Smart contracts streamline and secure the supply chain, but there are challenges.
Blockchain has become a hot topic. Widely known as Bitcoin’s underlying technology, it has the potential to transform how modern economies deal with maintaining and updating records, but many people are confused by the concept and its actual applications.
So what is blockchain and how does it work?
It’s a ledger database maintained by a vast distributed network of computers, each permanently recording the history of all the transactions taking place on the network in blocks. The ledger is distributed in the sense that all the network members (nodes) store an up-to-date copy of the ledger, ensure its accuracy and continuously validate transactions, which are then added to a new block. Upon completion, the block is time-stamped and subsequently linked to the previous block through a hashing function – similar to a digital signature – and a chain of blocks is formed. Blockchain is generally viewed as reliable and secure, provides a clear audit trail and simplifies complex processes by essentially removing the middle person.
Several major automobile manufacturers are exploring how to integrate blockchain technology with their operations. According to market research agency Frost & Sullivan, by 2025, they’ll spend approximately US$169 billion on implementing new technologies, of which 0.6% (more than $1 billion) will be allocated specifically to blockchain technology.
Here are a few examples of how blockchain technology can impact the automotive industry, including some of the legal issues:
Supply chain management. Today, every actor in the supply chain has its own record-keeping database. At every layer of the supply chain (order-processing, shipping, billing and payment), assets and information are transferred from one organization’s database to another, resulting in an incredibly complex, costly and often inefficient supply chain system.
Blockchain enables manufacturers to simultaneously order, track and pay for goods with computer code-written (smart) contracts that verify and execute the terms of a given contract automatically as different steps are completed. Such a contract could automatically be triggered when a manufacturer places an order from a supplier. The software immediately creates a purchase offer and an invoice is generated, then time-stamped. Documents are matched with the bill of lading. Time-stamping creates a unique identifier on the blockchain, making it impossible for the supplier to sell the invoice again.
This has already been put into practise by a London-based start-up that developed software to allow companies to reconcile invoices by automatically tokenizing each one into a blockchain network. As a result, investors can be certain the invoices were not previously sold or faked.
Blockchain also helps manufacturers ensure ethical sourcing of materials, especially relevant as electric vehicles become more popular among socially minded consumers. Batteries are dependent on nickel and cobalt, which comes with a significant environmental and social cost. Currently, tracing these minerals back to their places of origin is extremely complicated since suppliers are three or four layers removed from the manufacturers. Blockchain would make it easier to trace materials all the way back to the mine. Avoiding materials originating from questionable locations could positively impact a manufacturer’s brand and allow consumers to make more informed decisions.
Warranty issues. Recently, a European start-up created an application aimed at solving a general lack of transparency related to an automobile’s history and how this affects the vehicle’s warranty. The application enables every piece of information regarding an automobile to be saved by the owner in a streamlined, tamper-proof and secure digital car maintenance passport, rendering any potential product recall issues much easier to manage.
Vehicle information is currently spread across many actors such as insurers, repair shops and governmental agencies. Using blockchain, the manufacturer matches a defective part to the specific vehicle, making recalls more targeted and less costly.
Counterfeit parts. This is a major global problem. Abu Dhabi officials confiscated more than 500,000 of them from a store (approximate value US$4 million) last year. Apart from the financial consequences of counterfeiting, lives are at stake, especially when it comes to brakes and airbag safety. But accounting for counterfeit parts is a time-consuming and arduous task because of the volume of paperwork involved, plus information concerning each part is stored across multiple databases.
Blockchain offers an efficient solution by registering each part as a unique entity within the blockchain as soon as it’s produced. The ease and speed at which any given part could be traced back to its origin would in turn make the sale of counterfeit parts much more difficult.
Legal pitfalls. Implementation of blockchain technology will almost certainly present legal issues. For example, the use of smart contracts is one area that could prove difficult to regulate.
For a contract to be valid between parties, various legal notions must be satisfied. It’s unclear how the more subjective legal concepts such as reasonableness, implied duty of good faith and the intention to be bound could be successfully integrated into a code-written contract. If a code error prevents correct execution of a smart contract, parties could be left without a clear solution. Even more dangerous is the automatic nature of the smart contract, making it challenging – if not impossible – to prevent an illegal contract from executing if the parties did not incorporate specific mechanisms beforehand.
Jurisdictional issues are another legal concern. A blockchain transaction is fundamentally decentralized and distributed, being performed and recorded simultaneously on nodes in numerous locations. In the event of an erroneous transaction, how would it be determined which laws apply and which courts have jurisdiction? At the moment, only a few regulatory bodies have provided some guidance on whether blockchain technology can truly create valid contracts between parties (see Blockchain and the law). Barring any tailor-made legislation, the courts will most likely try to solve any blockchain-related dispute by using existing principles and laws.
From a warranty and product liability standpoint, blockchain-based technologies would need to meet regulatory requirements and withstand scrutiny from the relevant enforcement agencies. That could be a challenge given the technology is not yet fully understood. Since many product recalls result in class-action litigation, manufacturers will need to test their blockchain solutions to ensure reliability of the technology can be successfully demonstrated in court.
What does the future hold?
Blockchain has much to offer the automotive industry, such as reducing inefficiencies in the supply chain, enhancing the user experience and preventing fraudulent manipulation of a car’s history.
However, adoption presents significant challenges. Most people are not fully aware of potential legal pitfalls; the technology is in its infancy, and numerous technical flaws still exist; and integration raises questions regarding liability for technical errors. The decentralized nature of the network also makes it difficult, if not impossible, to identify the responsible party for glitches, errors or data breaches.
These and other issues such as lack of expertise and hands-on training in the area must be addressed before the technology is widely implemented.
Imran Ahmad is a partner in the Toronto office of the law firm Miller Thomson LLP who specializes in technology, privacy and cybersecurity law. E-mail email@example.com. Call (416) 597-6031. Katherine Barbacki is an associate and Oleg Stratiev an articling student, both at the law firm’s Montreal office.
This article originally appeared in the October-November 2018 print issue of AutoPLANT, an automotive industry supplement to PLANT Magazine.