Peerflix Inc., an online peer-to-peer DVD trading service, today officially opened for business, ending a year-long beta test. This might seem odd given the Supreme Court's recent decision to hold peer-to-peer file-sharing companies liable for users' copyright crimes. But what Peerflix does is legal, for the time being at least: It enables the swapping of plastic discs rather than electronic files.

"At first when people hear Peerflix as the name, and they hear 'peer-to-peer network,' they immediately assume [it's] both digital and illegal," says co-founder Billy McNair. "Because the ownership on our network transfers with the trade, it's a fully legal environment."

E. Leonard Rubin, an attorney in the intellectual-property practice at Sachnoff & Weaver Ltd., concurs, noting that what Peerflix is doing is protected by the first-sale doctrine under the U.S. Copyright Act. However, he observes, "This is something that is going to make the RIAA [Recording Industry Association of America] very unhappy."

Subscribers enter the DVDs that they own (and are willing to part with) into the Peerflix database, which currently holds some 65,000 titles. They also enter the DVDs they want. The Peerflix system then matches the various offerings and requests. After that, users send requested DVDs to the designated recipients. And they receive the DVDs they want from other subscribers who own the desired discs.

A 99-cent transaction fee is charged for each DVD acquired, and there's a $4.95 signup fee that includes five free trades. To each trade, add the cost of 37 cents for postage; there's also the cost of ink and a piece of paper that will become the self-printed disc mailer.

Transactions also involve the exchange of "peerbux," an internal currency used to balance the trading of DVDs with different values. For example, offering up the discs from The Lord of the Rings: The Return Of The King (Platinum Series Special Extended Edition) would net you 4 peerbux, enough to pick up 2 copies of Deuce Bigalow: Male Gigolo, priced at 2 peerbux each. If the merchandise proves to be defective or damaged, users can report the problem and receive a refund.

McNair's eureka moment came on the phone while speaking with co-founder Danny Robinson. "I [mentioned] that I was going out that weekend to buy these Baby Einstein videos for my daughter," he explains. "Danny kind of laughed because his daughter was a year older than mine and said, 'You know, we bought the same videos for Emma a year ago, and she won't watch them anymore.' And I kind of joked and said 'Why don't you send me the DVDs that you have laying on your shelf that you're not using, and save me a trip to the store?' And then kind of the proverbial light bulb went off, if you will."

Net-assisted bartering is an idea that has occurred to others before, including dot-com-bust casualties WebSwap.com and MrSwap.com. But sometimes business-model bugs don't get ironed out until version 2.0.

Just as podcasting arose from the ashes of earlier attempts to monetize user-created audio content--anyone remember GiveMeTalk.com?--Peerflix seems well positioned to capitalize on an Internet community that's increasingly at ease with online commerce and peer-to-peer technology.

The site has experienced impressive growth recently, increasing its membership 300% in the third quarter of 2005, according to the company, to reach a total of more than 40,000 users. DVD sales in general have skyrocketed, making it more likely that households have discs to trade. According to The Digital Entertainment Group, there were 1.5 billion DVDs sold in North America in 2004, and there have been more than 4.7 billion sold in North America since the discs were introduced in 1997.

Certainly, the success of Netflix's DVD rent-by-mail model augurs well for Peerflix's trade-by-mail system, at least until Netflix and other mail-based movers-of-media adjust their business models to compete.

In terms of price, the competition at the moment isn't really competitive. Getting DVDs for $1.36 qualifies as one of the better deals around, "used" though they may be. A pre-owned DVD on Amazon.com typically costs five times as much or more. For those who aren't watching more than a movie a week, Peerflix also compares favorably with DVD rent-by-mail services offered by Netflix and Blockbuster, which charge between $10 and $18 a month.

Eventually, McNair expects to offer subscribers a platform to trade CDs, video games, and even goods outside the digital realm such as stamps, coins, and baseball cards. "We certainly, over the coming months, will be extending into other verticals," he says.

But it's the digital products that are likely to be most problematic. Both DVDs and CDs can be copied easily, and while the Peerflix terms of service prohibit the sale of illegal copies of DVDs, there's no mechanism other than a conscience that can stop users from duplicating discs and selling the original. Given the disregard for the law displayed by millions of file sharers, there's reason to believe that acquiring CDs for $1.36, ripping them to iTunes, and reselling the discs might prove appealing.

McNair says Hollywood hasn't complained so far. In fact, he argues that Peerflix will encourage DVD purchasing. It's questionable, however, whether that's what digital-content companies really want. And if they get their way, the first-sale doctrine--which allows the sale or transfer of a legally acquired copyrighted work without the permission of the copyright holder- will no longer apply.

"I think there's a growing movement to somehow curtail the first-sale doctrine," Rubin suggests.

James Love, director of technology policy advocacy group The Consumer Project on Technology, goes further. "There's a huge attack on the first-sale doctrine in lots of different ways," he says. "The rights holders are systematically pursuing as narrow rights as they can imagine for their works."

In the short term, movie studios, record labels, and software vendors are all happy to move merchandise for the sake of making a sale. But looking ahead, companies selling digital bits are trying to figure out whether they can ditch discs as a storage-and-transport medium and shift into selling subscriptions in conjunction with online fulfillment. Not only would that lower costs by eliminating the need to manufacture and manage physical goods, but it also would offer the advantage of transactions governed by contract law instead of copyright law.

In the context of digital content, contracts are the legal analog of digital-rights-management technology: They offer a level of control that's just not available under copyright law.

Consider the difference between music purchased through a retail outlet and music licensed from Apple. Under the first-sale doctrine, the lawful buyer of a music CD can sell it. But the lawful buyer of those same songs may not sell them if they have been purchased from Apple's iTunes Music Store--the contractual terms imposed by Apple on the buyer forbid it.

A number of recent court cases point to the push to assert contractual rights rather than those granted by copyright law. In 2001, for example, Adobe Systems Inc. sued software distributor Softman Products Co. because the company was buying software programs Adobe had bundled for sale and reselling them individually under the first-sale doctrine. Adobe argued that wasn't allowed under the terms of its licensing agreement, but a federal judge in California disagreed because Softman Products, having never actually used the software, wasn't subject to the end-user license agreement.

The issue is far from settled. And if Peerflix succeeds, you can bet the company will have some overworked lawyers.