This article was first published here.
If you are a business that is planning to start a marketplace for non-fungible tokens (“NFTs”), or an intellectual property (“IP”) owner, or a license-holder that intends to monetize your IP assets through NFTs, then you have to evaluate an important question. The question is whether you should be making sales of IP licenses or sale of a digital copy of your IP.
For this, we have to revisit the concepts of ‘publishing rights’ and ‘distribution rights’ under any copyright regime. When the author of an IP grants a publishing license, the license holder can publish multiple copies of the author’s IP. When the author grants a distribution license, then the license holder can obtain published copies from the publisher and sell those copies in the territory covered under the distribution license. When the author grants both a publishing and a distribution license, then the license-holder can publish as well as distribute copies of the author’s IP.
For entertainment content, things were simpler in the analog era. When a buyer purchases a cassette or a CD, they become owner of that copy, without becoming owner of the author’s IP. As these copies existed in a tangible form, a resale to a second buyer exhausted the first buyer’s possession of such copies. As a result, the second buyer would become the owner of the resold copies.
The second buyer’s purchase did not violate the IP ownership rights of the IP’s author/license holder. This is made possible because of the ‘first sale doctrine’ as per which IP authors/license-holders’ ability to control secondary sales is exhausted upon completion of sale to the first buyer.
However, things are different in the digital space. If the first buyer of an MP3 format copy of a song wants to sell that copy, the sale cannot be completed without creation of a duplicate copy. By creating another new copy of the song, the first buyer ends up exercising the publishing right, i.e., the right to create copies, which belongs exclusively to the IP author/license-holder only.
Therefore, the first sale doctrine does not apply in the digital realm. This consequence is intimately tied to lack of scarcity in the digital space and lack of a secondary market for digital items. As a result we see content consumption largely in the form of content streaming, where a single publisher lets users access content on the publisher’s platform.
On the other hand, NFTs make it possible for first sale doctrine to come alive in the digital realm. NFTs can be used to sell copies of the underlying IP connected to the NFT (“NFT Content”). A buyer can purchase an NFT by connecting a Web3 digital wallet (“Web3 Wallet”) to the NFT marketplace. After the purchase, a copy of the NFT Content is reflected in the buyer’s Web3 Wallet. As NFTs exist on a decentralized, distributed and immutable ledger, it is impossible for a buyer to fake ownership of a copy of the NFT Content on the Web3 Wallet. Any subsequent sales by the first buyer results in transfer of that copy of the NFT Content to the second buyer’s Web3 Wallet. After the second sale, copy of the NFT Content will not be visible on the first buyer’s Web3 Wallet any longer.
The phenomena discussed above is important, because it materializes the idea of deprivation of possession upon sale, which is vital to the application of first sale doctrine. When an NFT is sold to the second buyer, no duplicate copy of the NFT Content is created. It is the same single copy that exchanges hand. Once sold, the first buyer may download and save a copy of the image, but that would be an infringement and hence illegal, apart from the fact that it will have no legitimacy or respect in the Web3 space.
As the digital economy moves more and more towards the Web3 model, this distinction will start mattering significantly so as to render all digital copies useless and without value, unless they are visible on a Web3 Wallet. This will help strengthen the primary market as well as foster creation of a secondary market for digital media.
Interestingly, a perusal of terms and conditions of ‘Cryptokitties’ and ‘Cryptopunks’ will clarify that those are license grants and not sales of digital goods. It is pertinent to point out that sale of NFTs as licenses may not be valid because their validity depends on whether the license grant is properly given in accordance with the copyright and other statutory rules prevalent in the legal jurisdiction of the IP author/license holder. The second issue with sale of NFTs as licenses is that unless an explicit and detailed set of terms are included regarding grant of further sub-licenses, such NFTs cannot be re-sold further. On the contrary, this legal obstacle does not exist for copies of NFT Content sold as digital goods/merchandize.
A perusal of the terms and conditions of other NFT projects such as the recently launched Fully Faltoo NFTs and BeyondLife NFTs clarifies that buyers of those NFTs can sell and transfer such NFTs to second buyers by making secondary sales. Even though those terms allow only a limited digital space for permitting secondary sales, that in itself won’t face a legal challenge in terms of the validity of completeness of the sale. This does not take away anything from the NFT buyer, as they can continue to enjoy their “copies” of the NFT Content, without owning the NFT Content itself, much in the same way a music fan could own a cassette of Kishoreda’s songs without owning the songs.
The bottomline is that selling your IP through NFTs in the form of digital merchandize can help you get a better bang for your buck, while ensuring reduced legal obstacles and challenges, when compared to selling IP through NFTs in the form of licenses.
Important Disclaimer: The information provided herein this article is our interpretation and understanding of the law. The legal analysis presented hereinabove is not given for application to any specific set of facts or circumstances peculiar to you or your organization. You may rely on the the write-up for your peculiar facts or circumstances at your sole risk only. We will not be liable, answerable or responsible to you under any client-privilege relationship.