Real Estate Tokenization – an introduction

The  real  estate  asset  class,  including  residential,  office,  retail,  industrial  and  other  alternative  properties,  represent  together  the  largest  asset  class  globally only  behind  the  debt market.  The  real  estate  industry  has  been  traditionally  conservative  and  slow  to  incorporate  innovations  and  technology  developments. Visionary  startups  like  Airbnb  disrupted  the  sector  of  hospitality providing a new productivity boost to existing real estate assets for millions of owners around the globe.  That was a few years ago already…. But more recently, the blockchain  has started to offer new level of benefits  and  potential  disruptions  to  the  real estate  industry  as well. It might have an impact orders  of  magnitude  potentially similar to  Airbnb or bigger. Those  who  realize that  and  act  now  will  harness  the  benefits  and  profits  of  this  real  estate  disruption  with  blockchain  technology.

The  barrier  to  entry  is  and  has always  been  high  in the  real  estate  industry due to both the technicality of the underlying assets and the minimum investment amount required. Retail  investors have  access mostly to  the  residential  sector  or  to  REITs  composed  of  a  basket  of  assets  that  these  investors cannot choose or select individually. Similarly, asset owners have traditionally financed their projects through debt with banks.

Tokenization  of  real  estate  assets  is  a  new  concept  enabled by the blockchain  technology.  There are several approaches. The idea we present here is to  issue tokens that represent digitized asset backed by the real estate asset itself. Real estate  assets  can be a building, or an iconic landmark, while  the  tokens  representing  these  assets  will be issued, managed and exchanged thanks to the blockchain. In a simple analogy, think of shares of a company you trade on the stock exchange via their symbol: apply concepts similar to real estate.

Simple enough? Let’s keep reading …


Real Estate Tokenization – what does it mean practically?

The key promise of real estate tokenization is to unleash  new  investment  strategies, opportunities,  and to open the  assets to  retail  investors  by  lowering considerably the  barrier  to  entry.  It is our opinion that the  real  estate  asset  owners  who  realize  about  this  potential  will  have  a  significant  advantage  over  their  competitors in the coming years. For  individual  real  estate  assets,  tokenization  offers  many  benefits.  Firstly,  by  tokenizing  an  asset  with  blockchain  technology,  a  global  pool  of new investors  could  be  accessed. Potentially it decreases  the  time  and  costs  needed  to  raise  funds  and  it  could  also  help  to  raise  larger  amounts.

To  describe  the  advantages of tokenization, we will briefly look at both Asset Owners and Investors.

For Asset Owners, a full capital and profit could be released on day one of the token sale with no sales discount or traditional sales fee (2-3%) whilst retaining full ownership of the properties. Tokens can be used to synthetically sell a portfolio of units in new/existing buildings. Units are owned, let and managed by the asset owner, still, for the term of the token. Potentially, there are unlimited upside capital appreciation potential with limited potential downside exposure. The token provides the ability to synthetically resell and capture optimum profits on the underlying assets based on strategic timelines and milestones in the developments. Additionally, when used as a debt instrument for new developments, the asset owner is not exposed to fluctuations in Libor and can lock in financing costs over a multi-year period.

For Investors, a previously inaccessible asset is now at reach. While  REITs  provide  certain  advantages  and  facilitate  the  access  to  real estate assets,  they  also  have  large  limitations. REITs  are  usually  composed  of  a  basket  of  assets  and  investors  are  forced  to  invest  and  get  exposure  to  the  whole  basket  of  real  estate  assets. With tokenization, investors chose the token that gives them access to real estate asset they most believe in. The  locking  period  for  investors  would  be  considerably  shorter  than  in  traditional  real estate investments. Investors  would  be  connected  continuously  and  almost  instant compliant trades  would  be  possible  on  the  secondary  market. The  liquidity  in  real  estate  is  a concern  especially  outside  the  most  liquid  cities  like  London for  example.

Regarding  the  disadvantages  or  limiting  factors,  these  mainly  involve  the  fact  that  it  is  a  new  technology  and approach. The infrastructure required is globally new at the time of writing this article. Infrastructure means both the regulatory (how to formally link a token representing a digital asset, to the real world … and make it enforceable?)  and the technical side: how to ensure that digital trades of token fulfill regulatory requirements while at the same time protecting traders’ identities and assets? Detailing these points is certainly subject to a deeper discussion and will not go there today. We anticipate that the major players in the trading infrastructure space, such as SIX, Deutsche Boerse, or even Gibraltar, will be delivering solutions up to the market’s expectations.

Example Real Estate Tokenization – refinancing real estate debt

Let’s consider “Jumbo Beach Resort”, a beautiful, iconic resort with all features you expect from world-class assets of this kind. Jumbo Beach Resort is a real estate construction that is about to be released on the market. The construction company (asset owners) “DevCo” has significant debt with banks for the financing of the project. Now, The board of Directors at DevCo take the strategic decision to benefit from tokenization to refinance their debt backed by the construction through the issuance of a token (the tokenization process). From this point onwards, DevCo hires a professional services firm to take the process forward. First, the token is designed as a bond, from business perspective. The Token is then aligned with a selected regulation and its authority (in our case, let’s assume this is FINMA in Switzerland). The discussions with the regulator move on well and an investment prospectus is issued, linking the token with a newly created bond backed by the real estate asset. That’s a critically important regulated aspect of the process: the operation is recognized by an established financial authority. Now, a proper corporate and tax structuring allows DevCo (which is based outside of Europe) to benefit from a tax-friendly environment such as Luxembourg or Liechtenstein for cash repatriation and portability to an international pool of investors. This in turn provides a EU-domicile to the deal. Last but not least, as a regulated token, the next steps is to find a suitable trading venue. It allows (1) to get access to the largest possible pool of investors and (2) have the right infrastructure for delivering on compliant trades (blockchain protocol for security tokens, trading, settlement, custody). On this last point, several forward-looking EU-based exchanges are now preparing the ground for trades in 2019 already including SIX (Switzerland), Gibraltar GSX, Malta, Deutsche Boerse and a few more. An investor roadshow and awareness allows to raise sufficient subscription of the token and there you go, the token is live! After the sale to primary investors, the deal is closed and cash repatriated to DevCo.

Sounds simple? It’s actually not …. but our company strives to make it simple for our customers to focus on the business value and outcomes, while we do the heavyweight lifting for you.

Thanks to Hector Sanchez Casas who contributed to this article with his research

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