research

Say hello to the NFTSPA, a new way to crowdfund for NFT franchises

research

Say hello to the NFTSPA, a new way to crowdfund for NFT franchises

April 2021

Posted by

Chris Donovan

Head of Legal

Chris is Head of Legal. He’s responsible for driving the firm’s legal strategy and structuring the firm’s investments. Chris is a qualified solicitor with over 10 years’ experience working with investment advisory and venture capital firms as legal counsel, and also directly with technology-focussed start-ups both as co-founder and legal advisor. M.Sci (Natural Sciences) University of Cambridge (Queens’ College)....read more

Over the last couple of months we’ve been working on something big here at OV – a new fundraising mechanism for NFT projects, using NFTs themselves that we call the NFTSPA (short for NFT Simple Pre-Purchase Agreement, pronounced “Nifty Spa”). We hope it could be as important as the SAFT and ERC20 token have been for crowdfunding Web 3 startups.

“The NFTSPA will revolutionise how NFT projects crowdfund their franchises in a compliant and inclusive way with users. We look forward to working with the ecosystem to experiment with its implementation.” – Jamie Burke

Posted by Chris Donovan - April 2021

April 2021

Posted by

Chris Donovan

Head of Legal

Chris is Head of Legal. He’s responsible for driving the firm’s legal strategy and structuring the firm’s investments. Chris is a qualified solicitor with over 10 years’ experience working with investment advisory and venture capital firms as legal counsel, and also directly with technology-focussed start-ups both as co-founder and legal advisor. M.Sci (Natural Sciences) University of Cambridge (Queens’ College)....read more

Until now, the market-standard fundraising mechanism for early-stage crypto projects has been the SAFT – the Simple Agreement for Future Tokens. Pioneered in 2017 (it was first used as part of the Filecoin token sale), it enables projects to pre-sell tokens to investors who provide an investment in exchange for a promise to receive tokens at a later date.

SAFTs are lightweight documents, derived from SAFEs (Simple Agreement for Future Equity) that require minimal negotiation and allow for rapid fundraising, which is great. But they do have some drawbacks:

  • SAFTs themselves are unequivocally securities in most jurisdictions and so can only be sold to certain limited categories of investors (termed Accredited Investors in the US, and High-Net Worth Investors/Sophisticated Investors/Investment Professionals in the UK & Europe).
  • SAFTs have come under significant regulatory scrutiny, particularly in the US where recent court decisions (e.g. Telegram, Kik) have held that fundraising with a SAFT means the subsequent token is tainted and the entire arrangement is treated as a security (an investment contract). Treatment as a security entails extremely burdensome obligations and requirements, and a failure to comply can carry civil and criminal penalties.
  • SAFTs are not transferable by design, often including clauses which expressly prohibit it and are usually tied to a single TGE (Token Generation Event). Meaning purchasers are locked into a project and their ability to execute on what they promise.
  • SAFTs are not always suitable in the context of NFT-based projects which do not necessarily have any technical need or justification for a fungible token in their ecosystem.

Currently, in the absence of a viable alternative, NFT projects would typically have no choice but to go down the equity fundraising route or force out a fairly limited and useless token. Equity is of course dilutive to the founders and other existing shareholders, and there is also typically more complexity and ongoing shareholder administration associated with equity fundraising (although the SAFE has helped streamline the process to some degree).

What if there was a better, more efficient way for NFT projects to fundraise?

There is. Introducing the NFTSPA.

The NFTSPA is to NFT projects what the SAFT has been to fungible token projects; but without the drawbacks.

 

What is the NFTSPA?

The NFTSPA is an agreement between a project and one or more buyers, where the buyers pre-purchase limited-edition NFTs from the project which we could refer to as limited-edition Access NFTs. 

The Access NFTs could be, well, anything – digital art, avatars, wearables etc. – whatever the project in question happens to be making. Typically the Access NFTs would be part of a genesis drop i.e. the first NFTs ever minted by a project (but they don’t have to be).

This is equivalent to the pre-payment crowdfunding process seen on platforms like Kickstarter, where a business pre-sells new product/inventory through a variety of mechanisms and benefits, although typically at a discount or as part of some sort of promotional offer (e.g. buy 1 get 1 free).

In the same way, Access NFTs pre-purchased under an NFTSPA are special – once minted they will automatically entitle the holder to preferential access to further NFTs from the project in the future (which we could refer to as Preferential NFTs). Essentially a reward for early support.

