THE HOT NFT MARKET
Non-Fungible Tokens, known as NFTs, recently made headlines with
sales of individual tokens valued at millions of dollars,
comparable to sales of fine art. Christie’s- a
“conventional” auction house – sold its first NFT, the
piece “Everydays: The First 5,000 Days” by the artist
Beeple – for a staggering $69 million.1 Most NFTs
sell from merchants without such established reputations. Traders
should understand the value of intellectual property, or lack
thereof, tied to NFTs.
HOW NFTS WORK – A BRIEF OVERVIEW
NFTs are digital certificates, or “tokens” stored on
decentralized ledgers popularly referred to as the blockchain. NFTs
use software code, referred to as “smart contracts,” to
transfer the digital certificate of ownership, ensuring proof of
ownership in the process. Like cryptocurrency, NFTs also use the
blockchain to record transactions, but where cryptocurrency creates
interchangeable (or “fungible”) tokens, NFTs create
unique, noninterchangeable tokens with distinct identifiers.
The non-fungible nature of NFTs offers particular advantages.
NFTs can refer to tangible or intangible assets and
commonly represent digital media such as images
or videos. NFTs often do not include the digital media itself in
the blockchain. Instead, the unique identifiers in the tokens point
to a storage location of the media, with the blockchain serving as
proof of ownership and a medium of transfer.
THE VALUE OF COPYRIGHTS
17 U.S.C. §§ 101-122 defines the scope of U.S.
copyrights. Depending on the nature of the work, copyrights provide
the exclusive rights to reproduce the work, prepare derivative
works, distribute copies of the work, publicly perform the work,
and publicly transmit the work. To transfer a copyright, the owner
usually must sign a writing as required by 17 U.S.C.
§ 204.
By nature, copyrights exclude others from the market and have
inherent monopolistic value. For example, the owners of a
blockbuster movie may license the right to show or view the movie
at high prices by excluding others from showing the movie at lower
prices.
WHAT COPYRIGHTS DO NFTS TRANSFER?
Most NFTs do NOT claim to transfer any
copyrights. A party purchasing an NFT should
generally NOT assume that an NFT comes with any
copyright without receiving the signed writing required by 17
U.S.C. § 204. Parties should seek legal advice on the exact
scope of rights transferred in any copyright sale.
For example, some NFTs use the erc721 standard. This standard includes the
following code comments about an NFT transfer event:
This code refers to “when ownership of any NFT
changes,” but ownership of
a token generally differs from ownership of
a copyright. Any party seeking to write or verify
code for transferring copyrights should consult an attorney about
compliance with the statute of frauds.
As another example, the popular CryptoKitties NFT
code2 includes different language purporting to
transfer “kitten ownership,” without mentioning
copyrights:
Some NFT merchants include copyright language in their terms and
conditions rather than in the source code of the smart contracts.
The NFT-based horse racing game ZED includes the following language
in their terms and conditions:
Because these terms purport to grant a limited license “to
use, copy, and display the Art” for three purposes, ZED’s
NFTs may have copyright license value.3
WHAT OWNERSHIPS DO NFTS CONFER?
Without other arrangements, an owner of an NFT owns only
the token itself.
Owning an NFT can compare to owning a collectible card, such as
a rare baseball card or rare Pokémon card. Like a card, an
NFT is a token that represents an item. Owning
a token or card confers no
ownership or rights in the represented item.
For example, an owner of a Babe Ruth baseball card owns only a
physical paper card with artwork showing Babe Ruth. The card owner
does not own Babe Ruth, nor does the card owner have any right to
make Babe Ruth play baseball for a particular team. The owner of a
Pikachu Pokémon card owns only the physical paper card with
artwork. The owner of the Pikachu card does not own a real-life
Pikachu, nor does the card owner have the copyright to create a
derivative anime cartoon showing Pikachu’s likeness as a
character.
In the same way, absent other arrangements, an owner of an NFT
owns only the token itself but not the
underlying item or any related copyright.
