Supply Chain Challenges and where DLTs Fit
Supply chain has widely been identified as the industry sector other than financial services where blockchain will play a major transformative role in the near term. The reason behind this perspective is easy to understand. The supply chain has traditionally been a relatively more chaotic aspect of global trade involving myriad regulations, paperwork and participants who are spread across the world. It is also largely an opaque system with real accounting and accountability happening only at specific pre-decided checkpoints. As a result, this movement of goods that exceeds $17 trillion of value annually (making it one of the costliest aspects of global trade) is marred with problems like counterfeits, thefts, and forgery.
Blockchain or Distributed Ledger Technology (DLT) is widely hailed as the next technology wave for the supply chain industry that will solve most of these existing problems. It is expected to bring enhanced visibility into the network, help stop counterfeits and thefts, improve regulatory compliance while reducing paperwork, and lessen costs significantly. Extensive literature is being written and some technology architectures are being created on using DLT in various forms of supply chain networks like pharmaceuticals, transportation, and logistics, produce and other perishable food items (e.g., seafood) and luxury goods (e.g., diamonds). Many technology companies (both start-ups and existing technology stalwarts) are showcasing frameworks and solutions to implement DLT frameworks.
However, is blockchain really the silver bullet that is being projected to solve most, if not all, of the current issues with the supply chain? The reality is actually more complicated. DLTs, while being transformative. offer some very specific advantages but also come with some disadvantages. Not all supply chains will need DLTs; in fact, in some cases, using DLTs will create a suboptimal solution. And in many cases, DLTs will need to be used smartly with many existing solutions and frameworks to yield the best results. Another aspect is that DLT solutions need bootstrapping; the value of the network goes up as more and more participants join the system. This is a tricky economic problem that will need to be solved for DLTs to really take off where they are the best-suited solutions. Lastly, there’s a chance that DLT will change the relationship and power dynamics among various participants and that with the technology provider. Getting all parties to start being comfortable with this change will be a key aspect to initiate the change itself.
Core Value of DLTs
Blockchains or DLTs at a fundamental level are an alternative to a centralized ledger or database system. Unlike a centralized system, where different parties refer to the same version of the database (through separate instances) that is managed centrally and securely by someone, in a DLT-based system, every participant carries its own database – all of which are in sync (in the same state). Any valid change to this shared ledger means each and every copy of the ledger is updated after the change is verified and accepted by all parties. This consensus process eliminates the need for a centralized trusted database and instead replaces it by a network of equals (in terms of bookkeeping). That’s why blockchains are often called trustless systems since there’s no need for a central trusted party. While, of late, some trusted DLT networks are coming up (e.g., hyper ledger technologies), these trusted DLTs are still essentially trustless systems but within a pre-identified (and verified) group of network participants. That’s why they are called private blockchains (that are not open to just anyone who wants to join the network) vis-à-vis public blockchains like Bitcoin or Ethereum networks (where anyone can join).
The key appeal of DLTs is, therefore, the elimination of a central party who needs to be trusted to be honest. DLTs are also very resistant to hacking and other kinds of cyberattacks as the database is now distributed. As long as a simple majority of these distributed ledgers are safe (not compromised), the network overall can effectively reject malicious changes that may have been done to a handful of nodes by an external party and, thereby, retain the original state of the database. An effective hacking attempt on a DLT, therefore, in most cases is computationally and economically unviable. But these benefits come with a significant trade-off in transaction speed and throughput. Every node needs to carry a large database and, therefore, needs large storage and computational power. Every node needs to update the database for transactions, which limits the speed at which this can happen. Also, transactions are linearly processed, which means consensus needs to be achieved among all nodes for finality before the next transaction (or group of transactions) can be recorded.
Real Use Cases of DLTs in Supply Chain
So, where are DLTs best suited in supply chain use cases? Let’s start by eliminating a few. DLT is a suboptimal technology to use for a vertically integrated supply chain where only one company owns all of the chain. For example, if a paper manufacturer owns its forests, manufacturing, and distribution network, then all it needs is a centralized database, not a blockchain. In absence of any other network participant, the ledger is never really distributed neither is that required. Similarly, if a logistics provider owns all of the logistics network (trucks, ships, aircraft, and warehouses) end to end, then it doesn’t need a blockchain to manage its own network; a robust, scalable, and secure database will perform better. Another problem DLTs don’t solve is supply chain visibility. That is an IoT problem that needs an IoT solution that can be based on any kind of platform (cloud blockchain, database, etc.). A network of connected sensors is the right solution to that problem and, contrary to traditional narrative, blockchains inherently don’t offer a visibility solution per se.
