Fractional ownership innovates the financial system and opens up new investment frontiers for businesses and individuals. It can help investors diversify their portfolios and invest in expensive assets that otherwise might be out of reach. That might often be the case with priced-out NFTs that suffer low liquidity.
NFT fractionalization can change that, letting anyone own a share of an original NFT token. In addition, investors can use a fractional NFT ownership approach to buy shares of digital and real-world items, like real estate properties.
How, you may wonder? Read the article and find what fractional ownership is, how it works and what benefits it brings to owners and investors.
But let’s start with the basics.
Fractional ownership: What’s the appeal?
Fractional ownership is an investment approach that splits the cost of an expensive asset among a group of investors. The concept gained popularity in 1986 when Richard Santulli introduced his vision for buying shares in business jets. It lets the company clients enjoy the benefits of jet ownership without spending a fortune.
Since then, fractional ownership has become a trendy business model across a broader set of asset classes. This sharing economy brought new opportunities and opened investment in high-value items for a wider audience.
Among the popular use cases of fractional ownership are:
- Stocks. Buying ownership in companies is one of the most common and well-known use cases. It lets investors purchase a partial ownership stake in a company and receive certain benefits. Etoro is one of the platforms that lets you invest in almost any company you love.
- Real estate. Platforms like Roofstock allow investors to buy shares of traditional investment properties and enjoy the potential economic and tax benefits of rental home ownership.
- Art. Masterworks lets investors purchase shares in fine art pieces, including multimillion-dollar paintings, and get proceeds when the painting sells.
So what makes this concept so attractive?
- Fractional ownership lowers the barrier to entry, enabling small- and mid-tier investors to own a piece of a larger asset they might otherwise find unaffordable.
- If the general asset increases in value, the value of the fractions does as well, just like owning shares of stock in a company.
- Fractional ownership lets co-owners share usage rights, income, and any other benefits an asset can offer.
No wonder the concept of fractional ownership has been branching to include fractional shares of NFTs.
What is fractional NFT ownership, and how does it work?
Fractional NFT (F-NFT) ownership revolutionizes the fundamental architecture of non-fungible tokens, offering percentage rights to an asset. Thanks to F-NFTs, buyers who were previously priced out can invest as partial owners of famous NFT projects, like CryptoPunks, Bored Ape Yacht Club, Cool Cats.
NFT fractionalization and redemption
All fractions initially belong to the original NFT owner and can be bought and sold on secondary markets. A fractionalized NFT becomes a tradable token with its value directly tied to the value of the original NFT.
The mechanics behind NFT fractionalization are pretty simple:
- Owner locks their NFT into a smart contract with instructions to fractionalize.
- The smart contract does its magic and breaks the NFT into the desired number of fungible ERC-20 tokens of equal value.
- The owner sets a reserve price required to redeem the entire original NFT.
Fractionalization is a reversible process. This means you can turn fractional NFTs back into a whole. A smart contract that fractionalizes an NFT also offers a buyout option. To that end, some platforms initiate an auction that lets a fractional NFT holder purchase all the fractions. Others only require a fractional owner to pay an exit price to unlock the original NFT. In both cases, the whole fractions buyout leads to NFT redemption.
Now that you know how fractional NFT ownership works, let’s discover why there’s so much excitement about it and whether there are any pitfalls.
Pros and cons of fractional NFT ownership
Fractional ownership offers unique opportunities to unlock NFT liquidity and build communities around popular NFTs. It increases market participation by making it easier for smaller investors to buy in. This enlarges, diversifies, and positively contributes to the NFT market.
Benefits of fractional NFT ownership
Fractionalization is beneficial for NFT owners and investors.
Here are the benefits NFT owners can reap by fractionalizing their assets.
- Asset liquidity. Fractionalization is the quickest and easiest way to raise asset liquidity, which is often an issue inherent to costly NFTs. Selling fractional tokens for a lower price makes NFTs ownership more affordable. They also attract investors’ interest because they can exchange each fraction of the NFT on both centralized and decentralized exchanges.
