Blockchain enabled Trust & Transparency in supply chains (Journal format)

Authors: Jørgen S. Notland & Anders V. Hua.

The following is a journal formatted(Shorter and easier to read) version of our paper.

Original: https://keepingstock.net/link-to-original-paper-https-www-pdf-archive-com-2017-02-01-project-thesis-anders-j-rgen-project-3921bf4cbdd7#.pd8ww5uxn

Abstract

The supply chains for commercial markets are opaque and complex, they can span hundreds of production stages and several geographical locations so that the provenance and history of a product is usually unknown to upstream actors. Lack of transparency and trust in the supply chain lead to lack of information about the provenance and working conditions behind the product. There has been shown that some actors behave illegally and unethically.

This thesis’ purpose is to investigate the nature of trust in supply chains and if Blockchain can increase trust in supply chains. A theoretical framework involving trust and transparency in supply chains, Blockchain and record keeping has been established.

Blockchain has its strengths and limitations: high integrity but unstable information reliability. How data is recorded on the Blockchain is considered critical and require a trusted third party recording transactions to guarantee information reliability. The authors believes that if the problem of information reliability is solved, trust in Blockchain implementations will increase.

The actors in the supply chain need an incentive and clear profit in order to have any motivation to implement the Blockchain technology. A strong incentive and a method and specific steps for implementation still remains to be researched.

KEY WORDS: Blockchain, supply chain, trust, transparency, smart contracts, information sharing, information gathering.

Table of contents

Abstract 1

Table of contents 2

1. Introduction 3

1.1 Blockchain 3

1.2 The problem with supply chains today 3

1.3 Research questions 4

2. Supply chain 4

3. Trust 5

4. Transparency 6

5. Transactions 6

6. Blockchain in supply chains 7

7. Trusting records 7

8. Conclusion 8

Acknowledgements 9

References 9

1. Introduction

1.1 Blockchain

Blockchain is a groundbreaking technology possibly representing a paradigm shift in how counterparties trust each other and how value is transferred globally. Although investments in the Blockchain space has increased from 1 million dollars in 2012 to 475 million dollars in 2015 (KPMG & CB Insights, 2016) most Blockchain solutions are at the Proof of concept, alfa or beta stage of development. This puts Blockchain technologies in the early stages of the technology adoption life cycle (Moore 1991).

The underlying TCP/IP protocol in the internet has enabled anyone in the world with a computer/smartphone and a connection to the internet to freely share information with each other. In the internet of information, information flows freely and anyone can share (upload) or consume (download, copy) any digital content such as text or images. This is referred to as “the internet of information” where information is instantly accessible to all users once it is published. In a Blockchain based system, transactions occur almost instantaneously and are settled instantaneously on the Blockchain.

Transferring value between banks and countries takes several business days (Commonwealth Bank 2016) and in the shipping industry, settlement of a contract between two firms in the supply chain happens every 30. days. (Kavussanos & Visvikis 2006). With Blockchain these settlement times can be significantly reduced. Economic value is unlocked by lowering both the time and cost of transferring value. Referred to as “the internet of value” where any business, organization or person can instantaneously transfer value directly to each other.

A limitation with Blockchain technology is trust in the process of transaction records. Blockchain technology in itself does not address the reliability of its records. Reliability (in recording) is not a core part of Blockchain technology.

1.2 The problem with supply chains today

A supply chain contains all of the links that are involved when manufacturing and distributing goods. In today’s world, a supply chain can potentially involve hundreds of stages and dozens of geographical locations. Like for example the supply chain of Apple Computing whose suppliers employ over 1.6 million people in 20 countries (Apple 2016). This makes it very difficult to track events happening in a supply chain and investigate incidents. Because there are information losses and barriers in every step of the supply chain, the further away in the chain an incident is the harder it is to obtain any information on it (Cecere 2014).

Buyers and sellers have to have a reliable system for verifying and validating the true value of a product or service purchased. The endemic lack of transparency in supply chains effectively means that what we pay for a service or a product is often a wrong reflection of what the true cost of production is. There is for example no standard way to track the environmental damage that follows the manufacturing of goods for supply chains that are not fully integrated, which is the vast majority of goods.

