Perspectives

The Future of Contracting is Digital

What does the future of contracting look like and what can procurement and legal teams do today, to transform traditionally lethargic processes for the contemporary challenges of tomorrow?

The last decade has seen the emergence of digital currencies popularised by widespread media coverage, high profile adoption and eager retail investors. The technology that underpins these currencies ‘blockchain’ has become a buzzword synonymous with the future of not just financial transactions but smart technology more broadly. But what is ‘blockchain’ and are there any real-world applications?

Blockchain

Blockchain is the name given to a shared ledger that enables the recording and tracking of transactions and assets in a business network. What however, is a shared ledger? A shared ledger is a database that tracks who owns a financial, physical or electronic asset. Every participant in a transaction relating to the asset keeps a copy, and the ledger is updated automatically every time a new transaction occurs. The information is encrypted to ensure that all copies match each other and are kept secure.
 

Smart Contracts and Blockchain

Smart contracts are agreements whose terms are recorded digitally rather than conventionally. They can be executed autonomously by a computing system, such as a shared ledger. The potential benefits of smart contracts include: increased visibility as everyone has a copy of the ledger; increased compliance as the agreement is logically defined and reduced maintenance cost as terms are executed automatically. To break these concepts out into more detail:

  1. Replication: All parties can have a copy the data, reducing the likelihood of a single point of failure in the contracting process. An additional benefit of the blockchain technology is that if one ledger is compromised, the others are not. Replication is a fundamental challenge for conventional database solutions, driving cost and complexity in consumers of those solutions.
  2. Access Governance: Distributed ledgers use digital keys to regulate who can and cannot perform actions in the ledger. These keys can be conditioned so a user may have a key that allows them to view but only if certain criteria are met. An auditor could have a ‘view key’ that allows them to see all contractual transactions, but only for a defined time window. Additionally, the contract and any amendments contain a unique digital signature that irrefutably registers the actors involved in these processes.
  3. Visibility: As all parties have a copy of the ledger (1) and all parties can verify the contents (2), a shared ledger is highly transparent. This provides regulators or auditors confidence that the contents of the contract have not been modified in a potentially fraudulent fashion. If conditioned appropriately, they can also be allowed to unlock records that would otherwise be private.

In addition, the potential for automation makes high volume low value transactions significantly more attractive to procurement organisations. The structure and regulation offered by smart contracts will also help reduce the number of contract disputes which are the leading category of litigation in the UK.

The potential risks are predominately around the increased dependency on a system and confidence in the security of the underlying cryptography (which mathematically speaking is actually one of the technology’s main strengths). Recent years have seen more complex data protection and data privacy legislation enacted in an attempt to ensure the confidentiality and privacy of individuals in the digital world. Smart contracts would certainly mandate additional consideration here but the enhanced security should ultimately drive simplification in this space.
 

Walk Before You Can Run

Blockchain contracts remain a long-term ambition in most industries, partly due to the technology’s availability but also as a consequence of business maturity and technological readiness. There are, however, smart contracting solutions accessible today, that can prepare businesses for tomorrow’s solutions whilst also driving significant automation, efficiency and value into what are typically lethargic processes. Broadly speaking, these solutions can be divided into three categories; contract optimisation, smart generation and the subsequent contract lifecycle management.

  1. Contract Optimisation: By leveraging optical character recognition (OCR) and artificial intelligence it is possible to scan existing contracts and/or contract templates to understand synergies and disparities across the suite. This in turn allows for the harmonisation of contract templates and enables businesses and their legal functions to eradicate legacy and superfluous clauses and schedules.
  2. Smart Generation: Automated contract drafting solutions are becoming common place in modern procurement and legal functions. Most operate on a comparable principle; populating pre-defined contract templates with a degree of user inputted information and conditioning in our out certain clauses and schedules depending on the use-case. These clauses can be stored and accessed in on-platform clause libraries to support subsequent negotiation. The efficiencies to be gained here are significant, reducing contract cycle times and consequently time to market.
  3. Lifecycle Management: Utilizing technology to add structure and rigour to the contracting lifecycle can unlock significant value. Pre-signature, solutions leverage automated approval workflows to ensure policy adherence and offer integrated e-signature mechanisms ensuring a seamless draft to sign process. Post-signature the focus pivots to ensuring the agreed value is realised. Automated tracking of performance against agreed KPIs and proactively notifying contract managers and buyers of key milestones such as upcoming contract reviews or renewal dates. Being able to proactively rather than reactively manage contracts leads to significant savings for adopters.
     
The Value Proposition

World Commerce & Contracting estimate 70% of friction points occur before contract signature and 70% of costs occur during contract performance. To quantify this in revenue terms, on average 9.2% of the total contract revenue is lost due to ineffective contract management over the lifetime of the contract. Extrapolate this to the 20,000-40,000 contracts that Supply Management found the average Fortune 1000 company retains and the value loss is significant. This is a stark quantitative indicator that businesses can apply to their own contract portfolio. Additional observed benefits to effective tooling include; productivity increases of 40-50%, 50% improvement in contract compliance and reduced cost of operation by 30%.

This blog is authored by Thomas Hillard, Senior Consultant, Deloitte.

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