April 25, 2022

NFTs: An Opportunity to Revolutionize the Music Industry

NFTs: An Opportunity to Revolutionize the Music Industry

Non-Fungible Tokens, commonly referred to as NFTs, have taken popular culture by storm. In 2021, NFT sales were in the billions, marking a near 38,000% YoY (year-over-year) increase from 2020, according to a DappRadar report. Although over 80% of Americans have heard the term "NFT" thrown around, just 16% claim they understand what an NFT is and how the technology works. So, before explaining why I believe the technology behind NFTs can radically alter the music industry, I will clarify what NFTs even is.

The term "NFT" stands for "Non-Fungible Token." A fungible asset is something that is easily exchanged for a different asset in its class and will still hold the same value. For example, if I loaned you a $10 bill and asked you to pay me back one week later, I would not expect you to give me the same $10 bill I gave you. Everyone agrees that any $10 bill is "worth" 12 Euros, 550 Pesos, 9 British Pounds, etc. This is despite the fact your $10 bill would have a different serial code and is, in it of itself, a completely different item.

On the other hand, a non-fungible asset cannot be easily substituted for another asset in its class and hold the same value. Non-fungible assets include art, houses, and family heirlooms. These assets are unique, and not easily replaced with something else. For example, if I gave you a vinyl record of my favorite Beatles album "Abbey Road" and asked you to give it back to me one week later, I would be upset if you gave me a vinyl copy of "Revolver" instead. Non-fungible assets are not interchangeable with other, similar items.

The term "token" in "Non-Fungible Token", refers to the asset's digital certificate of authenticity stored on a secure, distributed, and public database. This database is called a blockchain. The blockchain is essentially a digital ledger that records transactions of digital assets. All changes are publicly made, and there are thousands of computers validating the authenticities of these transactions at once.

           

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Above is the "BoredApeYachtClub #1250" NFT transaction history, publicly posted on the Ethereum blockchain, and its transactions verified by thousands of computers.

Think of an NFT as a unique, or one-of-a-kind, authenticated digital file. These files can take the form of pictures, videos, audio, and more. The NFT itself is a record on the blockchain that stores the information of the digital file. You can publicly access information about this file on the blockchain, such as who published the NFT on the blockchain, who had previously owned it, how much they paid for it, and more.

NFTs also have an underlying "smart contract" potential built into their token feature. A smart contract is a form of contract coded to automatically execute when its conditions are met. Smart contracts terms and conditions are publicly posted on the blockchain, so before you buy an NFT you know what you are getting. The contract holds your money and the assets the other party guarantees in digital escrow until both parties have met their conditions. Because of smart contracts, NFTs can represent anything, as they allow you to attach tangible items and real-world utility to the token. I believe this feature of NFTs is the most important in the long run. For example, you can buy NFTs that grant you access to Lamborghinis in Miami, access to special events, and even the deed to a house

Now that you hopefully have an idea as to what NFTs are and some of their uses, I will prove the technology behind them has the potential to revolutionize the music industry. I believe NFTs will remove the need for record labels and serve as a new vertical for artists to make money. It is essential to clarify that I am arguing the technology behind NFTs has value, not that any individual NFT has value. Anyone can publish an NFT onto a blockchain, and just because they do that does not make their asset inherently valuable.

To set the stage, a record label has two main functions: financially supporting artists through their recording process and promoting their music. Assistance in these areas is why aspiring artists decide to partner with record labels, and sometimes the partnerships can be highly beneficial for an artist's career. Being a musician is expensive, and most people do not have enough capital to support their artistic endeavors alone. "Making it" in the music industry often requires you to record in expensive studios, hire expensive managers, and spend considerable time organizing events. That is why, for a portion of an artist's future revenue, record labels will financially support artists they think will become popular. In addition to paying for an artist to record, they promote their artist's music. Record labels pay to advertise their artists on radio stations, Spotify, and other platforms to increase their reach and popularity. Although financially supporting aspiring musicians sounds like a noble cause, labels brutally take advantage of most artists and NFTs can change that.

