Original article by Miles Jennings , Scott Duke Kominers and Eddy Lazzarin
Original translation: TechFlow
As activity and innovation in token-based network models continue to increase, builders are wondering how to differentiate between different types of tokens — and which token might be the best choice for their business. At the same time, consumers and policymakers alike are working to better understand the role and risks of blockchain tokens in applications.
To help structure the conversation, we’ve provided definitions, examples, and frameworks to help you understand the seven categories of tokens most commonly used by entrepreneurs: network tokens, security tokens, company-backed tokens, utility tokens, collectible tokens, asset-backed tokens, and memecoins. We outline each of these in more detail below.
Quick Review: Tokens and Their Characteristics
Fundamentally, tokens enable true digital ownership.
More precisely, a blockchain is a decentralized computer made up of a network of individual computers that maintain a shared ledger—effectively a “ computer in the air .” Tokens are data records on these ledgers that track quantities, permissions, and other metadata. Crucially, these data records can only be changed according to the rules encoded on the blockchain, which can be used to grant enforceable rights.
Beneath this precision, there are many details that have an impact on design, functionality, value, and risk: Because tokens are embedded in software, they can be programmed to represent almost anything - any digital form or record of property. This means that tokens can be designed to be digital stores of value like Bitcoin, productive and consumable assets like Ethereum, collectibles like digital trading cards and gaming items, payment stablecoins like USDC, and even digitized stocks.
Some tokens provide various rights to the holder (such as voting rights or economic rights), while others only allow the use of products or network services. Some tokens can be transferred between users, while others cannot. Some tokens are fungible, i.e. all units are equivalent (such as US dollar bills), while others are non-fungible, i.e. they represent unique personal assets (one-of-a-kind, such as trading cards or even the Mona Lisa).
These design choices are important because they determine whether a token is a good store of value or medium of exchange; whether it is a productive asset with intrinsic functionality and/or economic value ; or whether it is inherently worthless. The characteristics of a particular token also determine how it will be treated under applicable law.
Therefore, whether you are looking to build a blockchain-based project, invest in tokens, or simply use tokens as a consumer, it is critical to know what to look for. It is important not to confuse Memecoin with network tokens. The rest of this article is intended to help clear up that confusion.
Token Type
Network Tokens
Network tokens are inherently tied to, and derive their value from, the programmed functionality of a blockchain or smart contract protocol.
Network tokens often have built-in utility; they can be used to operate the network, reach consensus, coordinate protocol upgrades, or incentivize network actions. The networks these tokens are associated with often (and in most cases should) contain economic mechanisms that drive the value of the tokens. These include programmatic buybacks, dividends, and other changes to the total supply of tokens through token creation (“faucets”) or destruction (“sinks”) to introduce inflationary and deflationary pressures to serve the network.
Network tokens can have trust dependencies similar to commodities and securities. Recognizing this, both the SEC’s 2019 Framework and FIT21 provide that network tokens will be excluded from U.S. securities laws when these trust dependencies are mitigated through the decentralization of the underlying network. The core essence of decentralization is that the system can operate without human control (individuals, companies, or management teams).
Network tokens are best used to bootstrap the creation of new networks , distribute ownership or control of a network to its users, and/or ensure that the network can self-fund its ongoing and secure operations. Examples of network tokens include DOGE, Bitcoin’s BTC, Ethereum’s ETH, Solana’s SOL, and Uniswap’s UNI. In the context of smart contract protocols such as Uniswap and Aave, network tokens are sometimes also called “protocol tokens” or “application tokens.”
Security Tokens
Security tokens represent digital forms of securities and can be traditional (such as company stocks or corporate bonds) or have special features, such as providing an interest in the profits of a limited liability company, a share of an athlete’s future earnings , or even a securitized right to future litigation settlement payments .
Securities typically give holders certain rights, ownership or interests, and their issuers often have unilateral power to influence or structure the risk of assets. As the SEC is expected to modernize securities laws to allow on-chain transactions, the number and types of securities that will be tokenized may increase, which may improve the efficiency and liquidity of the securities market. But even as the category grows, digital securities will still be subject to U.S. securities laws.
