Case Study: 22X Fund
There are four publicly known cases of digital securities offerings issued from Cayman Islands: ReitBZ, 22X Fund, BR11, and La Estancia Holdings. In this study, we will review the 22X Fund.
22X Fund represents an investment in 30 early-stage startups, in each of which the fund owns up to 10% stake. The proceeds from liquidity events are used for token buybacks. The goal of the project is to enable access to venture-type deals for smaller investors. The investment minimum at the main sale was $50k in the US and $5k in the rest of the world. This is one of the earliest offerings of digital securities.
The fund follows the traditional venture model of investing in multiple companies from multiple “hot” industries to diversify the risk. Startups are chosen among Batch 22 of 500 Startups Global Seed Accelerator Program. The acceptance rate into the Batch is ~2%, which ensures a relatively high quality of startups and further reduces the risk.
The fact that investments are made into predetermined companies justifies reduced management fees compared to conventional VC funds. Instead of annual management and performance fees, the percentage of tokens issued is taken as a one-time fee. More specifically, as outlined in the whitepaper:
“22X agreed to issue to the Investment Manager 2% of the Total Number of 22X Tokens (as defined below). In addition, 1% of the Total Number of 22X Tokens will be issued to 22X’s director(s) and/or members of its steering committee and other advisors, and 2% of the Total Number of 22X Tokens will be held by 22X in reserve for possible future issuance to brokers and other third parties. The Investment Manager also received a one-time advisory fee equal to 2% of the net asset value of 22X following the closing of the Offering”.
The fund targets 6.6x returns over 10 years, the fundraising goal was from $10 million to $35 million. It is unclear how much the fund eventually raised as there was no official announcement, and numbers from various sources range from $2 million to $22 million.
Pre-sale of the 22X fund lasted from January 26 to March 9, and the main sale from March 9 to March 23, 2018.
The offering is structured the following way. A closed-end investment fund “Batch 22X Ltd.” is registered on the Cayman Islands. It is not subject to any regulation or corporate tax except an annual fee of $850. Investors are offered an interest in Batch 22X Ltd but have no voting rights or rights to influence fund decisions. The fund belongs to another Cayman Islands company 22X SPV Ltd., which is owned by natural persons, some of who are also fund and management company directors.
The fund is managed by the investment management company “Securitize Capital LLC”, registered in Delaware, USA. Based on contractual arrangements, it gets 3% of all tokens issued, 2% of funds raised and circa $200k annually.
From the taxation perspective Batch 22X Ltd. is considered by the US competent authorities a passive foreign investment company (PFIC). In order for the fund to avoid being qualified as conducting trading or business in the US the investment company does not invest directly, but through the so-called “blockers” or “blocker corporations”. They are US tax residents that pay taxes in the US and relieve the fund from excess taxation and related Hedge Fund registration requirements. Blockers are subject to a 30% withholding tax when paying dividends.
Although the Cayman Islands impose no income tax, there are no double taxation arrangements, for which reasons investors are subject to full income tax in their respective jurisdictions.
The offering was not registered in any jurisdiction except filing a notification form in the US under Rule 506C of the regulation D.
The main reason-to-believe (RTB) for the offering was the high-quality of projects, reinforced by 500 startups brand. The main narrative behind the offering is the disruption of the venture capital by making it more accessible and efficient.
The main sources of the website traffic were direct search and organic search, which indicates low investment in advertising. The biggest share of the visitors was from the US (21.52%), which is followed by Switzerland (10.22%), UK (7.73%), and other European countries.
Generally, media investment was not very significant as well, although 22X benefited significantly from being one of the first-movers. There are about 12,000 pages mentioning the 22X Fund on the web. Most publications are discussing the rise of digital securities in general, and only mentions 22X as one of the prominent examples. They were posted 20180–2019 with no definite peaks. Only a few of the publications that date back to Q1–2 of 2018 are dedicated specifically to the 22X offering.
Despite the lack of a clear answer regarding the offering results, it is entirely possible that 22X Fund was a successful offering that raised $22 million given that it was one of the first offerings of digital securities, which at the moment had high interest from former crypto investors that lost money investing in non-reliable projects. Another factor is a strong underlying project, which is something many following offerings lacked. However, it is unlikely that another project will be able to make a successful offering without substantial marketing investment unless having predetermined relations with interested investors or being one of the first-movers leveraging certain hype.
The structure of a closed-end fund was probably chosen due to the absence of regulation of those in the Cayman Islands. A lesson to be learned by the prospective US issuers is that blocker corporations may be used as a vehicle for tax optimization.
The narrative of facilitating access to venture investment is the promise delivered, and the example may be reproduced. Investments with limited access mostly have the highest yield, which generates significant retail interest in such them that may be leveraged by existing private equity funds or hedge funds in cooperation with a reliable technology partner.
What is Stobox
Stobox is a provider of multiple professional and technology services related to securities operations with a strong focus on fundraising.
Stobox operates a technical platform for the management of a full lifecycle of digital securities, i.e. primary offering, secondary transfer, investor identity verification and risk assessment, shareholder register maintenance, dividends payment, processing of corporate actions, and corporate governance. The platform utilizes private ledger with banking-level security to provide resilient infrastructure with a certain legal status.
Stobox provides a range of legal management services to structure the offering of securities: the definition of the best-suited jurisdiction and corporate structure, formation of the corporate structure, preparation of the necessary documentation, including Prospectus or the offering memorandum. Stobox has a network of legal partners in multiple jurisdictions and conducts all the management and communication so that the client could have a single provider.
Stobox provides marketing strategy development and execution services in order to enhance the odds of the successful offering and optimize marketing budgets, which often constitute the largest cost of the offering. The marketing expertise is based on the analysis of multiple offerings of digital securities, which allows Stobox clients to avoid widespread mistakes.
Stobox Feasibility Assessment service provides a holistic view of the offering to see whether offering a suitable option for the given business on a given stage, what type of offering is the best fit for the business objectives, what marketing campaign would work best and how to manage potential risks.