The advent and use of smart contracts represent a groundbreaking innovation within the realm of blockchain technology. These type of contracts have emerged as a transformative force, reshaping traditional agreements and transactions.
Smart contracts are programs stored on blockchain, that run when predetermined conditions are met. They are typically 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. (IBM.com)
But while smart contracts offer many advantages, they also come with certain limitations.
The cryptocurrency Ethereum is the most commonly used blockchain in smart contracts. There are also other platforms such as Binance Smart Chain, Polkadot, Cardano, Solana, and Algorand.
It is the blockchain technology that underpins cryptocurrencies. The chain is typically managed by a peer-to-peer network of computers, for use as a public distributed ledger, where nodes collectively adhere to an algorithm to add and validate new transaction blocks. Once approved/ validated, the transaction is recorded on the ledger and can no longer be changed.
These blocks on the chain are securely linked together with each containing a cryptographic hash of the previous block and all are linked together.
Blockchain technology structures have security qualities such as consensus, cryptography and decentralization for which reason blockchain records are considered secure.
Some advantages of smart contracts are as follow:
a. Automation – smart contracts automate processes by eliminating intermediaries, reducing the need for manual intervention and minimizing potential errors
b. Trust and transparency – transactions are recorded on a secure blockchain which enhances transparency and reduces fraud
c. Efficiency – smart contracts streamline workflows, saving time and resources in complex transactions like supply chain management and real estate transfers
d. Accuracy – automated execution reduces human errors that may arise from manual data entry or interpretation
e. Cost savings – cutting out intermediaries can save costs on processing, verification, and reconciliation
f. Speed – traditional contract execution may involve multiple steps but Smart Contracts are designed to instantly execute when the conditions are met
On the other hand, there are also disadvantages and these are as follow:
a. Program or software vulnerabilities – there may be flaws in the software which can lead to unintended consequences or security breaches
b. Legal requirements – some jurisdictions may not recognize smart contracts as legally binding
c. Complexity – smart contracts require technical expertise which might be difficult for non-technical users to operate them effectively
d. Permanence – once deployed on the blockchain, smart contracts are difficult to modify, even if errors are later identified
e. Dependence on data sources – external data inputs are required for smart contracts to trigger actions
f. Cost – since smart contracts are not yet widely used, there would be cost of writing and developing the specific code and software tailored to fit the requirements of the business
Some examples of businesses using smart contracts.
– Walmart uses smart contracts to track and authenticate its products in its supply chain. (https://hbr.org/2022/01/how-walmart-canada-uses-blockchain-to-solve-supply-chain-challenges)
– Propy, a real estate transactions platform, facilitates international real estate transactions using smart contracts, which automate tasks such as escrow and title transfers. (https://propy.com/browse/blockchain/)
– AXA, the insurance company, uses smart contracts to expedite flight delay insurance claims, which trigger automatic payouts when conditions are met. (https://www.axa.com/en/news/axa-goes-blockchain-with-fizzy)
– Ujomusic, a music software services company, employs smart contracts to automate royalty payments to artists when their music is streamed or downloaded. https://blog.ujomusic.com/the-ujo-platform-a-decentralized-music-ecosystem-e530c31b62bc
In the matter of legality of smart contracts, the E-Commerce Act of 2000 provides recognition for electronic documents and electronic signatures, and states that electronic documents shall have the legal effect, validity, or enforceability as any other document or legal writing.
For evidentiary purposes, an electronic document shall be the functional equivalent of a written document. Moreover, an electronic signature on an electronic document shall be equivalent to the signature of a person on a written document as long as it can be shown that it was made through a prescribed procedure not alterable by the parties. (Sections 7 & 8, Republic Act No. 8792)
The Supreme Court has decided several cases where it affirmed the validity and legality of electronic documents and signatures such as in AES Watch v. Commission on Elections, where it was declared that PCOS machines are capable of producing Digital Signatures as the machine algorithm generates keys with a method within which to compare these keys. (G.R. No. 246332, December 9, 2020)
For as long as the smart contract contains the essential requisites of a contract under the Civil Code of the Philippines, which are (a) Consent of the Contracting Parties, (b) Object or Subject Matter of the contract, and (c) Cause of the obligation, are present, then the law recognizes the same as a contract. (Art. 1318, Civil Code)
Moreover, unless the stipulations in a contract are contrary to law, morals, good customs, public order, or public policy, the terms shall be binding between the parties.
Smart contracts are slowly revolutionizing the way agreements are executed, from financial transactions to supply chain operations. While there is a long way to go before such contracts become commonplace, we can be sure that organizations and developers will continue to explore and refine the potential of this technology as the benefits become increasingly evident.
(The author, Atty. John Philip C. Siao, is a practicing lawyer and founding Partner of Tiongco Siao Bello & Associates Law Offices, an Arbitrator of the Construction Industry Arbitration Commission of the Philippines, and teaches law at the De La Salle University Tañada-Diokno School of Law. He may be contacted at jcs@tiongcosiaobellolaw.com. The views expressed in this article belong to the author alone.)