What is a Smart Contract?

A “smart contract” is simply a program that runs on the Ethereum blockchain. It’s a collection of code (its functions) and data (its state) that resides at a specific address on the Ethereum blockchain.

Smart contracts are a type of Ethereum account. This means they can send transactions over the network. However they’re not controlled by a user, instead they are deployed to the network and run as programmed. Smart contracts can define rules, like a regular contract, and automatically enforce them via the code. User accounts can then interact with a smart contract by submitting transactions that execute a function defined on the smart contract. 

A smart contract is a decentralized application that executes business logic in response to events. Smart contract execution can result in the exchange of money, delivery of services, unlocking of content protected by digital rights management or other types of data manipulation such as changing the name on a land title. Smart contracts can also be used to enforce privacy protection by, for example, facilitating the selective release of privacy-protected data to meet a specific request.

There are a variety of architectures for how the programs underpinning smart contracts are developed, distributed, managed and updated. They can be stored as part of a blockchain or other distributed ledger technology, and integrated into various payment mechanisms and digital exchanges that can include bitcoin and other cryptocurrencies.

Despite the name, smart contracts are not legally binding contracts. Their main function is to programmatically execute business logic that performs various tasks, processes or transactions that have been programmed into them to respond to a given set of conditions. Legal steps must be undertaken to link this execution to legally binding agreements between parties.

A smart contract is a special kind of program that encodes business logic that runs on a special-purpose virtual machine baked into a blockchain or other type of distributed ledger.

The process of creating a smart contract starts with business teams working with developers to describe their requirements for the desired behavior of the smart contract in response to various events or circumstances. Simple events could be conditions such as payment authorized, shipment received or a utility meter reading threshold. More sophisticated logic might encode more complex events such as calculating the value of a derivative financial instrument and processing a trade of the derivative, or automatically releasing an insurance payment in the event of a person’s death or a natural disaster.

The developers then work in a smart contract-writing platform to develop the logic and test it to ensure that it works as intended. After the application is written, it is handed off to another team for a security review. This could be an internal expert or a firm that specializes in vetting smart contract security. Once the contract has been approved, it is deployed on an existing blockchain or other distributed ledger infrastructure.

Once the smart contract is deployed, it is configured to listen to event updates from an “oracle,” which is essentially a cryptographically secured streaming data source. The smart contract executes once it receives the appropriate mix of events from one or more oracles.

Smart contracts can be used across industries to streamline and automate doing business down the street or around the world.

Smart contracts provide a secure environment making the voting system less susceptible to manipulation. Votes using smart contracts would be ledger-protected, which is extremely difficult to decode.

Moreover, smart contracts could increase the turnover of voters, which is historically low due to the inefficient system that requires voters to line up, show identity, and complete forms. Voting, when transferred online using smart contracts, can increase the number of participants in a voting system.

Traditionally, supply chains suffer due to paper-based systems where forms pass through multiple channels to get approvals. The laborious process increases the risk of fraud and loss. Blockchain can nullify such risks by delivering an accessible and secure digital version to parties involved in the chain. Smart contracts can be used for inventory management and the automation of payments and tasks.

Implementing blockchain technology and smart contracts in the automotive sector can also offer various advantages to shipping companies involved in car shipments. Because of its vast volume of point-to-point contact between transportation companies, freight forwarders, customs brokers, governments, ports, and warehouses, the shipping industry today remains complex. All data about the shipment of a specific cargo is stored in the silos of the shipping company, rendering it unavailable to customers.

Smart contracts ensure automation across most paperwork, including agreement formation and contract signing. Implementing Smart Contracts enabled automotive companies to remove hundreds of point-to-point communications with members of their automotive supply chain. It rendered the process of shipping cargo more effective and cost-efficient. Any supply chain participant may check shipment details with the blockchain, including who has submitted paperwork, where the shipment is, who has it, and where it is going at any given time.

The blockchain provides secure data sharing and an archive that is tamper-proof for cargo records and shipping events. This technology will drastically reduce the number of delays and fraud while saving shipping companies millions of dollars.

