Fashion’s Metaverse Reality Check | BoF

This article first appeared in The state of the art: technologyan in-depth report published by BoF and McKinsey & Company.

Pioneers in the metaverse have shown that there is a business case for fashion brands to invest in virtual worlds. Admittedly, a fully formed metaverse — consisting of an interconnected, virtual ecosystem that overlaps with or provides an alternative to physical reality — is not yet possible given technological limitations. But the experiments of brands with metaverse principles, such as virtual fashion, extended reality, gaming and non-fungible tokens (NFTs), show the impact that virtual activities can have if marketing and community building tools for fashion† Global spending on virtual assets reached approximately $110 billion in 2021 and is expected to grow at roughly the same rate as the gaming market to be worth approximately $135 billion or more by 2024.

The next frontier for leading brands will be to turn unproven technologies into sustainable revenue streams, effectively separating hype from reality. Over the next two to five years, fashion brands focusing on metaverse innovation and commercialization could generate more than 5 percent of revenue by investing in virtual operations today.

Looking beyond a five-year horizon, some optimistic observers expect virtual worlds to be massively accepted by consumers, giving the fashion industry its biggest opportunity since e-commerce. The bears predict that the hype surrounding the metaverse will fade if technologies fail to live up to expectations or users become reluctant to use virtual spaces as extensively as some business plans expect.

While it is uncertain whether a meaningful number of consumers will develop full-fledged virtual lives and spend most of their time in the metaverse, significant revenue opportunities will emerge for fashion brands.

The pace of adoption will be determined by technological progress, the interoperability between virtual environments and social acceptance. Tech players as well as fashion startups and brands need to develop technologies that help today’s unrefined virtual experiences evolve into mature, immersive realities. Mass consumer adoption can be a major hurdle: 78 percent of people who have already ventured into virtual worlds say they miss physical interaction when doing so.

As a result, many players will likely be reluctant to see evidence of commercialized use cases and tangible ROI before investing. For others looking to take advantage of the commercial opportunities, the greatest near-term income potential lies with virtual assets that can be traded, transferred, or used for payment. We identify two clear use cases for virtual assets with long-term potential:

AR mode and virtual skins

In virtual spaces and on social media platforms, the appetite for creating and customizing online identities is high: About 70 percent of US consumers from Gen-Z to Gen-X rate their digital identities as “somewhat important” or “very important” . A similar appetite for virtual goods can be found in China, where 70 percent of luxury consumers have bought or will consider buying virtual assets.

Some companies use augmented reality (AR) to allow users to modify photos and videos, and create digital skins to change the look of a user’s avatar. For example, digital fashion start-up DressX, which sells virtual clothing that can be attached to a photo and posted to social media, is partnering with brands like H&M to launch digital collections. Meanwhile, users on online gaming platforms like Roblox regularly update their avatars with new skins, in some cases even daily. The potential earnings from in-game outfits and accessories can be significant. Gucci sold a virtual version of its Dionysus bag for the equivalent of $6 on Roblox, which later led to bids exceeding $4,000 per bag when resold on the second-hand market.

The multi-billion dollar gaming market will continue to provide opportunities for fashion – the gaming skins market could reach $70 billion by 2024, up from $40 billion in 2020. Brands will need to turn to established gaming and platform partners to to push.

Over the next two to five years, fashion brands focusing on metaverse innovation and commercialization could generate more than 5 percent of revenue by investing in virtual operations today.

Still, as with any nascent technology, there are risks. First, brands – especially those in luxury – need to be aware of selling “cheap” digital items that could weaken the exclusivity of their brand image. AR technology is in a relatively early stage of development, where glitchy or unwieldy applications can undermine the user experience.

In addition, if brands choose to partner with virtual platforms, in gaming or otherwise, the revenue opportunity can be dampened by high take rates, which can reach up to 50 percent commission on revenue.

NFTs as Digital Twins and Loyalty Tokens

Much of the frenzy over blockchain-based NFTs has centered around digital art collectibles, which in some cases are bought and traded for exorbitant amounts of money, driving the headlines while some observers are scratching their heads. The compound annual growth rate of NFT market value shot up 750 percent between 2018 and 2021, from $41 million to $24.9 billion.

But the rapid growth rate of NFT sales is already beginning to moderate. Daily trading volume on NFT marketplace OpenSea fell by 80 percent between February and March 2022. NFT skeptics suggest this could indicate a bubble burst in an unsustainable market with a limited number of active customers and rampant hoaxes and scams.

But even as the hype wears off, there will be use cases that address industry pain points and consumer desires with applications that support community building, product traceability and authenticity.

The long-term business opportunity for fashion brands to interact with NFTs is likely to serve more pragmatic purposes by using NFTs as “loyalty tokens.” Gucci, Adidas, and The Hundreds, among others, have used NFTs to provide benefits such as early access to new NFT drops and physical products, essentially as a membership program. In a sense, these NFTs are digital collectibles as users can’t yet wear them in virtual worlds, although they could use them for social media profiles. Brands are starting to add more “utility” to collectible NFTs, which could make buying an NFT more rewarding for consumers and translate into a long-term opportunity for brands.

We see the most compelling use case for NFTs as digital twins hosting information about the history, authenticity and ownership of a physical or digital product – something that is especially beneficial for the luxury segment in its fight against counterfeiting. Twins allows products to be linked to a theoretical tamper-resistant record and gives brands the ability to collect royalties from resale. A host of start-ups and industry initiatives, such as Aura Blockchain Consortium, Lablaco, and Arianee, are striving to make blockchain-based digital twins commonplace. Lablaco is working to link its digital IDs to virtual versions of garments so that customers can engage in augmented reality experiences such as try-ons.

Partner, build, acquire

While a few disruptors, such as digital fashion marketplaces, will focus solely on virtual goods, most tech-savvy, innovative brands will seize the opportunity to diversify revenue streams and target Gen-Z and millennial consumers. Players who want to experiment in the metaverse but don’t have the required internal capabilities can:

• Partner with gaming or tech companies, like Gucci did in its collaboration with Zepeto, a social networking and avatar simulation app, to produce paid digital skins, or as Burberry did when it partnered with Tencent to create a scarf in limited edition with Chinese virtual influencer Ayayi.
• Build their own capabilities by recruiting talent with technical skills alongside an ingrained understanding of the metaverse and its communities, as Balenciaga does by establishing a “metaverse business unit” dedicated to metaverse marketing and commerce.
• Make acquisitions, along the lines of Nike’s deal to buy virtual fashion studio RTFKT in 2021.

Just like in the early days of e-commerce, some metaverse-related ventures are likely to fail completely or need a quick iteration. However, fashion is well placed to take advantage of its involvement in virtual worlds and the metaverse, due to its connection to self-expression, status and creativity. Executives should consider metaverse strategies based on their company’s digital aspirations and customer goals.