The Present and Future of Smart Contracts
The late Hollywood agent Irving Paul Lazar once said, “I have no contracts with my clients; just a handshake is enough.” When I read this quote, my initial reaction was to congratulate the law firms who, over the years, had earned Irving’s business. Thanks to his idealism, there might still be a few retired attorneys out there, who at this very moment are laughing all the way to the Bel Air Country Club. Let’s not be envious. Good for them.
We all know that a contract is an agreement between one or more parties. We’re also very much aware that contracts do not get signed overnight. It’s a lengthy process that requires several drafting sessions, each reviewed by teams of attorneys, leading to successive rounds of negotiations, before an agreement is finally reached and all involved parties ultimately sign the document. The contract is then stored electronically, until it is dug up from a hard drive, as soon as a contractual dispute occurs and legal action must be taken. The number one cause for a breach of contract is a poorly drafted document that leaves the door open to interpretation. To avoid such a situation, an alternative to brick-and-mortar contracts now exists: smart contracts.
Smart Contracts Explained
Smart contracts are computer-generated and the obligations that each party must fill lie in the code. Unlike a standard contract that lists the terms of a relationship, which are usually enforceable by law, a smart contract enforces a relationship with cryptographic code. “Enforce” is the keyword. Smart contracts are computer-generated programs that enforce the execution of the contract according to the way it was set up by its creators. Thus, all parties involved are bound by a digitally-produced but binding agreement. Smart contracts carry many advantages, one of which being that they facilitate business arrangements, without the formality and cost associated with traditional contracts.
The computer programs that automate smart contracts run on Blockchain platforms. This is why smart contracts are also called “Blockchain contracts” or even “digital contracts.” By leveraging the upsides of Blockchain, smart contracts enable the exchange of anything of value in an incorruptible, transparent and conflict-free environment, while bypassing the need of having a middleman or intermediary involved.
On a technical side note, the Blockchain platform of choice for developing and executing smart contracts is Ethereum, because it offers a language that allows developers to write their own smart contracts, thanks to the availability of a wide range of computational instructions.
Are Smart Contracts Taking Over?
A more proper question would be, “What are smart contracts taking over?”
If we refer to conventional contracts, the answer is clear: Not yet. As much as Blockchain and solutions that run on Blockchain represent a future that is not as distant as one might think, hand-signed and countersigned paper contracts are still prevalent, especially when they pertain to business to business multi-million dollar deals. Such agreements are highly complex, consequently legal assistance and guidance are expressly required. In this case, in which instances are smart contracts increasingly utilized? Today, they tend to make more sense for lower value, shorter business relationships, one-time transactions that do not necessitate the involvement of significant legal resources. Yet, in the mid-run, it wouldn’t be farfetched to see hybrid contracts appear, each carrying a Blockchain-based component for the execution of selected clauses.
The emergence of smart contracts may put a few professions at risk though. Since smart contracts record and keep track of the terms of an agreement while enforcing the agreement via automation, third party involvement isn’t required anymore. It signifies that intermediaries such as brokers, bankers and lawyers whose responsibilities are to facilitate every step of a conventional contractual process can be eliminated. A green fee at the local municipal golf course may very soon become prohibitive. Irving Paul Lazar is dearly missed.
Examples of Smart Contracts
Smart Contracts for Supply Chain and Logistics
For anyone who produces, buys or sells merchandises, bringing more transparence to all steps of a supply chain signifies improving business, gaining a competitive edge and ultimately generating more revenue. Thanks to smart contracts, it is now possible to track the movements of products, from the factory to the shelves. IoT devices can easily report location data directly to a smart contract, which greatly simplifies the tracking process and provides real-time visibility of an entire supply chain. If anything happens to a merchandise (delay in the delivery, for example), a computer-generated notification will be sent immediately to all parties concerned. Such a system also allows reducing risks of fraud and theft.
Smart Contracts for the Entertainment Industry
Smart contracts can help with royalty payments issues in the entertainment industry. How many times have you heard of a dispute around who owns the rights to a song and consequently who legally must pay royalties and who in turn is entitled to receiving those royalties? A smart contract can help keeping track of all ownership rights. Any data change requires the approval of all parties on the network, which ensures trust in ownership. At all times participants know who owns what, and the smart contract can be used to make sure that a royalty payment will be generated automatically and paid without any delays. Each transaction is broadcasted across the Blockchain, so any stakeholder can instantly reflect this on his or her accounting.
Smart Contracts: Summary
The benefits of smart contracts are undeniable. Powered by Blockchain, they offer a level of security that traditional contracts cannot. They also reduce transaction costs associated with contracting, since the Blockchain eliminates intermediaries. Naturally, the smart contract is as good as the quality of the code that is written to build it. And there lies the real issue. Free interpretation and therefore a discussion around the intent of the contract is impossible, since smart contracts are recorded in computer code.