WHY DO NFT’S HAVE VALUE?
Despite not usually transferring any copyright, NFTs derive
value in other ways. NFTs commonly derive value from scarcity,
collectability, and authenticity. The NFT may also derive value
from the item that the token purports to represent.
These properties make NFTs comparable to collectible cards or
fine art. The authentic Mona Lisa would sell for millions of
dollars in part because of its scarcity. Leonardo da Vinci will
never paint another. A poster copy Mona Lisa at the Louvre’s
gift shop, although visually identical, will sell for a few dollars
at most because of the lack of scarcity and authenticity.
NFTS WITH UTILITY VALUE
Though NFTs commonly represent art, some NFTs have digital
“utility.” These NFTs give owners rights to perform
certain actions on a blockchain.
For example, the online horse racing game “ZED” sells
such tokens. The ZED website4 explains that
ZED is “a digital horse racing game where players can
build a stable of racehorses by buying, breeding, and racing
digital racehorses.” Buyers purchase NFTs that represent
digital “horses.” Each digital horse has a breed, blood
type, and other characteristics affecting racing potential. These
digital horses race against other horses in digital races. The
characteristics of the horses directly correlate with the outcome
of the races – with some horses being better geared towards
particular race lengths and starting positions. ZED’s
terms5 explain that:
The value of this NFT derives partly from its utility in
addition to scarcity and collectability.
VALUE TO CREATORS
Some NFTs include a structure for automatically collecting
royalties each time a sale of the NFT occurs.6 For
example, an artist of a work represented by an NFT may receive a
10% royalty each time the NFT sells on the blockchain.
COMMON NFT RISKS
Any party purchasing an NFT should conduct due diligence of
authenticity. An art collector seeking to purchase the authentic
Mona Lisa would only buy the painting from the Louvre, verify its
authenticity, and verify title to the painting. Collectors of rare
cards will look for signs of fakery.
In the same way, NFT purchasers should conduct similar due
diligence for high-value purchases. Authenticity remains a big
concern. For a low transaction fee, anyone can create an NFT that
purports to represent something important (such as the Mona Lisa),
but these NFTs have no authenticity or scarcity, and thus have low
value. If, on the other hand, the Louvre created one and only one
NFT for the Mona Lisa, then the Louvre’s NFT will have more
value. Internet transactions that hide the identities of sellers
make verifying authenticity difficult.
NFTs remain a new technology in a fast-changing market. The
extent of copyright and other law’s application to this new
technology remains unsettled. NFT traders should understand the
latest technology, market conditions, and applicable copyright law
when engaging in NFT transactions.
Footnotes
1 Beeple’s masterwork: the first purely digital
artwork offered at Christie’s | Christie’s (2021),
https://www.christies.com/features/Monumental-collage-by-Beeple-is-first-purely-digital-artwork-NFT-to-come-to-auction-11510-7.aspx
(last visited Apr 16, 2021).
2 Beeple’s masterwork: the first purely digital
artwork offered at Christie’s | Christie’s (2021),
https://www.christies.com/features/Monumental-collage-by-Beeple-is-first-purely-digital-artwork-NFT-to-come-to-auction-11510-7.aspx
(last visited Apr 16, 2021). Nothing in this article should be
interpreted as a statement about the validity or scope of rights
granted.
3 ZED RUN: Digital Horse Racing, https://zed.run/terms
(last visited Apr 16, 2021). Nothing in this article should be
interpreted as a statement about the validity or scope of rights
granted.
4 Frequently Asked Questions, ZED RUN: Community,
https://community.zed.run/faq (last visited Apr 16,
2021).
5 ZED RUN: Digital Horse Racing, https://zed.run/terms
(last visited Apr 16, 2021). Nothing in this article should be
interpreted as a statement about the validity or scope of rights
granted.
6 Non-fungible tokens (NFT), ethereum.org,
https://ethereum.org/en/nft, (last visited Apr 16,
2021).
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.