Besides that, the benefits of blockchain and smart contracts are most noticeable at the end of the car lease period. For instance, when a customer returns a leased car.  The distributed ledger removes conflicts existing between a service provider and end-customers in respect of end-of-lease payments. They establish transparency through the lease lifecycle, including transparent vehicle use records, mileage, fuel, repairs, tire adjustments, and insurance. It makes it easier to quantify any end-of-lease costs based on the smart contract’s predefined terms. As per the smart contracts, recipients may get payments automatically in the form of cryptocurrencies or tokens.

In the real estate industry, a classic example of where a smart contract could be implemented would be for the transfer of a property title. For transfer of title tied to payment of consideration by the buyer to the seller, smart contracts will, in most cases, require an oracle to communicate between banking systems and a property registry. There are now a small number of places where property registries have been digitized and are held on a blockchain. In domains where property registries have been taken entirely online and are accessible to outside users, a smart contract can complete a land sale transaction, potentially saving property investors significant time and fees.

In addition to purchase and sale agreements for properties, other examples in the real estate industry where smart contracts could increase the certainty of execution, streamline processes and reduce costs include rental agreements; service agreements involving multiple activities, complex levels of service or service credits; commission agreements where the certainty of payment is required; as well as service guarantees and warranties.

Personal health records could be encoded and stored on the blockchain with a private key which would grant access only to specific individuals. The same strategy could be used to ensure that research is conducted via HIPAA laws (in a secure and confidential way). Receipts of surgeries could be stored on a blockchain and automatically sent to insurance providers as proof-of-delivery. The smart contract could be used for general healthcare management, such as supervising drugs, regulation compliance, testing results, and managing healthcare supplies.

Traditionally, the insurance industry relies on a trusted intermediary to execute the transaction. The involvement of a third party makes the process slower and more expensive. It’s not uncommon even for uncontested claims to require months to be processed. 

With a smart contract, no human interference is required. First, this helps mitigate the risk of manipulation by the mediator and increases transparency. Given that smart contracts are stored on a blockchain, both parties can see logged transactions. Second, it dramatically speeds up claim processing. Third, it lowers administrative costs for the insurer. As a consequence, companies can lower premiums, increasing market share. Fourth, neither insurer nor customer can “lose” agreement information, as policies are securely stored on the blockchain.

There are several potential business advantages from using smart contracts.

Smart contracts promise to automate business processes that span organizational boundaries. This can eliminate many operational expenses and save resources, including the personnel needed to monitor the progress of a complex process that executes in response to conditions that span companies.

Smart contracts can improve the processing speed of business processes that run across multiple enterprises.

Smart contracts are performed automatically by the network and reduce the need for a third party to manage transactions between businesses.

Smart contracts can also take advantage of blockchain ledgers and other distributed ledger technologies to maintain a verifiable record of all activity related to execution of complex processes and that cannot be changed after the fact. It also supports automated transactions that remove the potential for human error and ensure accuracy in executing the contracts.

Smart contracts can be bundled into decentralised applications within decentralised finance (DeFi) to execute more complex functions. The validity of smart contracts in financial technology (FinTech) is becoming more and more apparent. This new form of agreement improves the accuracy and verification of worldwide transactions by combining two simple concepts into one powerful idea.

The most widespread use of smart contracts remains in the financial industry since they solve the issue of trust in conditional transactions. Payment processing, clearing/settlement of financial instruments, trade finance, as well as regulatory technology all benefit greatly from smart contracts.

Already, with fintech giants like PayPal already tapping into cryptocurrencies, we may see digital finance companies transform into something new. This can make for a potentially smart investment to consider as we may be witnessing a new generation of finance coming to light.

Without compromising on credibility, smart contracts offer transparency within FinTech. By decentralising the verification of contract terms, contractual partners are more liable towards one another. Overall, blockchain smart contracts certainly have the power to transform the way agreements are made across various industries, particularly within FinTech. However, it will take some time and require more development before it reaches its mainstream approach.