Questions & Answers on Tokenization
1. What is a token?
A token is an accounting unit used to represent a user’s balance in a digital accounting system; it enables proving ownership of a corresponding asset.
2. What is tokenization?
Tokenization is the process of transformation of asset accounting and management in which ownership of each asset is represented as a digital token. The essence of tokenization is to create digital accounting systems for real-world values in order to record and process transactions reliably.
Tokenization implies creation of a comprehensive expandable infrastructure, where assets are exchanged and transferred securely, and audit is performed in real time; operating costs of such a system and the overall time to market are significantly reduced.
Tokenization transforms asset management: a request execution model is changed to a model of direct asset management using cryptographic mechanisms.
3. What are the problems with existing accounting systems?
- Non-transparency of accounting processes, particularly of the modifications history
- High complexity of performing an audit
- Vulnerable to unauthorized modifications
- Lack of secure transfer of ownership
- Lack of fractional ownership
- Lack of reliable secondary markets
All the above-listed problems combined lead to inefficiency of system operation, which are reflected in various factors—one of them is the necessity of manual intervention. This results in additional time and money expenses on audit and insurance.
4. What opportunities does tokenization provide?
- Creation of accounting systems where transaction history can be easily checked
- Reliable audit of accounting system in real time
- Ability to securely transact with assets
- Direct asset management model using cryptographic mechanisms
- Fractional ownership (e.g., tokens issued in the real estate digital registry may be presented as micro-shares (such as square meters) of a particular facility)
- Creation of a secondary asset market
5. Benefits for businesses and users
Tokenization modifies the very mechanisms of asset management: instead of making a request to system operators, a user manages their belonging assets directly through their own digital signature.
The difference of management methods is similar to that between traditional payment systems and Bitcoin. To transfer money through a bank payment, a user gets authorized in a bank and places an order to perform the desired operation, which will be processed by bank employees. To transfer a cryptocurrency, a money owner authenticates a transaction directly, using their own digital signature, which is enough for network participants to accept it.
The idea of tokenization is to apply such an approach to the management of all digitized assets and thus improve the security of transactions, reduce expenses and response time of the system.
Advantages of tokenization:
- reliable audit of accounting system in real time
- storing and transferring assets with a guarantee of authenticity and finality of transactions
- solves the double-spending issue
- protection against counterfeit
- reliable storage of transaction history
- reduction of operational risks
- reduction of time for detection and resolution of disputes
6. What does a token provide to its owner?
The token owner is provided with a legally relevant ownership of the corresponding asset and is also able to quickly and reliably transfer this right to other users, without having to transfer the asset itself. Owners of a token are assumed to recognize the legitimacy and uniqueness of the registry where the record of tokens is maintained; they should also trust the custodian of physical assets (in case a token is backed by any).
7. What is a token at the business level?
Primarily, a token implies a record in the property rights registry that states that an asset belongs to a certain user. Transferring a token “hand-to-hand” means changing the owner of an asset in the registry. In addition, this approach opens up a number of opportunities for trading—an asset can be bought, sold, or donated; the most important here is that you are able to do it swiftly and securely. Why is it convenient? Because real physical assets can be stored locally by the custodian, while the transfer of ownership rights for this asset is carried out within the digital accounting system. Note that you can implement the system in such a way that the provenance (change of ownership) history can be easily traced.
8. How can a token be backed by a physical asset?
Tokenization of physical assets is to ensure the binding of digital tokens to a certain physical asset. For example, it is possible to tokenize the property rights of the entire office center. Due to the possibility of fractional ownership, one token can be equated to one square meter of an office space. Therefore, renting business will transform because there would be a particular number of leaseholders (i.e. companies utilizing the facility for their office) and dozens, hundreds, or thousands of lease providers—regular people who fractionally own an office space and earn their monthly rent profit out of the tokens they have invested in (it can be as less as 1 square meter). The guarantor of token conversion to the actual provision is the office center owner. In such a case, an external auditor confirms updates of an accounting system in real time, while an extra auditor verifies the correct interaction of a token and shares of the office center.
9. How are tokenization and blockchain technology related?
A digital accounting of value prompts a number of risks. It is important to have a system where issuance, storing, and transferring of value is performed with a sufficient level of reliability, efficiency, and transparency for all participants. For this reason, blockchain technology is well suited; security of data is guaranteed by cryptography, while any attempts to violate the accounting rules are particularly apparent to an auditor.