DLTs are best suited where the supply chain is owned or participated in by multiple parties none of which want to relinquish complete control of record keeping to anyone else. This provides the groundwork for creating and maintaining a shared database. Add to it the emergence of smart contracts (computer protocols intended to facilitate, verify, or enforce the performance of a contract) in most mature DLT frameworks and DLTs become an attractive solution that can automate payments on receipt of goods. This can avoid delays, paperwork, contractual conflicts, and expensive litigations. Moreover, if this entire process needs regulatory oversight from one or multiple parties, then DLTs become the near-perfect solution as they can provide ‘read-only’ visibility of transactions to regulators without the need of any additional filing.
The supply chain of an automotive business, for example, can be a very good use case for a DLT solution. It is a highly regulated industry, has cross-country regulators looks at different aspects, multiple network participants (primary manufacturer, suppliers – Tier 1, 2, 3, etc., distributors, resellers) and widespread record-keeping problem. A DLT-based solution can help keep the exact record of each and every part that went into the automobile (or that were replaced), its manufacturing and transportation history, and sales and resale history, all the while giving regulators the view they need. Smart contracts on DLTs can even facilitate the transfer of ownership through smart contracts (e.g., biometric-based car ignition button that deactivates the last owner’s rights and activates the next owner’s once the payment is processed). Similarly, the supply chain of sensitive medical equipment or pharmaceutical products where multiple parties are involved (logistics provider, manufacturer, reseller, regulators, hospitals, patients, etc.) can use a DLT solution very effectively.
So, how should businesses start using DLTs for applicable supply chain networks? As we found out earlier, even if the technology is a right fit, complex economics and power dynamics could make it exceedingly difficult to get all participants to agree to use one. The key therefore is to identify use cases either with minimum friction or with maximum incentives to start with
When you are the dominant player in a multiparty supply chain
Many supply chains have a dominant player. For example, in an automotive supply chain, the manufacturer is overwhelmingly the most powerful entity, and the rest of suppliers and distributors are often highly dependent on it both for goods and technology roadmap. In this case, the manufacturer can enforce a blockchain-based supply chain implementation that everyone else in the chain will have to adopt.
Typically, these kinds of initiatives will start with a small-sized implementation with a handful of the closest suppliers – creating minimum friction. This will lead us toward an environment to really test the technology without breaking anything else. Once this implementation stabilizes, the system can slowly expand and also adopt smart contracts to automate ownership transfers and payments. Coupled with IoT technologies (like track and trace and environment monitoring), this can create a game-changing transformation that will deliver tremendous efficiency and value.
Eventually, the DLT systems can be extended to distribution leg and consumer ends, creating convenience of buying and selling, maintenance and licensing with authorities. The thing to note here is that DLT in these kinds of supply chains will have a great synergy with IoT technologies and platforms and, for the best results, should be implemented together.
When your industry has a record-keeping problem
Sometimes, regulators bring about technology transformations of industries through enforcement powers. Today, many regulators globally are experimenting with doing simple use cases of record keeping on blockchain technologies. For example, passport database and land registry records. This is another example of minimum friction in DLT implementation as regulators anyway have complete control over these kinds of record keeping. The benefit here is solving problems of detailed record keeping going back decades of even the smallest transactions that can be readily queried by a range of government and private entities without the threat of forgery by any single party.
Another classic example of this kind of usage is Clinical trials data. Clinical trials are very expensive to run today due to the massive amount of data-sharing agreements, data capturing, filing, and regulatory compliance companies have to go through. In addition, all the paperwork created needs to be securely preserved for a long time. A blockchain-based ledger can collect/aggregate more extensive data endpoints, secure data easily, provide a history of data capture through block explorers and create a framework for data sharing among parties. All it needs is the regulator to enforce the technology implementation.
When there is agency problem of securing individual data
Recently, we have seen large-scale user data thefts from a range of technology and financial institutions that have left users exposed to potential identity thefts for the rest of their lives. This has been worsened by the fact that, in a few cases like that of credit rating agencies, the users never explicitly consented to their data being stored in a centralized server with inadequate security. DLTs can solve this problem by empowering users to share their data in an encrypted way on a case-by-case basis. This avoids the creation of a central point of failure or a centralized database where everything is stored. This is the case of maximizing incentives.
Today, some start-ups are already working on a range of DLT-based solutions that solve secure data sharing — catering to a range of uses from medical data to credit rating data. Once these platforms are created and have a critical mass of users, businesses will start building services that can leverage these solutions (through connectors, APIs, and oracles), resulting in ecosystem expansion as a kind of ripple effect.
A seat at the table
DLTs hold a tremendous opportunity for technology providers too in the coming decade. It can finally help enterprise technology companies to move from the back offices of their customers to having an equal seat at the table. A classic multiparty blockchain-based supply chain solution will see each participant, including the technology provider, owning one or more network nodes. While the other parties will hold the node(s) to also own, read, and write the shared data, the technology provider will be entrusted to maintain, service, and upgrade the network on a continual basis. This new relationship matrix will create long-term relationships once forged, create and share value as partners, and discover new monetization models.