The problem with NFTs nobody is talking about

NFT smart contracts promising transparent ongoing royalties are attracting artists & musicians who are tired of missing out on their earnings.

“Blockchain could ensure accountability so that artists don’t lose their hard-earned money because of a broken royalty system” - Algorand.com

Web 3 platforms like Zora, OpenSea, Rarible & Foundation all offer a ‘creator’s royalty’ option which allows the creative talent to receive a royalty of their choosing on all subsequent secondary sales of their work. What is not obvious, is that this royalty is only triggered when the subsequent sales occur on that same marketplace! Significantly the infrastructure for split royalties amongst collaborators is inescapably manual, clunky and laborious - still in its infancy relative to the automated tech solution you’d expect.  

Royalties are effective incentive mechanisms for motivating individuals and collectives to commit to building out their brands, visions, or ideas into fully realised projects. Royalties are the foundational premise underpinning companies, otherwise known as dividends. They are even an integral notion of nationhood, otherwise known as taxes (royalties levied by the state for capital investments). 

The idea is that some initial (or ongoing) expenditure of resources like time, energy, talent, finance etc is rewarded now and/or in the future for the value it creates. Visual artists for instance have historically struggled to receive any royalties from secondary sales of their work. This not only disincentivized would-be creatives (who instead pursue other fields), but disenfranchises those who earn success but can never fully realise enough of a share of the value they are creating to support themselves and their families.  There very few industries where you need to be in the top 5 - 10% to live from the proceeds of your profession. 

Smart contracts - trustless programs stored on a blockchain that run when predetermined conditions are met - promise the end of this injustice

The beauty and purpose of owning an NFT is that it’s on-chain and decentralised. Your NFT is in the custody of your own wallet, and is not tied to any marketplace or middle men. For instance, buy a tezos NFT on objkt.com and you can view it on or one of the mirrors.  

This is one of the guiding principles that sets Web 3 applications apart from centralised Web 2 applications. You could not view a tweet in its native form on facebook for instance, though suboptimal less scalable workarounds are possible (posting screenshots for instance).

The norm that has been established across the NFT space is that, when encoding the parameters of the smart contract that underlies an NFT, a creator may set a royalty that will accrue to them in perpetuity on all secondary sales of that asset. This allows artists to profit from the increasing value of their work over time, and to invest in ways to facilitate this appreciation. 

The issue with this, as it stands, is that there is no way to guarantee NFT buyers do not (even inadvertently) cut out the creator in a way smart contracts are supposed to nullify. The only reason this is possible is because the creator’s royalty is tied to the marketplace

The creator cannot prevent the buyer from listing their NFT on a different marketplace to the one it was minted from, which removes the royalty from the future sales. The same goes for private sales as well, which often occur in an effort to avoid the transaction fees associated with listing or selling an NFT. This second problem is much harder to solve, but similarly cuts out the creator’s royalty payment as the NFT is transferred directly to another wallet (rather than being sold as part of a transaction) in exchange for crypto being sent directly also - sometimes through a trusted third party or escrow service. 

Popular narrative would have us believe that the creator royalty is coded into smart contracts, and finally there is a solution to the status quo where giant pools of unmatched royalties ($424m forked over in Feb 2021 by a number of providers) are not distributed to creators. 

However this narrative is not exactly accurate, with only a few, such as the Rarible DAO, starting to explore solutions [which so far remain limited to their own marketplace]. As such, NFT’s are sadly not yet the white knight they claim to be when it comes to artists getting their due. 

Forget the blockchain for a second, even in the music industry as we know it (Web 2), distributors are only just finally starting to add royalty splits to their payments. Revelator pioneered the approach in the last 5 years which has served to set them apart and differentiate their services to generate meaningful competitive advantage over their contemporaries. 

Prior to this norm, one trusted party (usually a label owner) would be responsible for manually collecting and distributing royalties on the behalf of all collaborators. This is an unnecessary intermediary step which reduces efficiency, elongates the process, and creates opportunities for malfeasance or error.

“That is not something I ever want to be a part of again.”  Anatu, Dojang Records Founder 

Creating art often requires collaboration. Smart contracts allegedly offer us a way to directly program automated splits in a fully transparent and trustless way.

EIP-2981 standard for Ethereum proposes “a standardised way to retrieve royalty payment information for non-fungible tokens (NFTs) to enable universal support for royalty payments across all NFT marketplaces and ecosystem participants.” 

Described as a “a minimal, gas-efficient building block for further innovation in NFT royalty payments”, this proposal says that due to increased gas costs and complexity, “it is on the royalty payment receiver to implement all additional complexity and logic for fee splitting, multiple receivers, taxes, accounting, etc. in their own receiving contract or off-chain processes.”

