NFTs: A Brief Introduction

NFTs — or “non-fungible tokens” — are unique digital markers representing a digital asset's ownership. Sounds complicated, right?

Think of an NFT as the deed to a house: a deed is just a piece of paper naming one specific house's location and the person who currently owns it. Though billions of people have deeds, each one is unique and corresponds with a particular house. If you trade house deeds with someone, you're also trading the property behind it.

If you understand this, then you already know the basics of an NFT!

An NFT is the digital “deed” to a digital asset, in the same way that a deed corresponds to a specific house. This asset can be anything: a music file, collectible kitten artwork, someone’s flatulence, timestamped location records, or any combination of data. In a recent company presentation, Sascha Hanse described five situations in which NFTs are most widely used:

1. Collectibles
2. Collateral
3. Derivatives
4. Badges
5. Authorization

You might be wondering what makes an NFT better than, say, a paper deed of ownership. NFTs are ideal because they are built on the blockchain or digital ledger. All ownership records are publicly documented across a distributed network, are much more challenging to forge or counterfeit, and cannot be destroyed or replicated.

As we examine the five common use cases, remember that the main characteristics of NFTs are that they are unique and represent ownership.

NFTs as Collectibles

NFTs are most often described as collectibles because each token is distinct, like rare Baseball or Magic cards. One of the most famous applications of NFTs as collectibles is CryptoKitties — digital cats that are all unique with varying features and rarity.

Do CryptoKitties have any use beyond being collectible pieces of art? Not really, though they may be used as collateral, which we will cover next. But while we’re on the topic of usefulness, what's the inherent practicality of your old comic book collection that hasn't been touched in years? Monetary appreciation? Sentimental value?

NFTs are the digital version of anything you would collect in the physical world. Though, they would eliminate any worries you may have about buying a fake Da Vinci painting.

They work exceptionally well as digital collectibles because they prove that you are the legitimate owner of a specific, original (though, digital) asset — whether that's a Crypto Kitty or a $115,000 work of art.

As Collateral

Companies like Centrifuge are allowing people to use NFTs as collateral. By turning their invoices into NFTs, they can connect them to “smart contracts” and use the NFTs as collateral for borrowing or lending money, in the same way that someone would use a physical object of value as collateral at a bank. A smart contract is a self-executing digital contract with the terms of the agreement between buyer and seller directly coded into the contract. This guarantees payment or automatic transfer of the collateral when the contract is violated.

Let's say that you're a freelancer who wants to borrow some money from your friend. They give you money. In return, you give them a smart contract that ensures that, if you miss a repayment, they will receive your NFT client invoices (meaning your clients will send money to your friend instead of you). It's a more trustworthy borrowing and lending mechanism which guarantees that someone will pay the lender—automatically, without any awkward conversations—and whoever holds the NFT gets paid from the invoices.

As Derivatives

NFTs can also work as derivatives. Derivatives are a contract between two or more parties that obtains its value from fluctuations in the underlying asset. The most common context in which you’re probably familiar with derivatives is through insurance policies; your insurance contract is a derivative contract in which the underlying asset is the value of your losses. Insurance companies make educated bets on the value and cost you will pass on to them.

You may be thinking, “With everything I’ve learned about NFTs, I bet companies could easily turn these derivative contracts into NFTs.” Well—they do. yInsure buys insurance cover and then resells it in the form of NFTs. Have a personal policy? Your NFT links to you as the owner of that policy. For those with family policies, their NFT insurance points to multiple people as owners. The only thing that changes is the system behind your insurance policy that ensures payment and coverage through the blockchain and smart contracts.

While it's easiest to understand using NFTs as derivatives in the context of something so familiar as insurance, we can similarly use them for more traditional derivatives like stocks and bonds, if Scorsese is more your scene.

As Badges

Badges and certificates show that you've achieved something, been to an event, or attained some status. For example, when you reach a new level in Duolingo, finish university, or become a certified Pokemon professor, you receive a certificate or badge that proves your achievement. The problem with this is that each authority that awards badges and certificates must also verify them. Only one source can speak to a certificate’s authenticity, making it much easier to forge documents and fool people with a fake Time Magazine cover that helps you land a job as a senior Trump official.

NFTs can solve this authenticity problem. Every NFT badge held by someone would be verifiable through the blockchain because it is public. Every time you participate in an activity, you could receive an NFT badge to prove your attendance. This makes it much more challenging to forge a certificate or lie about event attendance because an NFT would automatically verify the badge’s genuineness.

For Authorization

Similar to their use in badges, NFTs can also be used for identity authorization, sort of like an ultra-verified username and password. Many websites now allow people to use their NFTs to log in. Similarly, for many Discord and Telegram channels, a specific  NFT must be owned to gain access. Because of their discrete nature, if you can prove that you own a particular authorization NFT, then your identity has been validated, and the group you are trying to join knows you are a legitimately authorized member, not just some random person with an internet connection.

How Does an NFT's Asset Move Between Owners?

Think of iTunes. Currently, when you buy an album on iTunes, you really buy access to the artist's album. iTunes holds the music file and gives you unlimited access, but not real ownership — you can't share or resell it.

NFTs work in a similar system with one key difference — ownership. If iTunes (or rather, iNFTunes) sold NFT albums, then the iTunes platform would hold the albums on their site, create the NFTs for the albums, sell the NFTs to customers, and then give the NFT owners access to their music. iTunes would allow whoever owned the NFT to listen to the corresponding album on their platform — because they own it. If you were to resell the album to someone else, you would no longer have access to that file; the new owner would.

This is exactly how Kings of Leon is selling their album using the YellowHeart platform. Copies of their album will live on the YellowHeart platform, but access will be given only to those who own the albums' corresponding NFTs. The asset is held somewhere on the internet, and the NFT that corresponds to it is the only thing that transfers between wallets.

How We're Using Them

After previewing just five use cases, you can see that there is vast potential for NFTs in so many situations, industries, and projects. NFTs can help bring trust to a variety of cases regarding ownership and authenticity. Ape Unit strives to make the world fairer — and we see NFTs as a perfect tool for moving towards a more trusting future. Therefore, we are incorporating NFTs in projects in which we anticipate them providing significant value.

Our project Eventivize explores new feedback, monetization, and interaction mechanisms for the music industry. We are integrating NFTs into the Eventivize ecosystem as a form of digital merchandise and proof of attendance. Our ecosystem is designed so that everyone in the new events industry wins: artists, organizers, sponsors, and fans.

By building decentralized tech like NFTs into our projects, we strive to lay the groundwork for a more verifiable and, therefore, more trustworthy future.

For more info about our projects or questions you have about NFTs, please send us a message!

Ape Unit | office@apeunit.com

Eventivize | eventivize@apeunit.com |+49 16 089 923 20

Illustration by Catarina Horn
Initial Research by Sascha Hanse