With so much information available about the digital assets ecosystem, it can be challenging to understand all the industry lingo and practice uses. Here are some commonly searched questions surrounding smart contracts that will be regularly updated with the evolving industry:
A smart contract is a digital contract stored on a blockchain that can be automatically executed when predetermined terms and conditions are met.”
A blockchain is a decentralized way of keeping records by anyone without any need for central authority. This type of contract effectively eliminates the need for a third party to determine when a contract is to be executed. This is because a block-chain -based system is considered “trustless” since participants do not need to know, or trust, each other or a third party for the system to function.
For all participants to be immediately certain of an outcome, smart contracts are used to automate the execution of an agreement without time loss or an intermediary’s involvement. When predetermined terms and conditions have been met and verified, a computer executes the necessary actions. Such actions can include registering a vehicle, issuing a ticket or invoice, sending notifications or releasing funds.
By definition, all smart contracts are on blockchain. Within a typical smart contract, the participants can enforce any stipulations they feel are necessary to ensure the task will be completed satisfactorily.
In order to establish these terms, they must determine how transactions and their data are represented on the blockchain. The participants must also agree on the rules that govern such transactions and explore all possible exceptions. Finally, a framework must be defined specifically for solving disputes.
Once all of these stipulations have been met, the smart contract can be programmed by a developer. Recently, more and more organizations are providing templates and online tools to simplify the smart contract process. When a transaction is completed, the blockchain is updated.
- Smart legal contracts: Such contracts require that the parties involved satisfy their contractual obligations and are legally enforceable. If parties do not comply, they may face strict legal repercussions.
- Decentralized autonomous organizations (DAO): With DAOs, the contract is bound to specific rules that are encoded into blockchain contracts and blended with governance mechanisms. They are, in theory, incorruptible. Depending on the number of stakeholders, these contracts can range from simple to very complex.
- Application logic contracts (ALC): These contracts allow devices to function securely and autonomously, and ensure scalability, cheaper transactions, and greater automation. ALCs contain an application-based code which enables communication across different devices.
There is a myriad of different ways to use smart contracts. Some examples include:
- Digital asset transactions: Smart contracts are often used for the buying and selling of digital assets.
- Lending: They can also be layered over existing decision engines to expedite execution similar to automated processing, but with executive authority.
- Syndicated lending: Smart contracts are often used to facilitate the servicing process through automated remittance calculation and distribution.
In simple terms, think of a smart contract like a vending machine: You want something, have the currency to afford it, put in your money and out comes the candy or drink you desire. There is no middleman or third party between you and the product you are purchasing. Smart contracts function in a manner similar to this, but with more variables and options than the basic vending machine.
In the traditional sense, smart contracts are not actually “contracts.” However, once they are executed they cannot be changed and are generally enforceable as long as certain conditions are met.
These conditions include:
- An offer, acceptance and consideration.
- Terms that are legally permissible.
- Transacting parties that have the authority to sign.
If any of the components of these conditions are lacking, the smart contract is not legally enforceable, but may still be executed. Some legal challenges facing smart contracts are:
- Enforcing contracts automatically: For smart contracts, if the terms are not legal to enforce and the contract is programmed and agreed upon, it will execute automatically. This makes it difficult to later remedy anything that may be accidentally unlawful.
- Modifying contracts: As mentioned above, it is difficult to make modifications to the contract once it’s set into motion. Any changes that may be desired cannot be made once the smart contract is in force. Should such changes need to be made, the entire contract has to be canceled and a new one must be drawn up.
- Handling disputes: Because it is so difficult to adjust a smart contract once it’s in place, it is important for all parties involved to be clear on the terms through the entire process. Should a dispute occur, it can be difficult to make changes due to the contract’s permanence and automatic execution.
- Understanding and defining the business case
- Establishing governance (people, process, technology) over smart contracts
- Establishing the rules/stipulating how the smart contract is supposed to function and converting those rules into properties within the smart contract.
- Defining the data sources and how such sources are validated to be trustworthy, timely, etc.
- Performing testing (pre-implementation) to ensure smart contracts behave as intended.
- Establishing, enforcing and monitoring change management processes.
- Performing periodic testing to ensure contracts perform as designed.
- Digital identity: Smart contracts can help other parties learn more about the individual without knowing their true identity or verifying transactions.
- High securities: Smart contracts can also be used for automatic payments, dividends, liability management, and more.
- Loans and mortgages: This type of contract has been helping to improve financial services, including loans and mortgages, because of the error-free process and the ability to track payments and release property when a loan is paid off.
- Government: Smart contracts can help the government better manage operations by reducing auditing costs and improving transparency—along with electronic elections.
- Supply chain management: Smart contracts can significantly improve supply chain management. It assists in tracking items within the supply chain and enhances tracing which ultimately results in fewer frauds and thefts.
- Clinical trials: Smart contracts can significantly help in clinical trials by automating data and improving cross-institutional visibility.
In short, the answer is yes, blockchain is the future of supply chain. Because of blockchain’s ability to track and record every transaction, it has proven to be a vital part of a properly functioning supply chain. Blockchain has many uses including tracing, efficient delivery, streamlining coordination through the supply chain, batching/recall information, to name a few. According to the World Economic Forum, the integration of blockchain can help reduce supply chain barriers and improve sales by nearly 15%.
