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As proponents of blockchain expand the distributed ledger technology beyond its digital current roots, smart contracts are emerging as the latest area where companies are exploring pilot programs.
At a recent FEI Committee on Finance & IT (CFIT) meeting, IBM Client Technical Leader & IT Architect, Steve Nowland said Blockchain technology has the potential to “radically transform multi-party business networks,” enabling significantly faster, less expensive, lower risk transactions and innovative business models.
“Smart contracts are where business value is created, and where consortia are coming together to determine how to lay out business processes behind smarter contracts,” Nowland said. “Blockchain is just the underlying mechanism.”
A smart contract is an agreement with embedded computer code that can articulate, verify and execute the terms of a contract automatically. For instance, an agreement to purchase components from an international supplier can have customs and payment information embedded so those elements can be automated and verified by blockchain ledgers that cannot be altered by the parties.
In this example, the various steps in the process – shipment, customs clearance, delivery and payment – can be verified as they take place, with the completion of one segment (such as delivery) triggering the next step (payment).
Because the blockchain database is encrypted and shared among multiple participants, one party to an agreement can’t repudiate its role, which proponents say will reduce or potentially eliminate the need for third parties to hold funds in escrow, verify performance or adjudicate contractual disputes.
“What patterns do you see in your organization that are complex?” Nowland asked. “Do you have multi-partner agreements that take a lot of sign-offs before a transaction is committed? Look at your organization and look for those types of transactions or asset movements. If you’re a B-to-B company, look at the types of information that’s shared with partners, such as [purchase orders], invoices or disputes. Those are areas where there’s a proven case that blockchain can reduce time and complexity.”
Blockchain provides a variety of tools and features to connect business networks for broader participation, lower costs, and increased efficiency and enable consensus within a network:
- Shared Ledger – Append-only, distributed system of record shared across a business network. Once data enters a blockchain database, it cannot be altered or deleted.
- Consensus – All parties agree to network verified transactions.
- Cryptography – Ensuring secure, authenticated & verifiable transactions.
Blockchain is an emerging platform for transaction services that is being tested by several financial services and technology firms. For instance, industry consortia including Ethereum, R3, Hyperledger and others are working to develop standards to promote adoption.
Disruption within financial services from blockchain could affect:
- Capital Markets – securities trading & settlement, syndicated loans, commercial paper
- Commercial Banking – trade finance, trade logistics
- Retail Banking – payments, cross-border remittances, lending, mortgage contracts
Beyond financial services and trade finance, blockchain is also expected to expand to public records such as real estate transactions and vehicle registrations.
While blockchains could be public or private, when working with enterprise blockchains several key traits are necessary. It must be private and permissioned (i.e. not public) to establish a known set of participants and identities and requirements for members. Finally, there needs to be compliance and auditability.
Early adopters are investing in and using blockchain technologies. According to IBM’s Institute for Business Value Analysis, “trailblazers” are using and will continue to invest in blockchain through 2018, with broader adoption expected by 2020.