Non-fungible tokens (NFTs) have been around since at least 2014 but have yet to really come into their own. Digital artworks and virtual cat-breeding (see below) may attract clickbait headlines but represent slightly trivial use cases and are nowhere near what we can ultimately expect of NFT technology.
NFTs are unique, unalterable entries on a blockchain which can be used as ‘virtual title deeds’ to verifiably identify and track specific objects (virtual or real). NFTs can record and guarantee provenance and value-add along a supply chain, allowing businesses to trust the identity, origin, and other specifications of a commodity. Combined with smart contracts (which can trigger automatic payments or other responses on the occurrence of future events), NFTs offer a significant degree of protection against counterfeiting and other types of fraud.
In our previous article, we picked up on the recent surge in interest in NFTs among artists, art dealers and commentators, and discussed how intellectual property rights interact with NFTs. We chose to focus specifically on digital artworks, but is there more to NFTs than Beeple?
As NFT technology becomes adopted by mainstream industry, it will increasingly be found behind all manner of applications, permitting automatic verification and security to be hardwired into commercial and consumer transactions. At some point, NFTs are likely to stop being newsworthy and will instead become an accepted but vital part of everyday life, much like the historical transition of the internet itself from novelty to utility.
NFTs will enable businesses and individuals to acquire and protect value in real-world and virtual objects. Themes of authenticity and ‘DeFi’ (decentralised finance) are common to many blockchain use cases, including those discussed below. So, leaving aside the current hype over digital art, what other use cases are being explored for NFTs?
By attaching NFTs to physical goods, an additional level of guarantee can be offered to distributors and consumers to prove that the goods in question are the real deal. Examples might be NFT-enabled eartags for premium beef cattle, allowing each animal to be tracked from ‘farm to fork’ with total accuracy. Likewise, shipments of commodities (e.g. grain, iron ore or water) can be assigned a unique NFT so their progress through the supply chain can be reliably traced.
NFTs can help prevent ‘leakage’ of genuine goods along the supply chain, as well as stopping counterfeit goods being introduced or substituted. They can also be utilised to guarantee specific characteristics of goods, such as methods and circumstances of production. Several fashion houses are looking to use NFTs to assure their customers that pieces have been manufactured sustainably and ethically, and the gemmological industry is exploring the use of NFTs to restrict the sale of ‘blood diamonds’.
As a fundamental aspect of blockchain, this concept is, in principle, scalable down to the level of individual items. Although the state of technology and the relatively high transaction fees for updating NFTs mean that such use cases are currently viable only for high-value assets, we can expect to see diamonds with NFTs linked to unique laser-engraved serial numbers, bottles of fine wine with NFT-enabled QR codes, or sports cars with vehicle identification numbers backed by NFTs.
NFTs can also be used to enable fractionalised or micro-investment in such assets, where an individual acquires a small share in a diamond, an artwork, or a plot of land, to name a few. This might seem somewhat counterintuitive as it effectively undoes the non-fungibility of a NFT by rendering its fractions fungible! However, there is a growing market for such things and, while it is still at a very embryonic stage, financial authorities around the world are working to extend their regulatory regimes in order to cover the new risks and opportunities presented.
Many of us are still happy to accept a formal-looking certificate at face value, but the sale and use of fraudulent qualifications is widespread. In an era of hard-copy documents, the question of authenticity and security was traditionally addressed by using special paper, unique seals, holograms, and wet-ink signatures. None of these translates satisfactorily to the digital world, but NFTs are perfectly designed to verify electronic information, increasing efficiency, and reducing the administrative burden of keeping and checking records.
CryptoKitties, a game run on the Ethereum blockchain, was one of the first commercial use cases for NFTs. It allows players to ‘breed’ virtual cats, selecting sires and queens for specific traits much as in the real world. Animals with proven pedigrees can become extremely valuable – in 2018 one CryptoKitty sold for US$140,000. Similarly, ZEDRun is a platform for breeding and racing digital horses where successful breeders can earn significant sums of money in prize money and stud fees.
Several online gaming platforms, including My Crypto Heroes and Aavegotchi, allow the purchase of NFT-backed in-game items to allow players to level up and gain unique advantages over their competitors.
While the trade in sporting highlights, such as NBA TopShot’s tokenisation of basketball matches, is akin to the market for digital art (covered in our previous article), NFTs can also be used to verify physical collectibles. Ethernity is a leading marketplace for NFT-backed real-world items such as limited-edition baseball bats and, in 2019, Austrian Post launched Crypto Stamps which can be used like normal stamps or collected and traded on the blockchain.
Ticketing for sport, music and other events has been plagued in recent years by forgeries and fraudulent practice in resales. The immutable and ‘trustless’ nature of blockchain technology promises to help address some of these issues. While it may not be practicable (or even desirable) to completely eliminate ticket resellers, it may be possible to reduce sales of fake tickets and the use of automated botnets by scalpers to corner markets for specific events.
Blockchain holds great promises for all aspects of our society. However, it is not all perfect, and there are many issues which need to be addressed and resolved before the technology can achieve its full potential. We will aim to address these issues in our next article.
In the meantime, if you would like to discuss any of the above in greater detail, please contact our special counsel Graeme Fearon at email@example.com or 07 3367 6900.
This memo presents an overview and commentary of the subject matter. It is not provided in the context of a solicitor-client relationship and no duty of care is assumed or accepted. It does not constitute legal advice.
© Moulis Legal 2021