elephant_in_treeThe launch of Ethereum, the network based around the concept of ‘smart contracts’, took the cryptocurrency world by storm. The price of the network’s value token, called ‘Ethers’ shot up rapidly to reach a total market capitalization of a full $1 billion amidst a wave of hype and publicity, before falling back some way from this peak.

In recent weeks, however, there has been some controversy over whether anybody actually wants, needs, or will use smart contracts.

Chris DeRose, the community director of Counterparty – a project which is currently working on porting Ethereum’s smart contract features to the Bitcoin blockchain via their own second tier network, claimed in a Coin Desk article that nobody needs Turing-Complete smart contracts and that the costs outweigh the benefits to such an extent that few if any people will use them.

Similarly, the CEO of Coin Sciences Dr Gideon Greenspan has argued that people have unrealistic expectations for smart contracts and that he is yet to find a compelling use case.

Decentralized Autonomous Organizations (DAOs): The Perfect Use Case for Smart Contracts

If you want to know what smart contracts are useful for then I suggest looking at what they are being used for. Of course its still early days for Ethereum developers and few finished products have been released. But already one area stands out as being among the most popular with developers and users alike: the creation of decentralized autonomous organisations, or DAOs for short. These organisations have receive the backing of some of the brightest minds in the industry, with a wide range of them already in development and more still in the planning stage. You can see a small selection here: https://forum.daohub.org

So what is a DAO? Well, I like to think of it as an unlegal organisation. Perhaps a more familiar manner of expressing that may be to call it an ‘extra-legal’ organisation. It is an organisation which does not need the services of traditional legal systems.

A DAO can be a for-profit company, a non-profit, a charity, a club and other things, but for now lets take the example of a for-profit company as it provides the clearest illustration of what I mean.

In a regular corporation the shareholders own the business. This ownership comes with certain rights and privileges such as voting in the board of directors, and perhaps receiving revenue from dividends and share buy-backs. These rights are protected by the legal system – each party signs a contract and if they believe the terms of that contract have been breached they can use the legal system to seek recourse.

Anybody who has ever hired a lawyer will understand that the cost of using the legal system is very high. In international business, where you have to ascertain jurisdiction and understand a foreign legal system it can be incredibly complex, even more expensive, and full of uncertainties and pitfalls.

A DAO is not all that different from a corporation when you get right down to it. The difference is that instead of using paper contracts which must be enforced by accessing some kind of court system, it uses ‘smart contracts’ which automatically enforce their own terms.

These terms are enforced in much the same way that the Bitcoin network enforces its rules, for example making sure that you can’t spend the same coins twice, through the use of a distributed consensus.

Shareholders are able to vote, perhaps to hire a board of directors like a normal corporation or perhaps on specific business projects and proposals, and their votes are given power automatically by the code which runs the network and which no individual can arbitrarily change, with no need to rely on an external legal system to enforce these rights.

The same principle can be used to hire regular workers, or for two organisations to enter into a contractual relationship with each other.

This opens up the possibility to a range of advantages over a traditional corporation.

The Potential of Smart Contracts Highlighted by the DAO use-case

Personally I would expect a big saving in the cost of contract enforcement – effectively this is covered in advance by the gas fee, and which must be taken into consideration when judging whether the gas cost of using such a contrast provides good value.

Smart contracts introduce a degree of certainty to contractual relationships which has previously been absent. They are self-contained and complete, and do not rely on the same kind of subjective interpretation of external rules or comparisons to previous cases. You know in advance exactly what you are going to get in any given eventuality. Actions not explicitly governed by the contract are simply not possible – but don’t worry, as if they are needed then a new contract can always be created to interact with the original one.

The presence of a secure internet-based voting system, along with the fact that the organisation’s accounts are automatically published to a public blockchain, opens the door to a much greater degree of shareholder participation and oversight.

Of course this level of transparency may also lead to greater public oversight of exactly how corporations are operating, perhaps leading to higher ethical standards as immoral behaviour becomes more difficult to hide.

Many of the same advantages of cryptocurrency itself are also transferred to smart contracts. One of the biggest of these in my eyes is internationalism. In running websites I have, despite being a very small business, had a lot of dealings with foreign citizens. I’ve taken payment in advertising revenue and I’ve paid out freelancers. When doing this the person I’m dealing with is using a different currency to me and neither of us has much of an idea how much each other’s currency is worth. Often I would quote and be given prices in USD, even when I am in the UK and the other person is in Asia, for example. Bitcoin has made this a great deal easier for me, because it provides a common international currency which we are both familiar with and able to use directly. But what if I had wanted to draw up a contract with one of these business associates – would we both have to learn each other’s legal system? The difficulty and expense of this is mind-blowing. A common international contractual system addresses this difficulty and expense.

This kind of system is also infinitely more accessible than the traditional legal system. In order to benefit from the protection and guarantees of smart contracts an organisation does not have to fit itself into a particular legal definition provided by government, pay for registration or restrict its operation so as to stay within that particular categorization. All it needs is for its members to download a piece of software.

The kind of DAO framework created by Slock.it shows that smart contracts can replace traditional contracts in building the organisational framework of a modern corporation. Of course, a full-on DAO is quite an extreme use-case, but I think it serves well to highlight the advantages of this technology and point towards some of the ways that regular corporations, small businesses, an individuals may make use of them. By offering an accessible, international contract system with guaranteed enforcement smart contracts may revolutionize the way that many businesses currently operate.