Tokenization May Distrupt Private Equity, and That's a Good Thing

Disrupting Private Equity while maintaining traditional standards seems inevitable, and that day might be dawning now.

Advantages and Drawbacks of Private Equity

Private equity can be a reliable wealth-generation tool, particularly for investors who are interested in becoming involved in new industries but lack the expertise to master an entirely new and complicated market. Private equity firms raise cash from a small group of wealthy investors and use the money to invest in assets (such as companies or real estate). Over a period that can take from five to nine years, firms nurture holdings in the fund before entering a harvest period in which the firm sells off assets, shuts down the fund, and returns capital and profits to investors.

The traditional private equity model eschews the burdens of stockholder governance by working with only a small group of accredited investors, which means that initial buy-ins to the fund are often prohibitively expensive for many would-be contributors. Private equity also suffers from a lack of liquidity. Investors who part with their money do so for several years, as funds get tied-up in the project of improving assets. There’s no way for investors to regain liquidity until the fund starts winding down. The wind-down period is subject to a strict schedule set when the fund is first established, and that schedule often forces fund managers to sell assets before they’re mature or in a lousy market, lessening the funds’ profits.

Tokenized Asset Offerings

ICOs, or initial coin offerings, made so much money in 2017 that they’ve attracted significant interest in 2018 from mainstream investment institutions. The popular messaging app Telegram raised a record $1.7 billion in token sales during its ICO, working entirely through private transactions with accredited investors. Tokens are no longer fringe investment products.

But many newcomers to the crypto world might have significant hesitations over sinking millions of dollars into an ICO, and with good reason. Bitcoin News concluded that 46% of ICOs launched in 2017 had failed by early 2018. Many experienced crypto traders worry that Telegram’s ICO reflects a wild over-valuation, and inexperienced crypto investors who hold onto their tokens for too long will be in for a nasty shock once the market adjusts accordingly.

ICOs offer tokens intended for use on a platform that doesn’t exist yet. Companies (theoretically) use token sales to finance the completion and launch of the platform, though token purchasers receive no legal guarantee that the platform will ever indeed exist as promised. While waiting for the platform to appear, token purchasers and resellers speculate on the future value of the token. Such speculation results in wild price swings and has drawn the attention of the SEC, which claims that these tokens are securities even if they’re intended to be utility tokens eventually.

But a new breed of token sales is emerging in 2018. Tokenized Asset Offerings, or TAOs, sell tokens that represent the fractional ownership of assets, such as real estate, diamonds, etc. Speculation on such tokens’ future values should be much less volatile than ICO tokens because the value of the tokens are backed by real assets and not the promise of creating value through a to-be-built product and company.

While much tension exists in the regulatory and ICO communities over whether ICO tokens are securities or not, TAO tokens are sold as securities. Token sellers comply with SEC regulations right off the bat, lessening any future upheaval when the SEC inevitably expands its involvement in the cryptocurrency world.

Muirfield Investment Partners

Private equity firm Muirfield Investment Partners is poised to change private equity by introducing tokenization solutions with a rumored TAO later in 2018. The firm’s founder, Tom Zaccagnino, started his professional life in tech disruption before moving into private equity real estate and ultimately founding Muirfield. Muirfield realized that tokenization represented an ideal tool to disrupt and improve how private equity works.

Muirfield is rumored to be launching a sale of EVER tokens soon. These tokens represent fractional ownership shares in a real estate private equity investment vehicle managed by Muirfield. Muirfield specializes in opportunistic real estate investments and the investment team has decades of experience in all facets of real estate.

Tokenization solves two of the most prominent drawbacks of the private equity world. EVER tokens’ connection to the central fund is inscribed in the token's immutable blockchain ledger, which means the tokens can be bought and sold on public exchanges while maintaining their ownership stakes. Smart contracts built into the tokens help to ensure regulatory compliance with little if any active oversight from Muirfield, ensuring that token sales stay compliant with regulations regarding investor accreditation and jurisdiction. These factors allow Muirfield to efficiently fractionalize ownership in the fund, far reducing the initial capital individual investors need to participate. Muirfield intends to distribute the tokens to 99 US investors and additional foreign investors.

Token holders who need liquidity can access it by selling their tokens to other investors. Such sales generate cash for the token holder but don’t require Muirfield to sell any assets out of the fund. In fact, the fund never has to close because investors can access liquidity at any time. Without a strict harvesting period, Muirfield can manage the fund with an eye towards long-term growth, selling assets only in favorable conditions and reinvesting revenue in further fund growth.

Blockchain could change private equity for the better. Muirfield Investment Partners’ TAO will lead the way into a better, tokenized private equity sphere.