Blockchain, Smart Contracts and the Supply Chain

Essentials of Blockchain and Smart Contracts in the Supply Chain

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Bitcoin steals the limelight, but blockchain and smart contracts offer considerable benefits to business and the supply chain. Here are some of the highlights that should interest businesses and supply chain managers.

What is Blockchain?

The first thing to be clear about, is that blockchain and Bitcoin are two different things, though they are related. Blockchain is the underlying technology, while Bitcoin is one application of blockchain. Bitcoin is a virtual currency built on a blockchain foundation. So what is blockchain?

Blockchain is an immutable, distributed, digital ledger.

It’s immutable, so once a transaction is written to the blockchain, it cannot be undone or overwritten. This makes blockchain almost tamper proof.

Blockchain is distributed. The ledger is not maintained in a single location, it is duplicated across parties in the blockchain. In addition, blockchain is decentralized; there is no central authority or controller of the ledger. This makes blockchain resistant to outages as there is no single point of failure.

Finally, blockchain is a ledger, a record of transactions. Those transactions can be almost anything that can be digitally represented, such as titles of ownership, values, transfers, locations, conditions and states, and more.

“Supply chains would certainly benefit from a single version of the truth for all trading partners; one that is resilient and fraud-resistant. Welcome to blockchain.” says @MaryAnnHolderB Click To Tweet

In the words of Don Tapscott:

“Blockchain […] can be programmed to record not just financial transactions but virtually everything of value and importance to humankind: birth and death certificates marriage licenses, deeds and titles of ownership, educational degrees, financial accounts, medical procedures, insurance claims, votes, transactions between smart objects, and anything else that can be expressed in code.”

This flexibility makes it ideal for the supply chain where multiple parties come together and are constantly exchanging documentation.

Blockchain Gets Smart

The Smart Contract—Defining the Smart Contract’s role in Blockchain Transactions

Another useful concept that blockchain offers is the “smart contract”. Nick Szabo, an American computer scientist, proposed smart contracts in 1994, and the idea has been implemented on the blockchain platform, Ethereum.

What is a smart contract?

A smart contract is a digital contract that self-executes when predetermined conditions are met. These code-based contracts enable agreed upon actions (such as payments) to occur automatically, immediately and without intermediaries, upon the satisfaction of the terms of the contract. For example, a smart contract could be used to release payment to a carrier when the customer confirms receipt of the parcel.

The smart contract is an agreement between parties involved in a transaction that holds each party responsible for their role in the transaction. Smart contracts define the rules and penalties around a transaction akin to a traditional contract, but also ensure that the contract is enforced.

Benefits of Smart Contracts

The benefits of smart contracts can be summarized as providing accuracy, speed, security and fostering trust.

Smart contracts reduce the possibility of errors in the execution of the contract, as it is executed programmatically. There are no delays, as soon as the terms are met, the contract executes. The technology is secure which inspires trust in the contract. Finally, smart contracts eliminate the possibility that the other party will renegade on the deal.

Why Blockchain?

There are many benefits to using blockchain technology, here are a few that are of interest to businesses and supply chain professionals. The impact blockchain technology can have on our lives is akin to that of the internet. Some commentators think the change will be even more dramatic, fundamentally altering society’s institutions like banking and government, and the way we interact and trade with each other.

Digitization. Blockchain is a type of multi-party network that maintains a single version of the truth. As such it offers a way for companies to modernize and digitize. Such networks provide immense benefits by connecting all members of the network and enabling data to flow in real time across the network. Real-time data is critical for efficient supply chain management, and blockchain provides it.

Transparency. All participants on the blockchain have full access to the information on the blockchain. Nothing is hidden or restricted.

Intermediaries. Blockchain removes the need for intermediaries, and eliminates the delays and fees associated with middlemen. It also removes the inherent risk of dealing with a third party.

Security. Data is validated, open to inspection by all, and immutable. This reduces errors and virtually eliminates the possibility of fraud.