To keep things fair, the Preferential NFTs should be made available to Access NFT holders on a randomised basis (to prevent cherry picking of the rare/high value stock). Preferential NFTs might be made available for free, or at a discount to the listing/sale price, or even just on an early-access basis (i.e. purchase before the general public). If the franchise is already popular, access alone even at full price is invaluable. Access NFT holders might also have the right to receive a certain proportion of all NFT drops in the future i.e. in perpetuity; or just from a limited, fixed number of drops. The Access NFTs might also be subject to some initial restrictions on their transferability (a lock-up).

All of these variables would be determined by the project and fixed in the NFTSPA; and hard-coded into the Access NFTs’ underlying smart contracts (more on this below) so they can be executed onchain in a trustless and auditable way.

So, quick recap: the NFTSPA creates a framework within which projects can pre-sell Access NFTs. Those Access NFTs entitle holders to preferential access to Preferential NFTs on certain terms set by the NFTSPA and embodied in the Access NFTs. So far so good.

 

Why is the NFTSPA exciting?

  1. Access NFTs effectively give holders an exposure to the future franchise value of an NFT project. So their value consists of 2 components:
  • the value inherent in the NFT itself (whether as a piece of digital art, a collectible etc.); and
  • the value of an exposure to a project’s future franchise via the Preferential NFTs (linked to transferability – see point 2 below).
  1. Second and relatedly, Access NFTs can also be transferable; just like any other NFT. Meaning they can be bought and sold by reference to those two value components above. Access NFTs could in theory be deployed as an asset within DeFi ecosystems as collateral or into a bonding curve that could effectively track price sentiment about a project’s franchise value in a real-time, permissionless way. The possibilities are enormous and provide further avenues of experimentation for projects and purchasers when it comes to the structure and execution of Access NFT drops.

This transferability adds a further dimension of value for primary and secondary purchasers of Access NFTs. 

As a result of 1 and 2 above, projects can sell Access Tokens at a premium to take into account the perceived future value of their franchise. A great way for projects to fundraise, and without any dilution for founders.

  1. The NFTSPA can provide much-needed legal clarity around the sale and purchase of NFTs, by for example clearly defining what underlying legal rights (e.g. copyright) are being transferred in relation to both the Access NFTs and Preferential NFTs. This clarity is essential for a healthy NFT ecosystem.
  1. Last but definitely not least: if structured correctly, NFTSPAs and Access NFTs should not be classified as securities. The NFTSPA paradigm is a pre-purchase framework; essentially the terms of sale for a project’s future inventory. NFTSPAs and Access NFTs do not confer voting or ownership rights over a project or protocol (or over a pool of assets); nor any rights to dividends, income or other financial returns. Just because something can be bought and sold and/or people can speculate on its value does not make it a security.

This means that in theory Access NFTs can be pre-sold under an NFTSPA to anyone, anywhere (subject to any relevant local law restrictions on the nature of the underlying NFT/product).

To summarise: the NFTSPA means projects can create amazing NFT products within a structure that enables them to pre-sell those products by reference to the future value of their franchise.

Taken together this is a new fundraising paradigm. A kind of Crowdfunding 2.0 that many will understand but also allows for all the benefits of being an asset in DeFi.

 

Let’s get creative!

At OV we’ve now created both a legal and smart-contract framework for the NFTSPA and Access Tokens including smart contracts, which we hope will give projects everything they need to leverage this new, powerful NFT fundraising mechanism.

These frameworks are now in the final stages of review and approval by external legal counsel (in the UK and US); and the smart contract framework  audit by an industry-leading blockchain security firm to be completed shortly.

Over the coming weeks and months we will test these mechanisms with several exciting projects and NFT franchises in the space, and in parallel open source both the legal and smart-contract frameworks so the ecosystem as a whole can benefit. As its pioneers we hope to lead the various different creative and technical ways projects can design and execute a NFTSPA Genesis Drop at our leading accelerator dedicated to NFTs and the Metaverse, Base Camp.

We are incredibly excited to see how the community takes this simple primitive and experiment in its application as we look to populate the Metaverse with powerful content creators to take it mainstream.

 

**Quick Update (28.04.21)**

Over the last 48 hours we’ve had plenty of initial feedback on the NIFTY SPA concept, a lot of it extremely positive as well as some challenges (as there should be). We wanted to actively seek open discourse on the concept and so we welcome all of these discussions, and it’s exactly why we published this first post.

The concept covers several extremely complex areas, including the notoriously difficult securities law landscape in the US. We’re aware of these complexities which is exactly why we’re carefully reviewing the specific legal position with various external counsel (including in the US). 

In the meantime it’s important to remember the concept is a work in progress with the full specifics and technical details still being finalised and subject to further refinement.

 

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