- Increased market participation. Fractionalization allows creators to promote their work and owners to raise interest in their assets and earn money while preserving a portion of their ownership.
- Curator rewards. Owners who fractionalize their NFTs can enjoy a passive income channel from annual curator fees from the NFT marketplace. Marketplace governance usually determines and regulates the maximum fee to prevent curators from setting reckless charges. In addition, the NFT holder can lock up their fractional NFT on a platform or protocol to receive staking rewards, just like earning interest on funds at a traditional bank.
And here is what fractional ownership brings to investors.
- Accessibility. Fractional ownership lowers the barrier to entry for owning a percentage of expensive NFTs. This lets investors with limited funds buy shares and gain some local governance rights on the platform concerning their particular fraction. For instance, the famous Doge meme NFT was initially purchased for $4 million in June 2021. After the owner fractionalized it into almost 17 billion $DOG tokens, its value rose to $12.2 million with only 13.38 % of the supply left.
- Price discovery. Fractionalizing an NFT makes it easier to accurately determine the market price for an NFT with a limited or no transaction history. Because multiple investors can bid on the asset’s fractional shares, market demand helps estimate the overall value of the NFT.
- Rich portfolio. Buying fractions lets investors make multiple bite-sized investments to enrich their portfolio with some valuable and rare pieces.
Drawbacks of F-NFTs
Before jumping on the F-NFT bandwagon, make sure you know the possible drawbacks.
- Regulatory issues. Fractional NFTs provide partial NFT ownership, which the US Security and Exchange Commission (SEC) sometimes views as fungible securities — interchangeable and tradable financial assets used to raise capital. Owners are legally required to register such securities with the SEC, which means sharing complete seller information and information about the offer made to investors.
- Cyberattack risk. Smart contract technology carries out the fractionalization process, so any error in the smart contract can lead to data leakage and expose everyone’s personal information who’s a part of the contract.
- Auction buyouts. If a potential buyer or co-owner triggers an NFT buyout auction, other shareholders might be forced to sell their fraction even when they don’t want to. To keep their fractional ownership, they must outbid the potential buyer’s bid amount. If they don’t, they’d still get paid for their share, so they wouldn’t lose money but would no longer own any part of the NFT.
Despite these potential drawbacks, the fractional NFT market presents many opportunities for innovation. To validate that, let’s look at some industries where F-NFT ownership has proved to be a good decision.
Fractional NFT ownership disrupting industries
A recent ADDX and BCG report predicts that asset tokenization will expand into a $16 trillion business opportunity by 2030. Luxury brands, fine art, real estate, decentralized autonomous organization (DAO) memberships, and even alcoholic drinks like whiskey (yes, you read that right!) are among the domains where fractional NFT ownership can become a common investment offering.
Here are the industries that can benefit the most:
- Collectibles. Fractionalization makes buying NFT assets as collectibles much easier for fans and small investors. CyberPunks recently fractionalized a collection of fifty costly NFTs, which turned out to be a tremendous commercial success. Amazon wasn’t far behind when it invested in Dibbs’ fractional NFT ownership to lower the barrier to entry.
- Art. NFT fractionalization lets digital artists break up their NFT quickly and sell their shares to investors. For instance, last year, famous digital artist Grimes gave her fans a chance to own an affordable part of her Newborn artworks and sold them as 100 F-NFTs.
- Music. F-NFTs can help recording artists earn more by fractionalizing their music albums and selling them directly to fans. No more sharing profits with record labels. Platforms like Royal and Sound.xyz let musicians sell their digital songs and albums and earn royalties for every stream. For instance, Tory Lanez’s sold one million digital units of a new NFT digital album directly to fans and sold out in less than one minute.
