Beyond creative works and consumer products, NFTs open up new avenues for IP monetisation in the technology, life sciences, and pharmaceutical industries.

Non-fungible tokens (NFTs), one-of-a-kind cryptoassets stored on blockchain technology, have soared in popularity as artists, gaming companies, retailers, and others seek new monetisation streams.

In October 2020, the US$69 million sale of a work from the digital artist Beeple at Christie’s set the tone for a surge in NFT activity. According to the market tracker Non-Fungible, NFT sales surpassed US$274 million in May 2021 alone, underlining the strength of this nascent market. As consumers and businesses become more comfortable operating digitally, NFTs will unlock new revenue opportunities for organisations across sectors, and offer a range of opportunities for PE sponsors.

More Than a Digital Craze

The range of potential NFT applications is wide — the NBA’s platform for digital basketball cards has recorded sales of more than US$230 million, while food brands including Taco Bell have sold their own line of NFTs. Football teams have also launched NFTs this year and football leagues are poised to follow. US toymaker Mattel has confirmed plans to turn its collector brands into NFTs as it explores new revenue streams. Beyond creative works and consumer products, NFTs open up new avenues for intellectual property monetisation in the technology, life sciences, and pharmaceutical industries. Further, the asset class could pave the way for new membership, subscription, and ticketing structures.

New kinds of service providers will be necessary to support this activity, including custodians, payment service providers, and trading platforms. This new class of companies emerging around the NFT ecosystem may prove to be attractive investments for dealmakers. Cryptocurrency has presented a host of opportunities for financial sponsors and VCs in recent years, underlined by the recent direct listing of crypto exchange Coinbase. The NFT world could well follow suit.

Novel Legal Issues

NFTs raise novel legal questions. The distinction between rights to the NFT itself versus rights in the underlying digital content has legal implications, and gives rise to various ownership and licensing structures. For example, some licences in the NFT marketplace give buyers rights to commercialise underlying content, whereas others do not.

Storage of the underlying digital content is a key issue. All parties need to be mindful of who is responsible for maintaining and securing the relevant data. Instances of “rug pulling” — when NFT creators alter the content associated with the token after selling it — highlight potential challenges in this new market. While there are questions to consider, a raft of technical solutions are emerging to address these issues.

Avoiding Regulatory Pitfalls

Investors must consider the regulatory regime they are operating in, including Know Your Client and Anti-Money Laundering obligations. It is important to consider target companies’ approaches to regulatory change in this fast-moving area, and the potential for different regulatory frameworks to apply to activity conducted in different jurisdictions. The European Commission’s proposal for a Regulation on Markets in Crypto-assets is intended to regulate cryptoasset issuers and service providers in the EU, and the UK Treasury is considering changes to the UK regulatory approach. Further, cryptoassets qualifying as financial instruments, including tokenised equities or bonds, may be regulated under existing securities frameworks, such as the EU Markets in Financial Instruments Directive.

Future regulatory changes will present an opportunity for the early PE players in the NFT ecosystem to adapt and entrench their position. As the asset class develops, we believe sponsors are well-placed to capitalise on an exciting growth sector.