660mn between them.

However, the market has come under intense scrutiny in recent weeks. Unlike mainstream fundraising activity, ICOs are unregulated. The anonymity of the market and the connections with the dark web have led to fears over money laundering and links to other sinister activity. In September, China banned ICOs outright, saying they left investors unprotected and dismissing the entire practice as “illegal fundraising”.

But while companies in the space say they have heeded the warnings of regulators, it seems not to have dampened enthusiasm for a fundraising model which, if used and managed correctly, can be much quicker and more efficient than traditional channels.

Trade finance ICOs
The trend of trade finance ICOs is already underway, with invoice financing company Populous raising US$10mn in this manner in July. In fact, the startup sold out of its customised tokens in just five days.

GTR has spoken to a number of other companies in the process of arranging ICOs as a means of kickstarting their own lending operations, with the eventual aim of attracting institutional investment further down the line.

Harveen Narulla is the CEO of Kommerce, a Singapore-based startup that will launch an ICO in October, with a view to raising US$30mn to US$50mn by the end of November. The proceeds will help fund a three-year programme of financing highly-liquid, fast-moving commodities such as cooking oil, coffee, sugar and rice into Africa.

Narulla is also the founder of Pan-African Logistics, a company that brings the same sorts of goods into Africa. He has seen the pain point, and thinks an ICO will provide Kommerce with the start-up capital to support small trading companies on a continent starved of bank debt.

In Moscow, meanwhile, ModulTrade CEO Evgeny Kaplin is gearing up for another token sale in October – which is set to be a busy month for the nascent market. He hopes to raise US$15mn to support the creation of a blockchain-based smart contract platform and to launch an SME lending solution in three EU countries.

“We will use MTRc – the ModulTrade token distributed during the token sale – to provide financing to SMEs to facilitate trade. Thus we will help solve the main problem for SMEs in trade – lack of financing.”

A former trade finance banker with Sberbank, Kaplin says the demand for SME financing is not being met by mainstream channels. This is a common theme among those interviewed for this report. Each has identified a gap in the SME lending market. And each has landed on an ICO as a way of solving this problem.

A minefield of risk
Each of the companies is also aware of the risks involved. They say that regulation of the nascent market is important and welcome the increased scrutiny from regulators. It will, they say, separate the “Mickey Mouse projects” from those that are worthwhile, and if regulation is enforced, give them clear parameters and boundaries to work within.

Understandably, legal experts are looking at the market keenly. Jolyon Ellwood Russell, a trade finance partner at Simmons & Simmons in Hong Kong, tells GTR that he is getting calls about ICOs and alternative fundraising, but has yet to see real movement in the market.

We are seeing more and more platforms using bitcoin and other cryptocurrency as either a conversion platform in order for the ability to send money or even as a medium to settle payments for goods and services. Therefore, the extent to which such a platform provider can ICO against their particular technology then this might do very well. What might be more exciting is in the world of invoice exchanges. What we might see are players issuing their own coins or cryptocurrency linked to the purchase of invoices sitting on an exchange thereby creating a larger liquidity pool,” he says.

Regarding the risks involved, he is unequivocal: “There are inherent risks on the general unregulated nature of ICO. There is of course the sources of funds and financial crime issues. Bitcoin has not had the cleanest of reputations and given the mammoth appreciation recently, some regulators are monitoring whether ICOs might be an easy means to profit from illegal bitcoin accumulation and diversify into legitimate businesses.”

The other risk is regulatory, Ellwood Russell says. The law looks at substance over form. If the substance falls within an offering to the public and in return shares or an interest in the company is issued, then this is regulated as any stocks and shares market. “Whatever it might be called in techno-speak, if it looks like a duck and sounds like a duck, it usually is.”

There are, of course, ways in which one can mitigate this risk. ICOs are conducted on exchanges, which have varying degrees of scruples. In Hong Kong, Gatecoin has emerged as one of the more reputable, recovering strongly from a hack last year in which it lost US$2mn in cryptocurrency.

Will this come from ICOs? The volumes discussed thus far are miniscule when stood next to the market gap. However, any legitimate source of funding should be encouraged (with “legitimate” being the operative word). The market is developing extremely quickly, with problems and opportunities revealing themselves daily. What’s clear is that this trend will not abate any time soon. Regulators should act quickly to ensure the potential is not lost, while those interested should tread carefully and choose their investors with extreme care.

This article first appeared in Global Trade review on 22 September 2017. To read the full article click here.

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