Security tokens have been used to raise capital for commercial ventures. Examples of security tokens include Etherfuse Stablebonds and Aspen Coin , which is a fractional ownership interest in the St. Regis Aspen Resort.
Company-backed tokens
Company-backed tokens are intrinsically tied to, and derive value from, an off-chain application, product, or service operated by a company (or other centralized organization).
Like network tokens, company-backed tokens may use blockchains and smart contracts (e.g., to facilitate payments). But because they are primarily concerned with off-chain operations rather than network ownership, the company can unilaterally control their issuance, utility, and value. Like utility tokens (described below), company-backed tokens often have their own embedded utility. Unlike utility tokens, company-backed tokens are speculative.
Given these characteristics—while company-backed tokens do not confer clear rights, title, or interest on holders like traditional securities—they have similar fiduciary dependencies as securities: their value is inherently dependent on systems controlled by an individual, company, or management team. Therefore, while company-backed tokens are not securities themselves, when company-backed tokens attract investment, their trading may be subject to U.S. securities laws.
Company-backed tokens could become a legal category. However, they have historically been used primarily in the U.S. to illegally circumvent securities laws—to attract investment in an application, product, or service controlled by a company, potentially acting as a proxy for equity or profit interests in that company. Examples of company-backed tokens include FTT, which acts as a profit interest in the FTX exchange, or a hypothetical cloud service provider issuing tokens that enable holders to access cloud services and receive a portion of the on-chain revenue from such services. Meanwhile, BNB is an example of a company-backed token that evolved into a network token with the launch of Binance Smart Chain. Company-backed tokens are sometimes called “startup tokens” or, given their link to off-chain applications, “application tokens.”
For more information on the difference between Network Tokens and Company-Backed Tokens (including FTT), please read “ Network Tokens vs. Company-Backed Tokens ”.
Utility Tokens
Utility tokens provide utility within a system and are not intended for investment purposes. Utility tokens are often used as currency in the digital economy. Examples include digital gold in games, loyalty points in membership programs, or points redeemable for digital products and services.
Importantly, utility tokens differ from security tokens, network tokens, and company-backed tokens because they are specifically designed to discourage speculation. For example, these tokens may have an uncapped supply (meaning an unlimited number can be minted) and/or limited transferability; they may expire or lose value if unused, or they may have monetary value and utility only in the system in which they are issued. Most importantly, they do not offer, promise, or imply a financial return. Given their inappropriateness as an investment product, utility tokens are generally not subject to U.S. securities laws.
Utility tokens are best used as currency in a digital economy where the issuer gains economic benefits by controlling the monetary policy of that digital economy (i.e. acting as a central bank) and maintaining a stable token value, rather than benefiting from appreciation in the token value. Examples include FLY , which is a loyalty and payment token for the Blackbird restaurant network. Another example is Pocketful of Quarters, an in-game asset that did not receive actionable relief from the SEC in 2019. Robux and Start Alliance Points have not yet been tokenized, but otherwise embody the concept of utility tokens well. Utility tokens are sometimes also called utility tokens, loyalty tokens, or points .
Collectible Tokens
A collectible token derives its value, utility, or meaning from recording ownership of a tangible or intangible good. For example, a collectible token could be a digital simulation or representation of a work of art, music, or literature; a collectible or commodity, such as a concert ticket; a membership in a club or community; or an asset in a game or metaverse, such as a digital sword or a plot of metaverse land .
These tokens are generally non-fungible and often have a utility. For example, collectible tokens can serve as event licenses or tickets; can be used in video games (like that sword); or can provide ownership rights associated with intellectual property . Because collectible tokens are often tied to finished products or products and do not rely on the efforts of third parties, they are generally not subject to U.S. securities laws.
