NFTs: Monty Python and the Holy Greed?

Ever since Nintendo invented them, high platform fees as a percentage of game developer revenue have suffocated most games like a strangler fig sucking the life out of its host.

These practices have turned both the console and mobile game industries into red oceans where less than 1% of published games turn a profit. The fees also raise prices to the consumer; so they’re bad for everyone except the monopolies that control the platforms.

Sadly, this business model is showing up in the plethora of new Web3 platform projects. Some think they’re going to be the “Next PlayStation”, and want 30% of any kind of game developer revenue. Others want less, but it’s still far removed from what a stable, growing economy would require. Frankly, these are “feudal systems” that even Monty Python would avoid. I’ll use a real estate analogy below to show that even lower percentages can turn out to be unfairly high and are bad for both consumers and developers.

We already have virtual real estate in Web3 projects like Decentraland and The Sandbox. A key attraction about NFTs is true ownership and the freedom to buy and sell peer-to-peer on multiple marketplaces, not unlike real world property. Several platforms propose transaction fees ranging from 6% to 30%, and in comparison to 30%, some developers may think 6% is pretty reasonable in comparison. But the first problem, of course, is that the Web3 platform that provides the marketplace may take up to one third of these transaction fees. Is that fair? Let’s examine how a typical market transaction would play out.

There are four roles involved:

1. First, a game developer invented, designed and created a game with NFTs that can trade on that market.

2. A consumer (the seller) then bought an NFT in the game and did the grinding and crafting to make it more valuable.

3. After that, another consumer (the buyer) bought the NFT on a marketplace website.

4. A Web3 project created a marketplace website and will charge a % fee against the value of the transaction.

These roles are very similar to what happens in real world property development and sales.

A developer must invest heavily in designing the project and making the buildings, and this is capital intensive and risky. A buyer must put capital at risk, and the property could decline in value. There is a lot at stake for the developer and the buyer. For real estate agents, no capital is required and there is no meaningful risk, other than losing a deal to a rival agent. In the real world of property, the MLS listing service for decades has operated as a platform monopoly by being the pathway to potential customers, but from the standpoint of capital requirements and risk, building the MLS system was comparatively simple — it was mostly a matter of complicity among the real estate agents, so the agents could have both a simpler job and charge higher fees. Let’s now take a look at how real estate business models work out in the real world, and consider how to adapt such a similar model to Web3.

Whoever develops and builds a house has created by far the greatest value, and may have incurred out of pocket costs in the millions. Without them, there is no home and no appreciation and no fees. Then it gets sold, and there is a 6% commission that is shared by the brokers for both buyer and seller. Suppose I spend $700,000 to buy land, build a home and then I sell it for $1,000,000 and earn a $300,000 profit, which drops to $240,000 due to the $60,000 agent fees.

Suppose the property then grows in value by perhaps 10% every five years, which I will simply round off to $100,000. Let’s presume it is sold to a new owner every five years. The first time this happens, the 2nd owner has made a $100,00 gain over the original cost but pays the real estate agents $66,000 in fees (6% of $1,100,000), so the homeowner’s gain is reduced to $34,000.

After 25 years the home has been sold 5 times. The biggest value contribution came from the original developer who bought the land, architected the building, got it developed and built and sold. The developer needed a lot of skills and capital and took big risks that deserve their net profit of $240,000.

There have been 5 owners that bought the home after it was finished, and each owned it for five years before selling it. These owners invested their capital in the home and put it at risk for a five year period. These 5 owners each sold at a price $100,1000 higher than they paid, so the home sales were for $1.1M, $1.2M, $1.3M, $1.4M and $1.5M — a total volume of $6,500,000 in home sales revenue vs $6,000,000 in original home purchase costs. In total, the owners made a gain after 25 years of $500,000 that they divided 5 ways, each grossing $100,000. But they had also to pay the 6% transaction fees on each of the 5 sales, which added up to total fees of $390,000. The total net for the 5 owners, after 25 years, is $110,000, or an average of $22,000 each.

Meanwhile, there were 10 agents — 5 representing the 5 sellers and another 5 representing the 5 buyers. There are these $390,000 in fees (with very little overhead expenses — they just have to email you some links to housing you may want to buy, and drive their car to some showings of the house). The agents in total have a net of $390,000, more than the original developer, or $39,000 each. They didn’t have to provide capital or take any risk, but every agent made more money than ever owner who put up capital and had tangible risk.

Let’s add up the supposed fairness of this “value creation”:

Developer/creator = took a lot of risk, put up a lot of capital and did a ton of work, for perhaps 2–3 years and got $240,000.

Each owner = put capital at risk for five years and got $22,000. Seems fair compared to buying bonds, and they made this profit without having to be a professional expert like the developer who took all the risk.

Real estate agents = took no risk, invested no capital, sent a few emails and went to a few meetings, and as a group took $390,000 in fees, or $39,000 each.

Sooo… the developer got $240,000, the owners in total only $110,000, and the agents made $390,000 — more than the developer and the owners put together. Why? Because real estate agents got overpaid for numerous transactions by colluding to create control of the market through the MLS service. Agents conditioned developers and owners to be as comfortable as frogs in a pot, heating up to be “served”. These are the kinds of people Ayn Rand called, “the looters”. Market participants can’t avoid the fees, which, as single-digit percentages may not seem terribly harmful, but we clearly don’t realize how it all adds up.

Retailers know how things add up, and how much margin matters. That is why some retailers take cash only, to avoid paying a credit card company an even smaller percentage like 2%. Retail has been around for thousands of years and has learned how to count and what it takes to survive. VISA knows, too — even with lower % fees, the market valuation of VISA Corporation is $460 billion, perhaps worth more than The Holy Grail.

Web3 is in its infancy. As a baseball fan, I’d say we’re in the top of the first inning.

But we need to think through the math and make sure our ecosystem is a win for all participants and that each contributor is fairly rewarded for the capital, time and risk they had to manage. I have no doubt that game developers will drive things with their creativity, innovation and passionate determination. But they need to be properly rewarded and must avoid being exploited by self-centered platform companies that make big promises while only delivering another kind of feudal system. Run away!