Today’s supply chains are much more complicated, fragmented and difficult to understand. Smart contract can make supply chain management simpler and more transparent.
What is a smart contract?
In 1994, Nick Szabo, a legal scholar, and a cryptographer recognized the application of a decentralized ledger for smart contracts. He theorized that these contracts could be written in code which can be stored and replicated on the system and supervised by the network of computers that constitute the blockchain. These smart contracts could also help in transferring digital assets between the parties under certain conditions.
Smart or self-executing contracts are digital versions of traditional (physical) contracts where two parties enter an agreement without requiring any third party. These contracts are self-enforced once the parties involved in a financial transaction meet the contract terms and rules.
A smart contract can also be defined as a software program powered by blockchain that carries out a digital contract when predetermined conditions are met.
The program allows the contract to digitally be enforced, facilitated and verified thereby making it smart. Therefore, the contract will function exactly as it has been programmed thereby no fraud or other interference is possible. A smart contract like blockchain itself allows input from a ledger and can trigger an event when necessary. For example, if a payment has been received, the smart contract can trigger a delivery, however, if a condition has not been met, the smart contract can trigger a penalty or another action.
An operational smart contract between two parties could state:
(a) The cost of manufacturing products
(b) Timelines for product delivery (from factory to consumer)
(c) Penalty and bonus clauses
(d) Responsibilities of each party
(e) Payment terms and conditions for settling invoices
(f) Smart contracts are automatically triggered when specific factors come into play. This drives automation and operational efficiencies.
Benefits of Smart Contract
Smart contracts have several benefits for supply chain managers. These include:
(i) Reducing the burden of managing large amounts of paper documents as everything is digital
(ii) Eliminating delays caused by payment approval hierarchy used in traditional contracts. They also reduce processing times for orders and payments
(iii) Comprehensive audit trail and traceability
(iv) Full transparency, as smart contracts are open for inspection to all parties via the block chain ledger system
Types of Smart Contracts
There are three categories of such contracts – Smart Legal Contracts, Decentralized Autonomous Organizations, and Application Logic Contracts.
Smart Legal Contracts
These contracts are legally enforceable and require the parties to fulfill their contractual obligations. Failure to do so may result in strict legal actions against them.
Decentralized Autonomous Organizations
These are blockchain communities that are bound to specific rules coded into blockchain contracts combined with governance mechanisms. Hence, any action taken by the community members gets replaced by a self-enforcing code.
Application Logic Contracts
These contracts contain an application-based code that remains in sync with other blockchain contracts. It enables communication across different devices, such as the merger of the Internet of Things with blockchain technology.
Smart contracts are simply programs stored on a blockchain that run when predetermined conditions are met. They typically are used to automate the execution of an agreement so that all participants can be immediately certain of the outcome, without any intermediary’s involvement or time loss. They can also automate a workflow, triggering the next action when conditions are met. Smart contracts represent the future of automated agreements and start-ups are emerging in this field with bespoke solutions that can be leveraged to drive efficiency and automation.