Collectible tokens are best used to convey ownership of tangible or intangible goods. Many (though not all) “ NFT ” products fall into this category. Examples include NFTs that convey ownership of digital art or other media; profile pictures (“pfps”) like CryptoPunks and Bored Apes, and other virtual fashion and branded goods ; gaming items; and account records or identifiers such as ENS domains .
Some collectible tokens are directly linked to physical products, either providing a digital extension of the physical product experience, such as Pudgy Penguins toys and Generative Goods trading cards; or providing a digital representation of a physical good for easy tracking and/or exchange, such as NFT event tickets and BAXUS’s vaulted wine NFTs .
Asset-backed tokens
Asset-backed tokens derive their value from a claim or economic exposure to one or more underlying assets. These underlying assets may include real-world assets (such as commodities, fiat currencies, or securities) or digital assets (such as cryptocurrencies or interests in liquidity pools).
Asset-backed tokens can be fully or partially collateralized and can be used for different purposes: acting as a store of value, a hedging instrument, or an on-chain financial primitive. Unlike collectible tokens, which derive their value from the ownership of a unique good (such as digital art, in-game items, or event tickets), asset-backed tokens function more like financial instruments, deriving their value from their collateral, price peg mechanisms, or redemption rights. However, the regulatory treatment of asset-backed tokens depends on their structure and purpose. Some tokens, such as fiat-backed stablecoins, are generally not subject to U.S. securities laws. Other tokens, such as certain derivative tokens, may be subject to securities or commodity regulation if they represent investment contracts or futures-like instruments.
Asset-backed tokens have many use cases, including:
Stablecoins, which are pegged to a currency or asset;
Derivative tokens that provide synthetic exposure to underlying assets or financial positions;
Liquidity provider (LP) tokens, which represent claims on pooled assets in decentralized finance (DeFi) protocols;
Depository Receipt Tokens, which represent the staked or escrowed assets.
Examples include USDC (a stablecoin backed by fiat), Compound’s C token (an LP token), Lido’s stETH (a liquidity staking token), and OPYN’s Squeeth (a derivative token that tracks the price of ETH).
Memecoins
Memecoins are tokens with no intrinsic utility or value, typically associated with internet memes or community-driven movements, and with no fundamental connection to a network, company, or application.
Memecoin prices are driven entirely by speculation and related market forces and are therefore highly susceptible to manipulation. Their primary characteristics are their lack of intrinsic purpose (if they had a purpose, they would no longer be Memecoins), their lack of utility, and their resulting zero-sum nature and volatility. Memecoins are generally not subject to U.S. securities laws , but are still subject to anti-fraud and market manipulation laws.
For example, PEPE, SHIB and TRUMP.
Not all tokens fit neatly into one of these categories — entrepreneurs regularly iterate and experiment with new models. For example, social and reputation tokens may be more like utility tokens if they are not investable, or more like company-backed tokens if they are controlled by a centralized issuer. Tokens can also evolve from one category to another as token characteristics change or new features are added, making classification difficult.
But the defining characteristic that separates these categories is the expected source of value accumulation. A flow chart helps illustrate this:
(Note: The image is AI translated and has some differences from the original token definition)
Acknowledgements: We would like to thank Chris Dixon, Tim Roughgarden, and Bill Hinman for helpful comments; and Tim Sullivan for editing.
Miles Jennings is general counsel at a16z crypto, responsible for advising the firm and its portfolio companies on decentralization, DAOs, governance, NFTs, and state and federal securities law.
Scott Duke Kominers is the Sarofim-Rock Professor of Business Administration at Harvard Business School , an associate professor of economics at Harvard University , and a research partner at a16z crypto . He also advises several companies on web3 strategy and market and incentive design; see his website for further disclosures. He is also the co-author of the book Tokens of Everything: How NFTs and Web3 Will Change the Way We Buy, Sell, and Create.
Eddy Lazzarin is the CTO of a16z Crypto. He manages the engineering, research, and security teams that support the investment process and work with portfolio companies to build the future of the internet.
