3 Ways Smart Contracts Will Transform Supply Chains of the Future

Smart contracts, and the blockchain technology that underpins their use, are almost tailor-made for today’s complex, multifaceted supply chains.

A study conducted at the Port of Antwerp, Belgium, found that, on average, there are 200 different interactions between 30 different parties involved in moving one container from one location to another. Each of those interactions creates potential for fraud, human error and delays.

In an attempt to address these issues, IBM and Maersk have developed a container management solution transmitting live temperature, pressure and vibration data and recording it all in a secure, transparent blockchain, against the terms of a smart contract.

Any fluctuation in that data would trigger an immediate re-order from a supplier and file an insurance claim—automatically, without any human interaction. Imagine this level of granular transparency scaled across the entirety of Maersk operations: 59,000 customers transporting 12,000,000 containers on 611 ships docking in 343 ports in 130 countries each year.

That’s just one example of the potential of blockchain-powered smart contracts in action. But what could smart contracts mean to your supply chain?

What is a smart contract?

In abstract terms, a smart contract is a set of promises laid out in digital form.

They allow for the execution of credible transactions without the need to involve third parties, and can be made fully self-executing and self-enforcing. These transactions are irreversible and fully trackable.

Although the ‘smart’ designator may sound modern, the concept is rooted in basic contract law, but instead of traditional arbitration—lawyers, the judicial system—to deal with disputes and enforce terms, these contracts self-enforce and self-execute. If the specified terms are met, the contract will be carried out.

Enable a responsive, tightly-coupled supply chain

Studies into supply chain management have demonstrated that effective information sharing holds the key to unlocking transformational optimisation. The transparency inherent to blockchain creates a rich data pool that can be studied and queried to provide sophisticated predictive analytics.

Greater visibility and tighter integration enables a more efficient, leaner supply chain. Look at the two big trends in supply chain management over the last decade or two: lean inventory and just-in-time production.

Both are enabled by efficient warehousing systems, sophisticated freight tracking methods and strong e-commerce integrations. However, this lean process is by nature left vulnerable to ‘supply shock’, with no advance warnings to downstream suppliers and the final customer.

Managing a supply chain through blockchain means that all parties involved have complete visibility over every transaction, which could be leveraged to provide greater advance warning of the factors that contribute to supply shock.

With this increased visibility, a customer could build in automatic diversification to switch suppliers if raw material costs spike in a certain region, or automatically route logistics via a different route if deliveries through a certain port are held up past an agreed timeframe.

Save your organisation money

Self-enforcing contracts by definition operate autonomously, without the need for lawyers, clearing houses, arbiters, and the mechanics of a judicial system rigorously enforcing contract law.

According to a McKinsey report it is estimated that blockchain could save at least £35 billion in B2B transactions by 2021. However, this doesn’t necessarily mean you should fire your lawyers yet.

Smart contracts are in many ways more complex—the terms must be defined very accurately. Once both parties have agreed to terms, however, there is no need for it to be audited—compliance is binary.

So what kind of intermediaries might smart contracts replace? Well, accounts teams are an obvious candidate.

Smart blockchain-based contracts and orders could automatically trigger pre-agreed payments on completion of the transaction cycle, without the need to issue invoices, get them approved and initiate payments manually.

Secondly, if an entire end-to-end supply chain were designed using smart contracts, once initialised, it would require no day-to-day management or auditing. Procurement and supply chain teams could operate leaner and at a more strategic level.

Blockchain-powered smart contracting could help identify risk exposure to vulnerabilities inherent in complex supply chains early on. Any deliveries outside agreed schedules, failure to meet payment terms or inconsistent stock levels could trigger pre-agreed escalation procedures.

Monitor safety and ensure compliance

As you will imagine, the transformational potential of blockchain in the arena of traceability is huge.

Imagine tackling the problem of counterfeit drugs,for instance. Over 50% of drugs in emerging markets are estimated to be counterfeit, and these losses are estimated to cost the global pharmaceutical industry over £12 billion annually—alongside causing thousands of deaths each year.

In the future, viewing a complete analysis of a supply chain associated with a particular product will be as easy as merely scanning a barcode to access the blockchain record.

Anyone—from the vendor, an audit officer, a pharmacist right down to the end-user patient—would see a comprehensive history, including date of manufacture, consignment details, logistics information and more. Compliance with the complex regulations surrounding pharmaceutical products can be built into smart contracts and ensured automatically.

What’s holding us back?

There are still substantial hurdles to be overcome. On a basic level, adoption of blockchain technology is still hampered by poor understanding of its applications outside cryptocurrencies.

As blockchain transactions take place on a public, shared ledger, businesses need to be comfortable operating with a much greater degree of transparency than most private enterprises are used to.

In emerging markets, it is almost accepted that the size and complexity of modern supply chains alone enables unseen corruption. Any attempt to expose this fraud would be met with significant pushback.

Blockchain introduction across a supply chain would mean a complete redesign of current information sharing protocols to enable every party to view and update data. The associated costs are not insignificant, and pilot projects need to identify major efficiencies early-on in order to justify a wider rollout.

Smart supply chains in action

These efficiencies will radically change the way supply chains are managed. Whilst it is true that marketing hype surrounding new technology often leads to overinflated expectations, it would be foolish to dismiss blockchain.

Smart contracts, and the blockchain technology that underpins their use, are almost tailor-made for complex, multifaceted supply chains. Their adoption will require significant effort and structural change across an organisation, but their worth ought to be demonstrated quickly.

In summary, blockchain technology offers near-real-time information exchange that will streamline procurement processes, enhance security, provide decentralised trust, alongside complete visibility and decrease administrative workloads across the length of the supply chain.

Current applications are still mostly experimental, but the transformational potential of distributed ledger technologies has been hailed as more significant than the introduction of the internet.