Its a start - royalties programmed into the smart contract. But again leaves it up to one of the artists to handle split payments manually each time there is a new sale of any of their works. 

• Can this be built? Almost certainly. 
• Would smart contracts that solve the splits problem and the royalties across marketplaces problem deliver the level of competitive advantages in Web 3 as we are seeing to early adopters and pioneers in Web 2? Open question. 
• Which blockchains are furthest along at meliorating these issues? Let us know!

For larger adoption of the amazing potential NFT’s offer, these royalty problems need to be addressed and fixed fast. As artists, musicians & label owners a clear priority is apparent:

A fair distribution version of NFT smart contracts should exist (and be adopted/accepted by all marketplaces) that confers automated split royalties which will always go to the creator(s), no matter which marketplaces the work is listed on.

Did you think this was already possible? Turns out it isn’t. 

“There are no centralised standards for minting, artists end up getting cheated out of their royalties. The minting process is inconsistent and fragmented, every marketplace operates differently and this creates the opportunity for counterfeit fraud and transactional fraud. A smart contract from Nifty Gateway, for example doesn’t know how to respond or react to a transaction that happens in OPENSEA because it’s been programmed, some would say deliberately designed, to only function within the borders of the marketplace,” Intellectual property lawyer Jeff Gluck (founder of CXIP)

Here’s the best workarounds we found so far:

• created their own feature which is open sourced “It might be the case that L2 transfers are so cheap that much of this is over-engineering for a given use-case.”
• Studio 721 is a “free, all-in-one tool for configuring, deploying, and verifying custom NFT smart contracts”. It supports key features used by generative art and PFP collections: multimint, token parameters, revenue splitting, token-gated access, and more. Studio 721 solves just one piece of the puzzle: contract development. It doesn't store assets or metadata, and it's not a design tool. The artist/developer can choose their favorite tools for the other parts of the value chain. 
• Manifold is a solution whereby the creator contract offers more control and flexibility relative to the default way to mint NFTs on a given platform like OpenSea. Options include picking between ERC-721 (single 1/1) or ERC-1155 (multiple edition) token types, as well as more dedicated options for split royalties, as well as batch minting. Splits are possible on a per-contract basis as well as per-token when you mint with manifold studio. 

• Hectic Nun has one of the most efficient solutions we’ve come across for encoding splits into the contract from the outset. Built on the tezos blockchain, as a mirror for the original (and now defunct) Hic Et Nunc platform, this is an easy solution built into the platform on a drop down menu entitled COLLABORATE * EXPERIMENTAL. Herein you can input all relevant addresses and split royalties accordingly.  

• Metaplex is one of the main NFT Protocols for Solana and is probably best used alongside a developer. It includes a storefront for individual mints (that integrates with Web2) as well as  bulk minting with its Candy Machine program. If you join the discord you can contact one of the admins (@Rusty 0ne) to help with splitting the proceeds from an initial mint / sale which has to be done with a custom contract. Revenue splits on secondary sales (royalties) are possible using their contract functionality. Building on-chain means creator splits and perpetual royalties can be hard-coded into the NFT, with automatic payouts when auctions end, and self-executing royalties upon resale. No paperwork, trust, or waiting for wire transfers required!
• HolaplexNFT storefront builder that utilizes Metaplex and the Solana Blockchain for easily customizable and configurable NFT storefronts. This is the most user friendly and easy solution which includes royalty splits

Useful links

• Reporting on the future of music & Web3
• Comparison of all nft platforms
• Comparison of royalty splits across platforms
• minting solution with no splits at the moment 

*Note. If you have access to a developer you can direct them to technical guides which solve the above, for instance if a token does not include revenue splits by default at the outset in the smart contract, the manual process entails pulling in the reference EIP implementation from the royalty registry and setting different recipient addresses per token manually. Or this tracks the progress of EIP-2981 implementation and adoption across a variety of marketplaces. Otherwise, hit us up in the comments with any other recommendations that creators can interact with directly and use to share their work!

CXIP Labs offer smart contracts that can communicate with any marketplace’s protocol. If an NFT minted through CXIP is uploaded onto a new platform, then the royalty agreement will be processed. CXIP’s smart contracts are also editable, so if a new marketplace comes onto the scene, the NFT will be updated to read that platform’s language. CXIP is also developing a verification mechanism for NFTs aiming to prevent art theft. There is a critique however that CXIP is very centralized by design which inherently gives the organisation total control over artist contracts. As such it did not make our list. 

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This article was co-written with anatu.eth. 

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