The Blockchain and Its Impact on Contract Technology

By Chris Combs

By now everyone has heard of Bitcoin after the currency has skyrocketed in popularity over the last couple months. But have you heard the term blockchain as the foundational component to Bitcoin? Most were confused what it was referring to with all the hype around cryptocurrency etc.

Don’t dismiss blockchain as just another fad. While the technology was invented to support the Bitcoin and other cryptocurrencies, it has far-reaching implications that will impact not just financial services, but other industries as well.

First, what is Blockchain?

Many descriptions of blockchain are somewhat confusing, as they include phrases like "consensus algorithms" and "hash functions”. But for our purposes, let’s try and talk about blockchain in its simplest terms.

Blockchain is a distributed database and decentralized ledger, which means it can collect and manage a growing list of records (called blocks) without need for any middleman for verification. Each block has a timestamp and links to a previous block. This makes it incredibly difficult for to forgery, or hacking a main system, since records are distributed across a network of thousands of individual computers.

Because there is no need for a “trusted” middleman (like a bank) to make a transaction, consumers and suppliers can connect directly without the need for a third party.

Again, when most people hear the phrase blockchain, they automatically think of Bitcoin.  But the technology can work for almost every type of transaction involving value, including money, goods and property. The potential for blockchain applications is truly limitless and the best applications will likely have nothing to do with currencies.

What are Smart Contracts?

Because security on the blockchain is so robust, it lends itself well to legal documentation. Enter Smart Contracts on the blockchain.

Basically, the term “smart contract” describes a computer program code with the ability to facilitate, execute, and enforce the negotiations of an agreement (contract) using blockchain technology. These agreements and the terms therein can be programmed in a way that allows individuals to execute and enforce, and essentially partake in a legal transaction completely anonymously and over the internet.

The idea of smart contracts actually pre-dates Bitcoin. Back in 1993, one of Bitcoin’s alleged creators, Nick Szabo, came up with the idea of self-automated computer programs that could carry out the terms of any contract.

As Vitalik Buterin, the 22-year-old programmer of Ethereum, explained it at a recent DC Blockchain Summit:

“In a smart contract approach, an asset or currency is transferred into a program and the program runs this code and at some point it automatically validates a condition and it automatically determines whether the asset should go to one person or back to the other person, or whether it should be immediately refunded to the person who sent it or some combination thereof. In the meantime, the decentralized ledger also stores and replicates the document which gives it a certain security and immutability.”

Smart Contracts Benefits From CoinDesk:

  • They function as ‘multi-signature’ accounts, so that funds are spent only when a required percentage of people agree
  • Manage agreements between users, say, if one buys insurance from the other
  • Provide utility to other contracts (similar to how a software library works)
  • Store information about an application, such as domain registration information or membership records

How Will Blockchain Technology Affect Legal Teams in the Future?

While it may take some time before smart contracts are fully adopted, one day they could alter commercial transactions and the legal industry would finally benefit from technology advancements that allow for automation, predictability and speed.

Imagine contractual terms being written in code instead of natural language. In a way, this could bring a lot of welcomed clarity and predictability to transactional agreements.

If a smart contract could be tested against any set of material facts (inputs), lawyers on both sides would know exactly how the contract would execute. They could essentially know every potential outcome.

Although blockchain technology was created with the idea of eliminating “unnecessary” third parties within a transaction, it is doubtful that smart contracts will rid the world of lawyers anytime soon. That is according to smart contract creator, Nick Szabo.

During a keynote address at the Smart Contracts Symposium at Microsoft's New York headquarters, Szabo spoke of the benefits and limits of self-executing code:

"Lawyers worried about losing their jobs to robots, you're actually doing something that's mostly complimentary to a smart contract. Smart contracts are mostly making possible new things that haven’t been done before."

Smart contracts then can remove many of the issues with traditional contracts today. While traditional contracts are based around “subjective” law, smart contracts are based on Boolean "bits and logic" that underpin bitcoin. One is flexible, one is rigid, and they both compliment the other.

Perianne Boring, founder and president of the Chamber of Digital Commerce, had this to say about smart contracts and how it will impact the future:

“Smart contracts provide the business logic needed to maximize the potential of blockchain technology. Automating the most manual of processes within businesses reduces costs and frees up resources. Automation of a legal contract from start to finish will enable investment in new business models or services. Longer term smart contracts will benefit all stakeholders within an industry, empowering businesses, regulators and consumers in each of their respective roles. Businesses will improve profitability, regulators will have unprecedented transparency and auditability and customers’ data and identity will be secured like never before.”

While it may take time and effort for legal teams to get up to speed and adopt smart contracts using blockchain, the technology will no doubt help teams manage risk and automate some of their compliance work. As with any new technology time will tell where its users will take it.

Topics: Contract Management legal