In short, blockchain offers to connect all business partners in real time, with a single version of the truth, while facilitating and verifying transactions transparently, and without costly and risky intermediaries.

Related: Nucleus Research’s Supply Chain Planning Value Matrix

Blockchain and the Supply Chain

Blockchain is certainly not the solution to every business problem, but at its core, business is trade, the exchanging of values and ownership. With this potential to simplify, secure and facilitate trade, Blockchain can offer major benefits to business and consumers. Combine that with “smart contracts” and you have the basis for a secure, transparent network with a mechanism for automation built in.

Blockchain can help companies realize the digital supply chain by providing a “single version of the truth” for the entire supply chain. By sharing important information such as sales data, inventory levels, order and shipment information, companies can eliminate information delays and the uncertainty that contributes to “the bullwhip effect,” and inflates safety stock.

This common consensus companies achieve the often pursued but rarely attained, supply chain visibility. With all partners posting to a common ledger, businesses can gain visibility to their entire networks, from their suppliers’ suppliers to their customers’ customers. This enables them to foresee problems and address them, resulting in a smoother, more efficient supply chain.

It can provide a chain-of-custody for critical products such as food and pharmaceuticals, ensuring only authentic products enter the supply chain, and keeping track of who has what and where. This chain-of-custody helps drive compliance with proper handling procedures. It is also critical in the event of a recall, as it enables defective goods to be pinpointed at the source and removed from the supply chain.

It can simplify global trade by digitizing the massive amounts of paper work that are generated, and automating work flows. With smart contracts, events can trigger other events, “origin of goods” authorizations can trigger tariffs payments or exclusions, etc.

This is an optimistic and perhaps premature perspective, but it does describe some of the potential that blockchain has. But the technology is very new, and before it can realize that potential there are a number of problems that need to be resolved.

Is Blockchain Ready for the Supply Chain?

While blockchain offers a lot of promise, experiments today with blockchain have been on a fairly small scale. One of the reasons is that there are some major hurdles to adopting it in the context of a supply chain. To list just a few problems:

Scalability: Due to the fact that every node in the blockchain network must process every transaction, blockchain does not scale very well. It has an extremely low transaction rate compared to other technologies. Visa processes around 2000 transactions per second (tps), PayPal handles 115 tps, while blockchain is about 10 tps. And this limitation is inherent in blockchain’s distributed nature, which makes it a thorny problem. However a lot of smart people are working on it

“I believe scalability will be the primary bottleneck for the [Blockchain] industry for the foreseeable future.” – Fred Ehrsam, (Co-Founder Coinbase)

Confidentiality: The transparency that blockchain provides, is a double-edged sword. In some cases it is a benefit, all participants in the supply chain have visibility to the blockchain. But in many situations, maybe most, companies want to keep their information and transactions with trading partners confidential.

Functionality: Being a fairly immature technology, blockchain does not offer powerful and sophisticated solutions for supply chain management. There are some immediate applications (e.g. chain-of-custody solutions), but sophisticated optimization that spans the entire network is not yet possible. The scalability and confidentiality issues also make this wide-scale functionality problematic.

Despite these (perhaps temporary) limitations, blockchain has a lot to offer in the area of supply chain management. It can help move the goods as well as move money, i.e. make payments.

As Martijn Lovfers says, “In theory, blockchain can at last integrate – and hence synchronize – the flows of goods, information and money. In the coffee supply chain, blockchain can ensure that all the relevant chain partners – including the farmer at the start of the chain – can be paid within minutes of a consumer purchasing a jar of coffee in their local supermarket. This would significantly reduce the bullwhip effect while also eliminating cash-flow problems in the chain.”

Will blockchain be the technology to finally pull the supply chain together?

Further Reading on Blockchain and the Supply Chain

Interesting articles exploring blockchain and its applications in the supply chain:


MaryAnn Holder