Since the music industry transitioned from selling physical copies of music to digital streaming, it is nowhere near as lucrative as it used to be for both artists and labels. In fact, the industry's net revenue has shrunk by more than $100 billion the past 20 years. According to Fox Business, Spotify pays its 11 million artists just $.003 for each stream. Since 87% of these Spotify creators have under 10,000 monthly listeners, money generated from streaming revenue is almost always negligible compared to their expenses. In Rethinking the Music Industry, Cambridge researchers performed an evaluation of the global music economy to find inefficiencies. In the report, John Williamson stated, "Many artists are not compensated fairly because they enter contract terms that are designed for physical music formats, not streaming services." (Williamson, 7) Williamson is communicating the fact many labels use roughly the same terms and conditions today as they did before the rapid adoption of streaming. Since the labels are nowhere near as profitable as they used to be, they are trying to minimize losses by entering artists in contracts that prioritize themselves. These contracts pay the artist in revenue from physical copies and sell their stake of streaming revenue short. By drafting a contract that was designed for the sale of physical copies, labels are knowingly taking advantage of artists. This exploitation often results in labels taking more than 75% of an artist's revenue.

The US recorded music market in a long-term perspective, 1990-2016 | Music  Business Research

Since the industry transitioned from physical copies to streaming, net revenue has decreased by over $100 billion since its peak in 2000.

Unfortunately, just because record labels are selfish does not change the fact artists still need money to record music, promotional assistance, and a manager to organize events. Historically there has been no option but partner with a record label, as it has been one of the only ways to raise money for music production. In Ilan Biela's paper, titled The Rise and Fall of Record Labels, she explores the problem with labels and goes in depth about how they take advantage of artists. For example, if an artist's record goes "gold", meaning they sold 500,000 copies, the artists would still make next to nothing. She breaks down how artists would get paid, saying,

"500,000 Albums sold at a wholesale price of $12.05. Gross Revenue of $6,025,000. Typical Artist Royalty rate is set at 14% which equates to $845,000. Touring and Recording Expenses of $300,000 withheld. Total Payout to artist is only $100,000. Artist receives $0 in first payment due to reserve against returns"

(Biela, 22) Biela then notes that 5-10% of total records shipped are given out for free, radio royalties are withheld from artists because they are considered "promotional", and the use of digital formats is significantly less expensive to produce. This resulting in labels putting an almost insignificant amount of money down. An unfair system, yes, but that is not all. Not only are labels financially taking advantage of artists, but they are also limiting their creativity. A record label has the final say on everything "musically related," and can change whatever aspect of an artist's music they want. The music industry has needed disrupting for years, and I believe NFTs are finally here to do that, by erasing labels.

When looking at a record labels two main functions, fundraising and promotion, it is clear NFTs provide great alternatives. Let's start by looking at how NFTs can change the fundraising process for artists, and use a made-up band called "The Posters" as an example. Instead of raising money through a partnership with a record label, The Posters could sell 20 NFTs that guarantee .25% of their future streaming revenue. By constructing specific terms and conditions on smart contracts, they could guarantee this to investors. Let's also assume they have fans who really believe in their work and the price of the NFT gets valued at $1,000. Just because The Posters fans believe in them, they managed to raise $20,000 by giving up just 5% of their future revenue. On the contrary, record labels would usually take over 75% of their revenue. NFTs ability to fundraise campaigns with smart contract capabilities offer a much more equitable way for artists to raise money and the band is supported by its fans.

That said, labels are not just good for capital, they are good for promoting music too. Thankfully, NFTs have the power to, organically, offer more promotion than labels can. By using NFTs to seek investment, the band is also inadvertently hiring 20 promoters. As the number of people invested in the band's future success increases, the number of people who have motive to spread the word about how great the band is increases. In The Business of Community,scientist Sarah Schaeffer stated, "If a user enjoys your product, offering incentives to share it will lead to more organic growth." (Schaeffer, 11) Her advice is unbelievably intuitive. By giving people who already enjoy something an incentive to share it (in this case, a monetary incentive), the likelihood they do significantly increases. Instead of a label blasting The Posters tunes wherever people are listening, a motivated fan base creates a more dedicated and personal community around the band. Not to mention, the posters may have leftover capital from fundraising to pay for traditional advertising.

