Legal Business Infrastructure for Blockchain & Smart Contracts (All Verticals)
Smart contracts are often created by a smart contract developer and audited by a smart contract security auditing firm. However, the quality of smart contract coding and auditing varies drastically among service providers. Since the teams that use such services are usually, by definition, non-technical or at least non-native to blockchain, they lack the skill set to audit the smart contract codes themselves. They must rely completely on the honesty and competence of the vendors they contract to build their tokens. In reality, many smart contracts contain errors that will cause them to behave differently in practice than their creators intended.
And yet hardly anyone is talking about what happens when a smart contract does contain an error, or if an unforeseen circumstance arises in which none of the predetermined outcomes of the smart contract are appropriate. It is inevitable that smart contracts, despite their power, will require dispute resolution from time to time. But the current architecture mostly leaves parties with no recourse. This is a major problem for crypto markets that has the potential to result in very significant problems for the space if we fail to provide a solution.
Fortunately, there is Sagewise. To the extent the smart contract contains a coding error or security vulnerability unnoticed by either its creator or an auditor, Sagewise provides users a third layer of protection. This layer offers smart contract monitoring, notification, and freezing ability—similar to a bank’s fraud alerts—to ensure that the execution of a smart contract reflects a user’s intent. Using a combination of delayed execution, time blocks, and notifications, Sagewise alerts users about pending execution of the smart contract, and have the ability to prevent such execution of the smart contract before the event occurs. Sagewise also gives parties the ability to amend, terminate, and dispute a smart contract. Code is static, but problems and circumstances change, and when they do the contracts designed to regulate them must be able to adapt.
Sagewise offers users of blockchain products the ability to navigate errors or unforeseen circumstances without the fear of losing their investment as a result of inflexible code. In turn, it gives smart contract developers and security auditors the ability to sleep better at night, knowing that Sagewise provides a safety net for the undiscovered and unexpected.
Security Tokens & Tokenized Securities (STOs)
Security tokens (STOs) bring novel issues, both in their initial issuance, any subsequent reissuances, and during secondary transfers and trading. Many STO technology platforms provide the technology to issue, cancel, or reissue security tokens, but not the governance and legal infrastructure for proper maintenance during the life of the security. Issuers, on the other hand, prefer to focus on their business and do not want to expend resources on investor support and dispute resolution around their issued security.
Sagewise allows STO issuers to delegate investor support and dispute resolution responsibility to a trusted third party with the legal and technical capability to provide investor support. Potential questions and disputes issuers may face from investors include issues surrounding:
- Dividend issuance in multiple currencies / cryptocurrencies and related tax events
- Split and merger token handling and verification
- Additional token issuance
- Shareholder communications
- Shareholder registry and audit
- Lost/Stolen token reissuance and identity verification
- Regulatory intervention events (court orders, etc.)
- Smart Contract bug catastrophic disaster recovery
- Shareholder ownership disputes
- Tech related issues with respective STO platforms
- White/blacklist daily updates and management
- KYC and Investor Accreditation/Qualification
- Portfolio company / secondary token distributions
- Token upgrades (ie schedule, facilitate, monitor and reconcile any future token upgrades)
- Token holder requirements
- General Inquiries
Contract electronic signatures written to an immutable distributed ledger create a gold standard for data records. There are a few key benefits to mention:
- Data can be cryptographically provably timestamped. This data recording can be used as evidence to prove a document’s existence at a given time and verify that the document has not been altered since.
- Data records can be independently verified on the distributed ledger without notifying or seeking guidance from the document creation platform provider. This presents an improvement over current electronic signature tools.
