NFTs hit the mainstream and risk follows Woodruff Sawyer

These “overpriced pixels” quickly became a new status symbol for pop stars, professional athletes and wealthy entrepreneurs, and in turn fueled the rapid growth of peer-to-peer marketplaces that support the trading of digital assets. The iconoclastic monkeys, punks, owls and skeletons became popular streetwear avatars and artwork. Emerging artists with names like Beeple, XCopy and Mad Dog Jones embraced this digital art world, creating a sort of crypto-renaissance with digital pieces of meta-heroes, political commentary, surreal still lifes and dystopian worlds. And big brands noticed.

Luxury brands Gucci, Tiffany and Mercedes Benz join Main Street brands Coca-Cola, McDonald’s and Frito-Lay in their new Web 3.0 ventures. Even Time Magazine has joined the fray, issuing TIMEPieces with an initial coin featuring an interview with Ethereum’s Vitalik Buterin.

Each company’s NFT strategy can vary greatly. In fact, their strategy can change with each minting. But are there new risks that come with such a nascent technology as Web 3.0? The answers may be surprising.

Marketing campaigns

This summer, the History Channel made waves with its promotional offer of a limited number of NFTs during its popular Shark Week series. Viewers were prompted by a QR code between segments with instructions to download free NFTs containing still images of their favorite sharks in action. McDonald’s plans to give away a limited number of NFTs with McRib features starting in November. Fans of the limited-time sandwich will have a chance to win a free NFT during McDonald’s marketing campaign celebrating the McRib’s 40th anniversary.

Superfans of both brands may appreciate the novelty of these NFT offerings, but their NFT’s monetary value is unlikely to grow over time. The risk to the brands associated with this type of advertising campaign is limited, but suppliers who assist with the embossing risk copyright infringement and infringement of intellectual property rights without proper authorization from these brands.

Collectibles

Coca-Cola, Kia and Tiffany developed NFT collectibles with different strategies. Coca-Cola offered NFT artwork by fashion designer Rick Minsi in July to celebrate Pride month, with proceeds going to LGBTQIA+ charities. Kia Automotive replaced its street-savvy hamster characters with DASK (Dark Army Skeleton Krew) skeletons during a TV ad for its Soul SUV. Viewers got a brief glimpse of a QR code with download instructions for a free campaign DASK NFT. The offers were quickly exhausted. Perhaps the most eyebrow-raising embossing comes from staid jeweler Tiffany & Co., with its NFTiff offering. Consumers are offered a limited number of unique Crypto Punk NFTs minted as NFTiff. The NFTs then grant the rights to purchase a custom Tiffany necklace and pendant depicting Crypto Punk.

These strategies are different, as the NFTs offered contain intrinsic value – even if some are part of a marketing campaign. The NFTs are immediately tradable on peer-to-peer trading markets. Corporate governance challenges are emerging as federal anti-money laundering laws are increasingly enforced by NFT creators.

Metaverse

For fans and collectors seeking refuge in the metaverse, UPS, Frito-Lay and Mercedes Benz are there. UPS and Frito-Lay have filed new trademarks to offer products, services and multimedia in the metaverse. The full details of each offer have not yet been announced. However, Mercedes Benz has issued NFTs for its iconic G-Class SUV. Now, status-conscious collectors can take their “G-Wagons” to the metaverse.

The creation and development of the metaverse is in its infancy. However, crimes including NFT theft and fraud are already making headlines.

Access control/ticket

Sports franchises, entertainment venues and concert festivals are exploring NFTs that provide special access and enhanced fan experiences.

Since the NFTs are offered as virtual tickets, the technology to allow entry to the venue varies. Should these NFTs not function properly or slow down the entry process, NFT issuers could find themselves exposed to reputational damage and class action lawsuits from fans who are denied access.

Fractional ownership

One of the biggest potential growth areas perhaps also contains the biggest risk for NFT issuers. Recording artists and independent filmmakers have struggled with production contracts that are perceived as unsustainable for these artists. The criticism is that film and music studios retain disproportionate shares of the revenue streams from unit sales, tournaments and other sales promotions. As a result, artists are exploring ways to monetize their work while marketing directly to fans, with perhaps different levels of customer experience reserved for superfans.

The idea is compelling. Artists will offer their work as an NFT which provides fractional ownership of that work, while the artists retain most of the intellectual property rights. In turn, the artist shares the fractional portion of subsequent royalties to the NFT owners. The artists can also reward the NFT owners with periodic drops of content or products. This new approach will also encourage owners to promote artists’ work to increase future royalty payments.

This idea, while appealing, could bring the issuer into conflict with the Securities and Exchange Commission (SEC) with authorized sales of unregistered securities, under the Howey test. Currently, the SEC is pursuing several cryptocurrency issues and trading platforms under the same theory of securitization considered by these artists. For publishing firms, this represents another heightened risk their directors and managers must consider, along with governance requirements, technology risk and cyber exposure.

Where to turn

The insurance insurance community has been treading carefully in offering insurance solutions to both incumbents launching Web 3.0 initiatives and digital asset organizations that are based on this technology. The impact on both the extent of coverage and pricing can vary greatly between different companies.