NFTs: A VC’s Friend in Deed

Alex Lazovsky of Scale-Up weighs in on the promise and pitfalls of NFTs for venture capital

(As recently published in Forbes)

I’ll be the first to admit that it sometimes seems as if NFTs were invented to troll the tech community and VCs like me who finance it. The punchlines write themselves. Take this story:

Cartoon pictures of anthropomorphic apes are selling for nearly $40 million a piece, comedic actor buys one, makes it a key aspect of his show, loses the associated NFT and with it the intellectual property rights, might lose the show.

Cue sad trombone. It’s life parodying itself.

But we mustn’t judge a tool by its most facile uses and its most inept users. It’s been well established for over a decade that software is eating the world. Much of the world, however, remains algorithmically indigestible. NFTs could change that and thereby open vast new markets to innovative new business models, which is why venture capital should care about NFTs.

Image: Andrey Metelev

The Vital Difference between an NFT and a Deed

An NFT is essentially a proof of ownership. Like deeds, they signify that some particular object belongs to some particular legal person. So if deeds can already prove ownership, why would anyone need NFTs?

The problem with deeds is that they rely on authority. Whoever is presenting the deed as proof of ownership has to have faith both in its authenticity and in the diligence of the authority maintaining the whole system of deeds.

This trust-based system has worked well enough for centuries. But it requires considerable (expensive) human intervention, it invites rather than resists corruption, and it relies on ephemera like trust and authority. Deeds work faute de mieux.

Now, imagine writing the deed for the Mona Lisa on the back of the canvas or etching your name indelibly onto your vehicle’s engine block. The object itself would become part of the deed, making the deed very difficult to forge and ownership would be immediately apparent. Ephemera, like trust, authority, and honesty would no longer be required.

Diego Velasquez, in a wildly meta move, painted himself painting this painting. That’s him on the left holding the palette. Las Meninas is a 17th century NFT prototype. (Image: Wikimedia)

Obviating trust and authority from ownership is what NFTs achieve, and they do so counterintuitively by making proof of ownership more ephemeral, or at least virtual. The data of digital property can be worked into the NFT’s cryptographic hash, making the object and the proof of its ownership practically inseparable. So, counterintuitively, NFTs are much harder to forge than old-fashioned deeds written on stationary, even though the objects covered by NFTs are much easier to copy.

Even for physical property, NFTs’ distributed storage makes them hard to forge and the associated blockchains make any modifications to the object or ownership public and immutable. They’re deeds, but better.

Leveraging NFT (new, fancy technology) for VC

The world is full of ambiguous ownership. Who actually owns a pair of Rhinestone Sunglasses in World of Warcraft? The player, the studio, or the community of players who expect them to exist? Who owns a hotel reservation? The guest or the hotel? Who owns the right to attend a concert symbolized by a ticket? The band, the venue, the concert goer, the promoter or the ticket seller?

This is a live issue. An event agency was recently enjoined from selling table reservations for a fancy Oktoberfest venue in Munich. The court ruled that the sales were akin to fraud because the agency could not prove ownership of what they were selling. They couldn’t prove a valid title, so they couldn’t sell the thing. Fair enough.

But thanks to a new platform, hotel guests can reserve a room and obtain an NFT proving ownership of the reservation, letting them resell it as desired. There was something of value — hotel reservations — that resisted monetization because ownership was ambiguous. Once ownership is defined, a market emerges practically on its own.

Some potential applications, like in-game accessories might sound frivolous or trivial, until you realize that in-game purchases totalled $128.6 billion in 2020. Similarly, attaching NFTs to citations in academic papers might not sound like a huge market, until you realize that they make or break thousands of careers and can lead to concrete technological and financial breakthroughs, like pharmaceutical patents. Virtual sneakers might sound silly, but not when they’re selling for $130K a pair.

Consider: most people reading this will own some kind(s) of equities, be they corporate stock, derivatives of some sort, futures contracts, or whatever. But in what sense do we possess them? Usually, we assume we own them based on a phone call or feedback in an app’s user interface. Corporate paper isn’t even really paper anymore, just hopes and promises.

Your claim to your equities might rely on a phone call with this guy, whose claim is in turn based on an algorithm he may or may not understand. (Image: Chris Liverani)

Refounding the equities market on the basis of NFTs could make it more liquid by coding algorithmic instructions for transactions directly into assets, as well as more transparent, by providing an indelible record of ownership. Even just facilitating the transition to an NFT-based equities market is a massive business opportunity.

NFTs are already penetrating everyday life. Virtual NFT sneakers exist that allow users to earn tokens by walking, which monetizes the ephemeral act of taking steps and would be impossible with old-school deeds. And adding NFTs to physical objects like apparel imbues those objects with quantified rarity, making them intrinsically collectible without having to hope for “buzz” or “virality.”

This technology can add value wherever ownership exists, and somebody will claim to own just about everything. NFTs are a new economic biome waiting for the startup ecosystem to emerge.

Just Be Careful

NFTs are a blockchain technology, and as the ICO bubble of 2018 and the current alt-coin crash have taught (most of) us, blockchain tech is an easy way for charlatans to part fools from their money. NFTs, though, have genuine disruptive potential. Just like spreadsheets have enabled financial practices that would have been impossible with paper ledgers, NFTs can enable modes of ownership and transactions that would be impossible with obsolete paper deeds.

The job of venture capital is to help lead the transition to new markets with new forms of ownership, adding value to our portfolios and to society.

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