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What exactly is an NFT?
One of the forerunners of blockchain technology and cryptocurrencies (Ether, ETH), Ethereum, led to the genesis of NFTs.
For the uninitiated, one must assume blockchain to be a large shared ‘network’ that many computers are connected to. In addition to being the platform where these transactions take place, the network also keeps a record, in the form of a digital database or ledger, of every single transaction that takes place on it. The entries on this ledger is visible to everyone who is connected to the network, but they cannot be altered or deleted by anyone.
The data that is recoded is then stored in ‘blocks’. Blocks have certain storage capacities which, when filled, are closed and linked to the previously filled block, forming a chain of data, known as the blockchain. New data is compiled into a newly formed block, which will also be added to the chain, once filled. This data structure makes an irreversible timeline of data. Each block in the chain is given an exact time stamp when it is added to the chain. The fundamental characteristics of blockchain are that it is ‘decentralized’ (no single person has the ability to control it) distributed (data is stored in multiple places on a computer network rather than with one singular person) and immutable (the data recorded is irreversible). All of this makes it an extremely secure platform for the exchange of cryptocurrency.
Moving to cryptocurrencies, these are a form of digital or virtual currency, which is encrypted and protected by cryptography, fueled by the technology of blockchain. Cryptocurrency can be used to effectuate transactions and make payments across borders without the requirement of conversion fees or conversion into different fiat currencies, making it a universal currency that can be used all over the world.
To understand a transaction better, assume if you were to make a digital payment through your bank, then your instruction to your bank would be to pay the specific amount of ₹, without making any reference to the denomination or making any differentiation, since every single ₹ has the same value. Similarly, for any particular type of cryptocurrency, for example Ether, all Ether is the same, and one Ether can be substituted for another Ether of the same value, thus making it fungible. This is in direct contrast to an NFT which is non-fungible. A non-replaceable token would render it incapable of substitution with any other token, and therefore, unique and valuable.
A popular example to explain this concept, is to consider a famous original piece of art such as ‘Starry Night’ or the ‘Mona Lisa’. The original paintings by Van Gogh and Leonardo da Vinci respectively, are unique pieces of art that cannot be substituted with anything else. While there are many replicas, in the form of physical and digital images of these paintings, these copies do not hold the same value as the original paintings. Only the original would be worthy of sale and fetch the big bucks.
Let’s say that an emerging artist today creates a painting; he will be able to ‘tokenize’ a ‘digital’ representation of his painting, by minting an NFT to record his ownership. This will work as his proof of ownership. The NFT helps you distinguish the original version from the copies. This record of ownership is registered on blockchain.
According to Ethereum’s website, NFTs ‘live’ on Ethereum and can be bought and sold on any Ethereum-based NFT market. Ethereum describes NFTs as ‘tokens’ used to represent and claim ownership of unique items, which give us the ability to tokenise things like art, collectibles, even real estate, which are trackable by using Ethereum's blockchain as a public ledger; now other platforms also have the capability to mint NFTs. An NFT is minted from digital objects, i.e., a representation of digital or non-digital assets, and can only have one owner at a time. Ownership is managed through the unique identifier and metadata that is directly linked to one Ethereum address and no other token can replicate. When a person mints an NFT, they execute smart contracts, stored in code, that assign ownership and manage the transferability of the NFTs. This information is added to the blockchain where the NFT is being managed. The data from the minting process is recorded in blocks and "immortalised" on the blockchain.
What does ‘ownership’ of an NFT mean?
You could own an NFT as the ‘creator’ of the NFT or as the ‘purchaser’ of the NFT. From an intellectual property (IP) law perspective, a creator should mint an NFT only in respect of an asset or an item that he owns the rights to or if he has been permitted to, by the owner of rights in that asset or item. For example, the author of a book, provided that he has not sold his rights, will be able to create NFTs of the characters from his book. Say he creates a moving JPEG image of the main character in the book and mints an NFT of this image. As the creator of the NFT, the author is presumed to be the owner of IP as well as the owner of the NFT, i.e., the ‘digital certificate of authenticity’ or the ‘token’. When a purchaser buys the NFT of that image from the creator, what becomes critical to understand here is that the purchase of the NFT is usually limited to the purchase of only the ‘token’ or ‘digital certificate of authenticity’ and not of the rights or copyright in the image or the character. The transfer of rights during the sale of an NFT is determined by the terms of the ‘smart contract’ that accompanies the transaction.
Jack Dorsey, Twitter’s co-founder, sold the image of his first tweet as an NFT, by auctioning it on a platform called Valuables. The terms of the sale specify the sale is in respect of “an autographed certificate of the tweet”, making it evident that the copyright in the tweet does not transfer to the NFT purchaser. If the NFT owner is willing to transfer or license the rights in the asset along with the NFT, the applicable terms of the sale and for use of the asset will need to be captured in the smart contract. In the case of Cryptokitties, NFT purchasers have been allowed to commercialize the ‘kitties’ and make up to a maximum of US$100,000 in gross revenues from them, on a yearly basis. In most cases, NFT creators have specifically restricted all commercial use of the work.