- Gaming. Trading in-game items through F-NFTs has a high chance of disrupting the gaming market. Star Atlas, an online metaverse space game, is planning to try F-NFTs by fractionalizing digital art that explains the backstory of the game and certain in-game NFT assets, like spacecraft and planets.
- Domain names. The fractionalization of domain names allows small investors to buy shares of premium and rare names. For instance, domain broker MediaOptions partnered with alternative asset investment service RallyRD and broke the domain name Directions.com into 14,000 shares. All of them were sold out in only fourteen minutes for $10 each.
- Real estate. Fractional NFTs let buyers split asset ownership cost and own parts of digital or even real-world properties. Think of it like buying an apartment or an office in a commercial building. When the apartments or offices are rented out, investors can receive passive income proportional to the number of shares they own. Besides, tokenizing real estate properties let owners cut costly, paper-based, and time-consuming processes.
- Sports. Fractional NFTs can help accelerate the future of fantasy sports on blockchains. A good example is TradeStars, a fantasy sports platform that tokenizes the performance statistics of real-life events through fractional NFTs.
These are only a few use cases that demonstrate how F-NFTs have or will revolutionize markets, opening new possibilities for revenue streams for investors. Sounds tempting, right? So let’s find out how you can build F-NFT ownership on the blockchain.
Steps to implement fractional ownership through blockchain and NFT
Implementing a fractional NFT ownership project presents many opportunities and throws challenges. In addition to business logic, feature set, and UI/UX designs, you also need to consider certain technical aspects. Here are the main of them.
A well-defined tokenomics is essential to the project’s success. It outlines the factors that impact a token’s use and value, including:
- Creation and distribution of tokens
- Token utility
- Supply and demand
- Incentive mechanisms
- Transaction fees
The tokenomics is greatly connected with the features of your project and is difficult to change (as all the rules are hardcoded). So it’s important to find a trustworthy partner to do this task properly.
Developing smart contracts
If tokenomics is the skeleton of your fractional NFT ownership project, smart contracts are the brains that make it work. A smart contract is a script on the blockchain that is programmed to produce a specific result automatically when predetermined conditions are met.
These smart contracts help you define rules to mint your NFTs, perform selling and buying operations, etc. So it’s vital to audit the code of smart contracts and test it for vulnerabilities.
Building the project’s ecosystem
Unlike the two previous steps, this one will differ depending on project specifics. Let’s take, for example, a real-estate marketplace and list the essential components of building it on the blockchain.
- Listing and tokenizing property. You need to decide which information a user would need to submit a listing request. This step involves executing a smart contract with fractionalization instructions and placing all tokens in the owner’s wallet.
- Investing in the property. When an investor shows interest in the property, a trading platform must identify and verify legitimacy. To be whitelisted, they must pass traditional anti-money laundering (AML) or other online verification. After an investor releases payment for the share(s) they purchase to the property owner’s wallet, the platform automatically transfers the property tokens to the investor.
- Creating a profit distribution system. Smart contracts offer the perfect solution to maintain an e-property ledger and automate the profit distribution system.
An experienced partner like Unicsoft can take care of all these technical aspects and build a reliable fractional NFT ownership project with a proper protocol resistant to token loss or minority obstruction. Rest assured that the original NFT can be reconstituted while being fair to all owners of the NFT’s fractions.
Fractional NFT ownership opens up new opportunities for investors, owners, and the community by lowering the barrier to entry and letting interested parties own a share of costly NFT assets. It boosts market participation, creates NFT liquidity, and lets shareholders receive passive income. F-NFTs have already disrupted the art, gaming, and collectibles market and have all the prerequisites to become the mechanism of choice for selling real estate, music, and luxury items.
However, possible regulatory issues and cyberattack risks make choosing an experienced blockchain development company essential. Unicsoft has your back with a team of experts versed in blockchain and NFT technology. Contact us, and we’ll help you reap all the benefits of fractionalizing your NFTs.