When an actor in the supply chain conducts illicit activities, investigation becomes very hard and often no one is held accountable. This includes activities such as slavery, inhumane work conditions, counterfeiting and revenues being wired to fund criminal activity or war. An example is the Coltan Ore (Sutherland 2011), which is used in mobile phones and consumer electronics. It’s mining has reportedly committed human rights abuses for several years in a row.

1.3 Research questions

The importance of trust in supply chains relationships and Blockchain technologies nature to provide trust and smart contract capabilities has led to three research questions that the project thesis will seek to answer:

RQ1: What is the nature of trust in supply chains?

RQ2: Can Blockchain tracking and information transparency increase trust in supply chains?

RQ3: Can Blockchain automated smart contracts increase trust in supply chains?

To find answers to the RQ’s, a literature review of existing research and papers on supply chain, trust and Blockchain technology will be performed.

2. Supply chain

La Londe and Masters (1994) has proposed that a supply chain is a collection of businesses passing material forward. They argue that normally there are several independent companies that are involved in the manufacturing of a product and eventually reselling it to the end user of a supply chain. Their definition says that all these companies including firms producing raw material and components, product assemblers wholesalers, retailers and transportation firms are members of a supply chain (La Londe & Masters, 1994). The traditional approach in supply chain relationships between firms was more in the nature of a confrontationist negotiation based relationship seeking competitive terms and conditions, as a part of the effort to build economic efficiencies through cost, quality and other such considerations. (Hacker et al 1999)

A combination of rapid globalisation, internationalisation, deregulation and advanced scientific and technical innovations are all a part of the underlying factors that has pushed the emergence of the relationship paradigm for creating long-term relationships among customers and suppliers in the supply chain (Zineldin & Jonsson 2000; Chandra & Kumar 2000). Because of an increasing global competitiveness, a lot of companies focuses on their core-business and outsources the sub-processes. A consequence of this is that companies have realized the importance of maintaining long-term relationships between customer and supplier (B.S Sahay 2003).

Customers and manufacturers, distributors, retailers and a host of service organisations have become more aware of a mutually beneficial reasons based less on power play and more on value exchange is necessary in order to survive. Relationships based on this new paradigm enhance value two ways: collaboration changes the working relationships in ways which enhance the value derived from each other. They also allow lower costs and risks, and synergies, so that the net value delivered through this value chain is much higher than others in the industry. Collaborative relationships require trust, commitment and a willingness to share risks in order to achieve a beneficial long-term cooperation (Sahay and Maini, 2002). Trust is a complex concept both in the literature and the real world, but it plays a key role in in supply chain relationships.

3. Trust

Trust (Mayer et al. 1995) is extremely important in supply chains because there is always the expectation of another party performing a particular action important to the trustor. When a party in a transaction has been paid to provide a goods or service, the paying party expects the goods or service provider to perform a particular action. Inter-firm trust levels has been shown to be a central part of supply chain relationships (Kannan & Tan 2006).

The 2017 Edelman trust barometer discovered that trust in institutions including NGOs and corporations has in 2016 declined to trust “lows” similar to trust levels during the financial crisis. 85% of respondents indicated that do not “trust the system”. And only 52% of the respondents trust in businesses (Edelman 2017).

How do we regain trust? Blockchain guarantees trust in a system using mathematics, code and decentralized verification of transaction. Blockchain can solve the issue of multiparty contention without having to involve a human. Parties that has different sets of interests will probably relax contention when untrusted systems and processes are replaced by Blockchain implementations because Blockchains are self-administered, self-executing and administrator-free. Instead of a system involving an authority that can control and corrupt the system. Blockchain creates a trusted, decentralized way of managing who owns what, or “the current state of the world”.

