Technology

The blockchain war is coming

There’s a revolution brewing in how companies – any business entity, doing anything, anywhere in the world – operate.

I’m not exaggerating.

Let me explain.

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The way it is now

For hundreds of years, the way that companies are structured and operated has changed little.

Investors provide capital to a centralised management hierarchy, which is overseen by a board of directors. The goal of these executives is to increase shareholder value by extracting the maximum possible value out of their customers.

Just to be clear: Profit-seeking companies exist to generate as much value from you, the customer, as they can.

Pick any company or service you use or interact with, and think about how it looks to extract value – as much as possible – from you. I’m not just talking about the obvious upsells… the “would you like fries with that?”

As a customer, your interests are not aligned with the company providing you goods and services. There is a clear conflict of interest (regardless of the marketing smokescreen that suggests otherwise). Every company exists to make money. Is customer satisfaction important? Sure – but even that is a means to profit.

Executives are likewise incentivised to extract the maximum personal profit out of the company they work for. Think about any company you’ve ever worked for. Aside from personal job satisfaction, your compensation was likely the most important consideration. The more value you extract from customers, the higher your compensation.

What’s more, the more money the employee can extract from the company, the less that’s available for shareholders.

This leads to the second conflict, which is known as the “agency problem”. Managers are supposed to act as agents for shareholders and maximise shareholder value. But the managers’ primary interest is maximising his own wealth. Just google “executive pay scandal” to see just how many companies are facing shareholder revolts regarding executives taking home fat salary packages – despite the company underperforming.

But today, we are on the verge of a radical transformation that has the capacity to completely eliminate these two fundamental conflicts of company versus customer, and shareholder versus management.

It promises to eradicate the agency problem and overhaul our ideas of corporate governance. And more importantly, it has the ability to completely align customer and business interests in a way that renders traditional businesses uncompetitive to the point of becoming obsolete.

But how? In a word, the blockchain.

What’s coming next

The blockchain is going to completely rewrite the rules of corporate finance, transform corporate governance, engender complete transparency and render huge swathes of existing businesses uncompetitive.

If you’re not familiar with the blockchain, go here to read our primer on it. But the short version is, the blockchain is the technology behind cryptos. For the Bitcoin blockchain for example, it’s like a giant Excel spreadsheet that shows the complete transaction history and location of ever bitcoin. Every 10 minutes the spreadsheet gets updated as an additional “block” of new transactions is added to the spreadsheet. Everyone can have their own copy of the spreadsheet. It’s completely transparent.

As email is one use case for internet, so too is bitcoin a single use case for blockchain. Bitcoin’s success has shown the world it is possible for independent and fragmented entities to enable strangers to exchange value with no need for an intermediary. And it can be done in a completely transparent, verifiable and open way.

Right now, there are two other critical innovations that are built on top of blockchain. These two innovations are what will solve those fundamental conflicts we talked about earlier – the conflict between a business and its customers, and between employees and the companies they work for.

Smart contracts

The term “smart contract” was originally coined back in 1994 by a legal scholar and cryptographer by the name of Nick Szabo. He realised that a decentralised ledger (like blockchain) could be used for digital or self-executing contracts. Instead of Bitcoin blocks containing transactions, these blocks could contain computer code that executed under certain conditions.

Here’s an example: Let’s say Jim is buying an iPhone from Sally, which she advertised online for one bitcoin. Jim doesn’t know Sally. So he only wants to pay for it when he takes delivery because he doesn’t necessarily trust her. Sally, on the other hand, doesn’t want to wait until Jim has the iPhone, in case he doesn’t pay.

That’s where a simple smart contract comes in.

A simple smart contract allows for Jim to pay the bitcoin to Sally into an escrow-style account built on a smart contract blockchain. Sally can see the bitcoin has been paid so Jim is a real customer. The smart contract states that when delivery is complete, the payment will be released to her. And Jim knows that if the UPS parcel never shows up, he can get his bitcoin released back to him.

How is this different from traditional escrow?

Firstly, there’s no centralised middle-man (i.e. the escrow company). Secondly, fees are either non-existent or minimal (with real estate transactions, escrow service can cost US$1,000 or more). Thirdly, current escrow systems work well for larger transaction sizes, but not smaller ones. A smart contract escrow is scalable to support both large and small transactions.

This kind of escrow is an extremely simple use case, so let’s expand it further to a business.

 

A music industry artist (or their record label) is entitled to receive royalties every time their content is used for commercial purposes, i.e., sold through Apple’s iTunes or streamed on music-on-demand service Spotify.

When you pay to download music from iTunes, Apple takes a 30 percent cut before paying the remainder to the record label, who pays their artist accordingly. But the Berklee College of Music estimates that anywhere from 20 to 50 percent of royalties never make it to the musicians themselves.

Now imagine if you will, a blockchain-based version of iTunes where artists upload and sell their own copyright-protected music.

Your smart contract can define any kind of revenue split you want. If there’s no record label and the band is independent, then the smart contract can apportion an equal third share between the singer, drummer and guitar player. When a customer buys an album, the money is automatically and immediately sent into the three separate bitcoin wallets specified in the smart contract.

Decentralised Autonomous Organisations

The music distribution platform is an example of a Decentralised Autonomous Corporation (DAC). What is a DAC? It’s an entity that uses the power of the blockchain, coupled with smart contracts, to operate a completely transparent business enterprise that aligns its stakeholders with its users/customers.

DAOs represent an existential threat to existing centralised businesses that collectively make hundreds of billions or even trillions of dollars of profit.

Look at some of the largest technology businesses in the world today. Take Uber, for example. Uber doesn’t own any taxis, doesn’t hire drivers, doesn’t own any taxi licenses. What is Uber? It’s essentially code that connects people who want to go from A to B with drivers who want to earn some money from taking them there.

But Uber wants you as a customer to pay the highest possible fare, and it wants to pay as little as possible of that to the driver.

Or what about AirBnb? The company doesn’t own any real estate or provide any hospitality services. It simply connects people who want to monetise a spare property or room, with someone who needs a roof over their head.

And it earns a lot of money doing so. AirBnb charges hosts (people who provide accommodation) anywhere from 3 to 5 percent, and charges guests up to 15 percent.

What if DAOs were launched targeting these two business models?

What if, for example, a blockchain Uber issued its own digital currency?

What if the blockchain Uber platform was owned by its riders and its drivers as a decentralised, blockchain-based cooperative, transacting in its own digital currency. It might sound farfetched, but it’s not. Over the next few years these are the kinds of businesses that will emerge. There are already companies out there building decentralised companies.

Steemit for example is a social media platform that exists entirely on blockchain – it rewards people for popular posts with its own cryptocurrency that can be converted into dollars.

So what will companies like Uber and AirBnb do? They will do what any entity does when threatened, they will fight. They will lobby governments to protect them.

In short, a war between traditional businesses and DACs is coming.

Good investing,
Tama Churchouse