One example of the need for immutable record timestamps on contracts is the case of OKCoin and Roger Ver. OKCoin and Ver engaged in a contract over the lease of a popular domain Bitcoin.com. When OKCoin stopped making monthly payments to Ver over the use of his domain, the two started to engage in a public dispute with an interesting twist: Both sides presented differing copies of electronically signed contracts. Forensics were challenged by the fact that during the negotiation, more than one copy of the contract had been signed as is common in a negotiation. Timelines of contract versions as well as fraudulent modifications to the contract itself became a focal point of the dispute. Not only would immutable distributed ledger document and signature recordings have provided proof against document fraud, but also a timeline of when each document version was signed by each party would have been available. This evidence trail would have removed any ambiguity over which document was the most correct and up to date version.
Blockchains and smart contracts allow the supply chain greater transparency, traceability, and efficiency. Many supply chains cross multiple national jurisdictions, their products passing through numerous custodians on their way to the end consumer. Particularly in the case of perishable or otherwise time-sensitive products, smart contracts offer a significant advantage in determining whether the requirements of an agreement have been fulfilled. However, there can still be gray areas or unforeseen complications, and in these cases even smart contracts will need a method of dispute resolution.
For example, a supplier in China (Company A) contracts with a retailer in the U.S. (Company B) for 10 pallets of highly perishable pharmaceutical products. The retailer supplies funds to the smart contract, to be executed upon completion of delivery to Company B. The product leaves the factory in Shenzhen, is loaded onto a container ship operated by a third party shipping company, and travels several weeks to the Port of Long Beach, where it is unloaded.
Unfortunately, the product gets stuck in Customs for several weeks. By the time it is cleared and delivered to Company B, the product has expired. The shipping log shows that this was not the fault of the shipping company or any other third party, so blame appears to fall on the manufacturer. Ordinarily, the two contracting parties would specify in the contract where liability for loss falls in such a situation, but failed to do so in this contract. Usually, the delivery of the product in an unusable state would void a contract and return all funds to the retailer. Here, the smart contract would have executed upon delivery of product to Company B.
However, the product in this case is unusable, which does not conform with the intent of the original agreement, so Company B argues that the contract was not fulfilled. The manufacturer maintains that it should not be penalized, as it shipped the product intact and on schedule. Neither party therefore believes it violated the terms of the agreement, since the expiration of the product was a result of a government action that could not have been avoided. To resolve the issue, the parties call a dispute to determine which party is owed what by triggering the SDK with the click of a button on their mobile app. The parties then attempt to resolve the dispute themselves while the smart contract execution is frozen. Unable to do so, they then rely on their pre-agreed dispute resolution vendor to decide who bears the loss. In this case, the outcome of arbitration is that both companies share 50% of the loss. The third party dispute resolution vendor is then able to use Sagewise tools to enable immediate execution of the resolution because the smart contract acts as a digital escrow. Although the outcome is a loss resulting from bad luck, Sagewise is able to optimize the outcome so neither party bears an unreasonable piece of the downside.
Blockchain and smart contracts offer several applications to the financial services industry, from cross-border payments and trade finance to share trading and loan syndication. In fact, financial applications have been some of the earliest and most obvious use cases for blockchain technology and many legacy financial organizations are beginning to invest heavily in these technologies. The benefits of the immutable ledger, combined with the security offered by decentralization, are apparent to these businesses in cleaning up some of the risks and inefficiencies they face when participating in the financial markets.
A clear example is the construction industry. This space is traditionally rife with inefficiencies, lack of transparency, fraud, and disputes. The reputation it has gained as a result acts as a further brake on its potential. But using blockchain, the lender to a construction project could enter into a smart contract with a borrower for a construction loan, to be distributed based on certain construction milestones. This smart contract could stipulate monthly interest only until payment is made in full, upon sale of a property, due in 12 months. In theory, these requirements are clear enough.
But there is always a risk that the borrower is unable to make an interest payment or needs an extension for the sale of the property. Technically speaking, this results in a violation of the smart contract and automatic withdrawal of any funds. But as anyone who has taken part in a real estate deal knows, things are rarely so black-and-white. Here, the parties can trigger the Sagewise SDK via a mobile app to freeze the impending default (and withdrawal of funds), and attempt to work out a deal to self-resolve the dispute. Once they reach self-resolution, they are able to update the terms of the smart contract. Mediation of this sort will be an essential feature of smart contract economies.