When parties have differing sets of interest concerning who owns what, contention arises. Who owns what money? How will this transaction be settled? These contentions are today mainly resolved by distrusted authorities such as banks and clearinghouses. With Blockchain dependence and trust to a third-party is no longer needed as the trust is integrated into transactions. Trust is no longer placed in individuals and central institutions, but rather distributed across the population. Central authorities are replaced by communities of peers in the form of peer-to-peer networks. No single entity had the capability to unilaterally taking actions on behalf of the community. In a democratized context like this, corporations cannot unilaterally defy the community and break the rules of the system, thus increasing the trustability of the system itself (Sun et al 2016).

4. Transparency

The authors believe Blockchain technology can increase transparency in supply chains. This is possible using it’s decentralized ledger that can track and record movement of goods through supply chains from end to end. Tracking goods using Blockchain technology enables a capability to directly validate an item’s provenance and authenticity. Every actor within a Blockchain network has a complete and constantly updated copy of the ledger. This enables them to use the ledger for real time monitoring of their supply chain.

A smart-contract based corporate identity solution can reduce concerns about information privacy. A secure access-controlled environment where every person has a corporate identity that is given permission to access specific pieces of information from actors in the chain. Then information is regulated by a smart contract owned by the actor and no administrator or 3rd party can access information set as private by an actor. Also actor-agnostic and role-specific identities (i.e. CTO) can be issued with specific permission. This creates a more trusted network for sharing information due to the lack of central authorities with access to the information in the network and the actors control of access to the information.

A Blockchain implementation can register the handling of items through the whole supply chain. This can enable customers with the information about the provenance of suppliers product. Information such as how it has been transported, what it is made of and if the workers downstream in the supply chain are slaves or employees. In a Blockchain enabled supply chain buyers might require suppliers to be active on the Blockchain because the buyer is running a brand based on guaranteed slavery-free supply chains and needs to prove it to her customers. Thus utilizing Blockchain technology for tracking of a firm’s internal operations could insinuate that a supplier fulfils standards that are expected from suppliers upstream in the supply chain. In the future having implemented Blockchain technology might also yield a competitive advantage as consumers become more aware of the provenance of products and working conditions. If Blockchain expansion prevails customers has the option to disregard all suppliers that are not Blockchain enabled. Customers might suspect that they have something to hide considering the provenance of the product or working conditions.

5. Transactions

Lower trust is now needed to contentiously interact with a third-party. Blockchain technology is ideal for transaction of value in between two parties or more in a secure, open, peer-to-peer and auditable way.

Paper-based and electronic banking systems has been created to move large amounts of value around from owner to owner, but maintaining trust by managing and recording transactions is inefficient using banks and double-entry accounting compared to the capabilities of Blockchain technology. When trading in the supply chain, fiat currencies traded on an non-Blockchain banking infrastructure are inefficient and value moves in terms of every month. Also in current systems records of transactions are recorded asymmetrically resulting in information asymmetry and record tampering.

Buying an item using cash is simple. An actor can just hand the cash over and receive the item in return instantly in a peer-to-peer fashion. You don’t have to give up any personal information to a central institution, there is an instant settlement between buyer and seller when handing over the cash. In Blockchain implementations, value is also traded in an peer-to-peer value. In addition to being instantly visible to all actors every actor has a record containing a full auditable history of all the transactions of value every conducted on the Blockchain implementation. Using Blockchain technology, counterparties in a transaction can cheaply and independently transact and verify the transaction on a Blockchain. The transactions settle almost instantly and are secured by the decentralized nature of the Blockchain.

Transactions in the supply chain often requires third party institutions such as banks and clearinghouses. These are normally brokers and middlemen who are paid a fee and trusted to manage or process a transaction. Blockchain implementations has the potential to provide automatic Blockchain-based smart contract systems that receives a higher degree of trust than these brokers and middlemen. The brokers and middlemen might lose their competitive advantage of trust to a Blockchain implementation that is more trusted and does the job more efficient. Especially now in January 2017 when trust in businesses is considered to be very low (Edelman 2017).

6. Blockchain in supply chains

“Supply chains will certainly evolve into supply Blockchains in pharma, finance, public sector, mining exploration, and retail” — Andrew Keys, head of global business development at consensus systems.