NFTs geared toward promotion and fundraising offer the main functions of labels and therefore could erase them. But NFTs are not just capable of fundraising and promotion, they offer a more equitable way to do it. By fundraising through NFTs, a band can save more than 50% of the revenue they used to be giving away. They also foster a community of involved listeners. Just because NFTs can be used for these reasons, does not mean they are not applicable in other areas too.

If you have ever been to a Grateful Dead concert, you know community is an extremely important aspect of music. Deadheads, Beliebers, and Beatle-maniacs are looking for ways to support their favorite artist. But right now, beyond buying a t-shirt or going to a concert, there are not many options. That is why giving fans a true incentive to share your music could lead to significantly faster growth. However, NFTs offer a new merchandising approach too. In the increasingly digital world that we live in, digital assets are starting to mean just as much as physical assets. For some, their most prized possession is a blue check mark, follower count, or Fortnite skin. Humans are communicative animals, who like to show things off. Since the internet is a great place to show off, many NFTs focus less on utility and more on digital identity and social currency. That is why NFTs have the potential to unleash a new vertical of revenue for artists. By selling digital art, unreleased music, and other collectible items as NFTs, artists can give fans digital items to show off in the virtual world.

NFTs can serve a new asset class for creators, a promotional assistant, fundraise projects, and more. Not to mention, increased accessibility and equity makes right now a better time for their adoption than ever. One of the most revolutionary aspects of the internet is the amount of power it has given to the individual creator. Anyone can share their work to the public, receive feedback, and even go viral. In The Music Industry: Music in the Cloud, Patrik Wikström stated, "Increase connectivity of the audience network, combined with various kinds of music production tools enable "non-professionals" to create, remix, and publish content online." (Wikström, 4) The points Wikström mentioned indicate the barrier of entry for sharing music has become drastically lower, and all because of the internet. Tools like SoundCloud, Garageband, Sound Lab, and Bandcamp allow everyday people to make extraordinary music. So much so, that according to Statistica, there has been a 357% increase in "musicians" in the past five years. With so many new musicians and making it big in music still being so difficult, NFTs can help independent artists with small followings take it to the next level.

Although I believe NFTs will radically alter the industry, many people believe the technology will not see any form of long-term adoption. Their first issue with the technology is the volatility of cryptocurrency. In The Non-Fungible Token Market and Its Relationship with Bitcoin and Ethereum, Lennart Ante states, "A drop in cryptocurrency value means lower purchasing power, which is likely to depress the NFT market. Conversely, when cryptocurrencies appreciate, investors tend to look for new or alternative investment opportunities" (Ante, 44) Since NFTs are native to blockchains and cryptocurrency, volatility can be an issue. This is compounded by the fact that most reputable NFTs are sold on the Ethereum blockchain, known for its volatility. However, stable coins serve as a great alternative and many blockchains operate using them. A stable coin is a digital currency tied to the value of something else. For example, PAXG is a gold-pegged cryptocurrency, meaning its price moves with the price of gold. Stable coins are less volatile than most crypto, as they are usually tied to assets considered, well, stable. Most stable coins still feature properties like decentralization, security, and anonymity. Publishing your NFT on the blockchain of a stable coin could eliminate the volatility other cryptocurrencies are notorious for.

Another concern with NFT adoption is the lack of market regulation. The decentralized internet does not have the most extraordinary reputation, as initially, it was mainly used to buy drugs and other illicit goods on the internet. The most famous marketplace of all is the now-defunct Silk Road. In 2011, Ross Ulbricht introduced thousands of users to Bitcoin and the power of blockchain technology by creating the platform, which anonymously connected drug suppliers with drug buyers.

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The image above shows how the Silk Road used decentralized technology to foster the buying and selling of illicit goods.

While anonymity and decentralization can lead to crime, it is essential to note that many US crypto exchanges are federally regulated. Thus, they are not decentralized at all. Usually, cryptocurrency wallets are random numbers and letters, but your wallet address is tied to your name and social security number when federally regulated.

If more artists adopted NFT technology, I believe the music industry would thrive as a place where artists make more money and have complete creative control over the music they produce. I also think fans would feel a deeper connection to their favorite band. I also think NFT's ability to help artists get off the ground and be more profitable erases the need for labels. Digital merchandise as a new asset class and revenue stream would only increase profitability for the bands more. At the end of the day, NFTs would make the music industry more equitable, profitable, and foster community.

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