Asset digitization is the application of blockchain technology to the ownership of real estate, intellectual property, and other quantifiable assets. Digitization allows parties to track authenticity and chain of ownership, enables tracking of licensing and sublicensing (or leasing and subleasing), and allows for greater tradability. Smart contracts ease many of the risks and stresses that surround asset transfers, since ownership can instantaneously be exchanged for currency upon fulfilment of a smart contract. This decreases the possibility that payment could be sent and the asset not received; or received in a damaged, defective, or counterfeit state; or that the asset could be handed over and the payment withheld in violation of the contract.
But there scenarios are still possible in which amendment would be needed as a result of unforeseen circumstances. For example, investors form a group (or syndicate) to invest in a small apartment building at 123 Main Street and memorialize the investment via smart contract. After the investors have raised enough funds, the deal falls through when due diligence reveals that the property has environmental hazards. Normally, the smart contract would fail to execute and the funds would be returned to the syndicate.
However, in this case the investor group is determined to invest in the neighborhood, which it believes will soon see property values rise. Simply voiding the purchase agreement as a result of the failure of the smart contract to execute would be a disappointing result. There are many properties in the area that investors believe offer them similar upside. Here, the syndicate manager triggers the Sagewise SDK via mobile app with the push of a button, which in turn freezes the execution of return of funds. Now the syndicate manager has breathing room to re-approach each investor about investing instead in a similar property– 125 Main Street. The syndicate decides it would like to use its funds to acquire that property instead. Sagewise amends it instead to invest in 125 Main Street, securing the consent of the syndicate investors without having to retrace the entire process of contracting the new building from scratch. The smart contract has been amended and updated to offer an optimal outcome to the syndicate and the seller.
Decentralized consumer marketplaces are increasingly popping up that challenge the “middleman website” model for industries such as freelancing, homesharing, e-commerce, and other services. Traditionally, centralized marketplaces have offered dispute resolution and arbitration mechanisms as advantages over decentralized alternatives. This argument has allowed them to promise users that although they might be more expensive and cumbersome to use, they offered protection against unforeseen problems and disputes. But now, Sagewise is offering a solution that allows users of decentralized marketplaces to enjoy the same recourse in the case of a dispute – made more powerful by a blockchain engine.
For example, a user enters into a smart contract for software development services with a marketplace vendor. However, the two parties do not properly clarify the scope of work. The user believes that the vendor will offer end-to-end development services, building a smartphone application from scratch to completion. The user also mentioned a desired time frame of six weeks in their conversations, but this was not memorialized in the smart contract. The vendor, on the other hand, claims to have believed he was only contracted to build certain functionality for an app whose overall development was the responsibility of another party employed by the user. In the event, the smart contract pays the vendor a set amount for each new build, but when he never delivers a final product or offers overall progress reports, the user demands her money back. The user believes the vendor has failed to deliver the services he promised, while the vendor thinks it is unjust to attempt to claw back the money he has been paid for the services he believed he was expected to perform.
Sagewise allows the parties to engage in dispute resolution as to fair compensation for work done. The user can trigger the Sagewise SDK in the smart contract via a mobile app, which freezes execution of the smart contract. The user and vendor can then try to self-resolve the dispute; to the extent they cannot, the dispute is referred to their mutually-agreed-upon pre-appointed third party dispute resolution vendor.
In this case, they are unable to self-resolve the dispute, so a third party dispute resolution vendor helps render a decision that determines the fair market value of the work the vendor has done to be 70% of what was originally promised. Using Sagewise’s enforcement tools, the vendor then distributes the 70% of proceeds of the smart contract to the vendor, and remaining 30% to the user. As a result, the vendor’s pay is adjusted to reflect the true value of his services completed. A common misunderstanding is therefore resolved as though the contract were structured correctly from the start.