Blockchain being a technology that ensures a trusted, secure and transparent technology has the potential to fix some of the current problems with supply chains today. An example is an Blockchain implementation that registers all transactions of goods on a Blockchain: The parties involved, date, price, location, state and quality of the product and other information that is relevant to management of the supply chain.

The Blockchains implementations public availability means that it will be possible to track every step in the supply chain of every product. In a supply chain that has implemented Blockchain, everyone can potentially trace a product back to the raw materials used to produce it. With the Blockchain being decentralized, consisting of miners all over the world it is considered nearly impossible for an attacker or “hacker” to take ownership of the Blockchain and the data stored there to manipulate it to their own advantage. Also, the immutable and cryptographically secured nature of operations on the Blockchain makes it nearly impossible to compromise or “hack” the Blockchain.

In a Blockchain implementation, a Blockchain based smart contract can trigger automatic value transfers based in conditions. Imagine a GPS tracker in a ship that triggers a payment that is instantly settled on a Blockchain once the GPS location of the ship proves that the ship has reached the destination a buyer.

7. Trusting records

The discussion about trusted records mainly boils down to the two interlinking concepts of reliability and authenticity (Mak 2014):

Reliability: Defined as how trustworthy a record is based on: The controls on its creation, the completeness and the competence of the author (Duranti & Rogers 2012, 525). Also referred to as validity in other contexts (Merriam-Webster 2015). Reliability is more linked to how records originate and who originated them than how subsequently the records are maintained.

Trustworthiness: Documentary truth or juridical truth (Duranti 1990) is the trustworthiness of a record as a record in itself. This is the authenticity of the identity of the record in relation to what it purports to be, the identity of the record. It is also the integrity of the record, has is been tampered with or corrupted (interPARES 2015). Authenticity is closely linked to how records are preserved over time (Lemieux 2016).

The authors believe that maintaining the authenticity and integrity of records is the core capability of Blockchain technology. This is considered the major opportunity Blockchain technology promises to deliver. The technology’s capability of maintaining authenticity of records depends on how secure the system is (Lemieux 2016). Blockchain is not 100% secure from all attacks even though it is one most secure protocols ever designed (Nakamoto 2008).

8. Conclusion

The nature of trust in supply chains, as asked in RQ1, is covered in the chapter of literature review. It is obvious and naturally an advantage to have trust in relationships, also in the supply chain. We also learned of the growing awareness of its importance how this has become increasingly relevant in today’s emerging relationships.

To address information integrity and transparency issues, Blockchain technology can be used to build open, secure and trusted systems assuming that the infrastructure processing and recording transactions is secure and properly managed. In terms of RQ2 and RQ3, the answer is yes, Blockchain tracking, information transparency and automated smart contracts can increase trust in supply chains.

The technical challenge is that Blockchain technology does not have the capability to guarantee information reliability in the recording. Thus Blockchain implementations could face several limitations and might require a trusted third party or a very secure tracking device to maintain the trustworthiness of records. The authors believe that if the problem of information reliability is solved trust in Blockchain implementations will increase.

Another challenge is a non-technical. The question is if it would be perceived as profitable for the one concerned to implement Blockchain technology. If you run a sweatshop in your supply chain, what incentive would you have to open your doors for everyone? And if you are the end customer, would you want to know your products provenance, if this spills your consciousness and the alternative is more expensive. If you are not the end customer, your reputation could be damaged by this information. Hence, the conclusion here is that there must be some clear incentive for all parties to be transparent. You could argue that the transparency would increase trust in the relationship, and as shown in the literature: Trust in relationships increase performance, synergies and overall success. Even though, this is not immediate and clear profitable effects. Profit is easy to measure, while trust and relationship management is more intangible and much harder to measure.

Acknowledgements

Special thanks to Lars Øystein Widding for providing valuable feedback for intertwining Blockchain with business and management theory and to Donn Morrison for being a valuable technical supervisor and discussion partner.

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