From a rights perspective, the terms of the smart contract accompanying the transaction become crucial. NFT creators must define the exact scope of the license and terms for the use of the NFT and the work. Along with the right to retain IP, the NFT creator, assuming he is the owner of the work, can also specify the royalties that he will be entitled to for each sale and resale of the NFT in the smart contract and create a new revenue stream for himself. An NFT creator can determine these terms as per his preference and build them into the smart contracts. Royalty payments will be made automatically, since ownership is built into the content itself, every transaction of sale would ensure that the NFT creators get paid because the NFT creator's address is part of the token's metadata, which can't be modified.
NFTs and Rights
It will become increasingly important for IP owners to take action and assert their rights against unauthorized tokenization.
Universal Music Group (UMG), recently announced an expansive global partnership with Genies, to develop avatars of their iconic artists and NFT digital wearables, to bring recording artists into the metaverse. UMG would only be able to do this after obtaining permission from these artists to turn their persona into avatars for use in the metaverse. The artists, in such cases, may want to customize, limit and specify restrictions, may want approval rights over the final images, and may also want to retain the right to create their own avatars for the metaverse, in which case, they would have had to permit UMG and Genies to do this on a non-exclusive basis. Further, we aren’t aware of the commercial understanding with the artists. It is likely that UMG will pay them sufficiently from each avatar and NFT sale.
What happens to ‘characters’ played by artists in the film or a series? In most cases, and subject to the contractual terms of the agreements, the producer of the content is the owner of all rights in the audio-visual content as well as the characters that have been created. Artists also assign all rights in their recorded performances to the producer. As the owner of all rights, the producer can create NFTs of clips from the content featuring the artists or even NFTs based on the characters portrayed by the artists. However, if the artist intends to create NFTs of the character that he has portrayed, he will need the permission of the producer, and licensing fees may also need to be paid to the producer. However, it is important to understand that agreements will not specifically refer to NFTs and if this position is challenged, the outcome would depend on the courts. The courts may be of the view that artists should receive commercial benefits along with the producers from the sale of NFTs in which their personas and likeness are being used. Going forward, artists may start specifically negotiating and reserving these rights for themselves or instead, ask for a share in the revenue.
Our current laws, consumer protection and e-commerce rules may not be wide enough to be applicable to these technologies and marketplaces, but these things will become clearer with time and especially after they become the subject matter of lawsuits whose decisions will hopefully clarify these issues. It is natural and logical to assume that, as NFTs come into the mainstream more prominently, guidance and protocols will be developed and will become precedents to be adhered to.
Unsurprisingly, technology is moving at a much faster pace than most of us, leaving governments with very little time to catch up. Governments will be able to effectively frame laws, legalize and regulate these activities only after they are able to understand them and the technology behind them completely.
For now, and until real world steps on the accelerator and comes up to speed, and starts defining the rules that will apply to people and their property in the virtual world, the virtual world will have to adapt and borrow from the physical world. It’s going to be an interesting ‘virtual’ space to watch.
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Bagmisikha Puhan, Associate Partner, is an Associate Partner at the Firm. She graduated in 2014, and specializes in Technology Law, advising clients in the ITeS, media, healthcare and pharmaceuticals, space sectors on regulatory, policy, compliance, and transactions. A member of the Telemedicine Society of India, Bagmisikha also conducts capacity-building and training programmes. Bagmisikha has worked in-house as part of the Global Data Privacy Team of an Indian MNC and worked extensively in matters pertaining to the data privacy and data protection laws of several jurisdictions. Pro bono advisory also forms a significant portion of Bagmisikha’ work. A member of the Right to Free Education movement in Odisha, she provides free legal services to the students and their families.
Meghana Chandorkar, Partner, is an Alumnus of ILS Law College, Pune. Meghana has 12 years of experience as an Intellectual Property and Media & Entertainment lawyer. After graduating in 2009, she has worked with the intellectual property teams of leading law firms, with a strong focus on trademark and copyright law, as an in-house counsel for a music company, and for a broadcast, media, and entertainment company. Working with law firms in the initial half of her career has helped her create and develop a strong base of legal knowledge and, working in-house has been instrumental in giving her an insider’s perspective, to better understand client requirements, from a business and commercial point of view, and to provide specific, appropriate and well-rounded legal advice, draft and structure agreements and minimize risks, keeping in mind the business requirements. While working as an in-house counsel, she was selected for, and has completed, a certificate program, in 2018, called the ‘Young Leader Development Program’ from MICA, Ahmedabad, designed specifically to develop young leaders across business and corporate functions, to tackle real-time problems and put forth innovative business solutions. Her core areas of expertise include structuring, drafting, and negotiating agreements, and providing advice and opinions, pertaining to the creation, maintenance, protection, acquisition, and exploitation of intellectual property rights. She is skilled in copyright, media and entertainment, broadcast, trademark, and contract law, and has been recognized as a professional whose advice is valued in providing creative legal solutions and advice to clients.
Collins Dictionary, named an acronym, NFT, a. non-fungible token, as the word of the year (2021) and defines it as “a unique digital certificate, registered in a blockchain, that is used to record ownership of an asset such as an artwork or a collectible”. NFTs gained prominence only in 2021 with increased buying of cryptocurrency, and ‘minting’ NFTs. NFTs started out simply and priced obscenely, in the form of images of tweets, artwork, pictures, and GIFs of crypto kitties, meant for resale through blockchain; now, they are evolving into different forms, and are being used to authenticate physical items in the real world, as well as virtual ‘assets’ in the metaverse.