September 13, 2022

Collapse Of The Apes - The Bored Ape Yacht Club Virtual Land Sale Fiasco

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In Spring 2022, Yuga Labs, the creator of the widely popular Bored Ape Yacht Club NFT collection, launched a sale of virtual land deeds for its metaverse project, Otherside. Almost instantaneously, Yuga Labs made approximately $320 million selling it's Ethereum-based virtual land deeds, which Yuga Labs refer to as "Otherdeeds," for its 55,000 parcels of virtual land in Otherside. Unfortunately for many, the sale did not go as smoothly as expected. The land sale frenzy made the Ethereum blockchain nearly unusable for several hours and likely led to the permanent destruction of a record $158 million worth of Ether. The overworked Ethereum blockchain in turn led to record high gas fees, ranging from $6,500 to as much as $14,000 in gas fees (fees that users must pay as part of the price for any Ethereum transactions, include NFTs) alone, more than double the initial cost of an Otherdeed NFT itself. The initial price of an Overdeed NFT was set around $5,800 before skyrocketing due to the surge in demand and value of ApeCoin.

Perhaps the most significant consequence of the Otherdeed sale, was the thousands of dollars in gas fees lost by potential purchasers who had their transactions fail. Yuga Labs offered refunds to all impacted users, but these refunds failed to account for gas fees and other amounts lost by users who sold other crypto assets to be able to afford the Otherdeeds.

With many people feeling duped and the collective public outrage of the Otherdeed sale, it is fair to ask how Yuga Labs escaped (at least as of the date of this article) without any governmental intervention. The simple answer is that there is a lack of oversight of these sales by the federal government and state governments. The implementation of sensible rules and regulations over these transactions could help insure accountability and prevent fraud. One example of a potential framework for such regulation could be the real estate syndication rules enforced by the Securities Exchange Commission (SEC).

A real estate syndication is a partnership between several investors to complete a real estate project. There are two main parties to a real estate syndication, the syndicator(s) and the passive investor. Real estate syndicators, also referred to as general partners (GPs), are responsible for marketing, structuring, managing and operating the real estate syndication. The passive investor's role is to provide the capital required to acquire and/or develop the property in exchange for an ownership interest in the property. Before investing in real estate syndications, the passive investor must meet the requirements to be labeled an "accredited investor" or sophisticated investor." An accredited investor includes anyone who: (i) earned income that exceeded $200,000 (or $300,000 together with a spouse or spousal equivalent) in each of the prior two years, and reasonably expects the same for the current year; (ii) has a net worth over $1,000,000, either alone or with a spouse or spousal equivalent (excluding the value of the person's primary residence); or (iii) holds in good standing a Series 7, 65 or 82 license. A sophisticated investor must have in-depth knowledge and experience, making them eligible to become passive investors because they can accurately evaluate the merits of a prospective investment before closing the deal. Obviously, these rules eliminate a portion of the general public from investing in real estate syndications, however the general theory behind these rules (whether sensible or not) is that passive investors and sophisticated investors are in a better position to evaluate the risks associated with the real estate transaction.

The verbatim application of the SEC's real estate syndication rules to massive NFT sales may be a bit overkill, but these rules, along with other rules used in the marketing and sale of securities, can be used to create a framework for new regulations that can be applied to these sales. The goal of any new regulations in this sector should be to prevent fraud, to provide adequate protections to consumers in the event of another failed sale such as the Overdeed sale, while not restricting the general public's access to these transactions.

ALM expressly disclaims any express or implied warranty regarding the OnPractice Content, including any implied warranty that the OnPractice Content is accurate, has been corrected or is otherwise free from errors.

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