How can SMEs deploy blockchain technology and exploit its advantages? Jean-Luc Scherer and Christophe Pinot of Innoopolis review existing data and tackle the question…
The Middle East is known for its trading based history but also for its rapid growth based on oil revenues. At the same time, the dependency on oil has been recognised as a major threat to the sustainability of the Gulf countries continued growth and to the regional prosperity in general. In an attempt to move away from this dependency, it is essential to transform the economy, it is key to move to a knowledge-based economy, but it is also important to revitalise its SME businesses.
In the Gulf, the SME businesses contribute to an average of 15 to 30 per cent of the overall countries’ GDP, according to a report from the Union of Arab Bank. This is very small compared to the US or some of the European countries where this contribution is around 50 per cent and 65 per cent respectively. In the region, SME Businesses have been mainly suffering from bureaucracy and a lack of financing options. This is where Blockchain can potentially come to the rescue and stimulate the SME segment.
Really? So how will Blockchain help? Without dwelling too much on the definition of Blockchain, it is important for first-time readers to briefly recap what Blockchain is all about.
Blockchain is what is called a distributed ledger technology. Initially developed as the technology to support the crypto-currency Bitcoin, it has now outgrown that initial objective.
In essence, Blockchain is a network of computers, known as miners, who enable digital transactions. It is a peer-to-peer, anonymous network. Blockchain enables the building of a distributed database of transactions with a set of rules as to how the ledger gets appended, achieved by distributed consensus of participants in the system. The Blockchain keeps track of all transactions in a distributed way, where all participants have a copy of the ledger and can potentially validate any future transactions. It records and stores every transaction or exchange of data that occurs in the network, eliminating the need for a central authority and providing greater transparency for regulatory reporting. This technology is valuable in particular for applications where there is a need to provide a quick, secure and permanent date and time stamp of transactions.
Applications of Blockchain
While Blockchain will potentially impact many industries, the characteristics and cost efficient nature of validating and permanently dating and time stamping transactions means it is very applicable to payments, to the transfer of assets, to the establishments of smart contracts and to public notary services. Earlier this year, Mc Kinsey and Company, a well-known consulting firm, released a report analysing 80 known use-cases for Blockchain; about 50 per cent of these were related to financial services. The overall impact of these use-cases was estimated to a staggering US$ 80-110 bn, with trade finance representing about US$ 15 bn of its own. Blockchain as a technology is becoming more and more of a deal for financial institutions, but it has also become a huge focus for start-ups that see opportunities to disrupt value chains. Over the last 24 months over US$ 1 bn venture capital has poured into Blockchain technology and applications.
A breath of air for SMEs through Trade Financing
SMEs dealing with the import and export of goods are usually faced with the need for capital, on one side they need capital to acquire the raw materials they need to produce the products they are trying to sell and on the other side they need capital to ship these products to their end destination. That access to capital is referred to as trade financing. For international trade, this is becoming an increasing problem, especially as payment terms have started to deteriorate over the years. It is not uncommon to end-up with payments received up the 120 days after invoice. This creates huge cash-flow problems, and at the same time, banks are becoming reluctant to lend money or lend it at high-interest rates due to the risk in delayed payments. Access to trade financing is often critical to achieving growth.
Trade finance, which deals with the financing of importing or exporting of goods/services domestically and internationally is full of complicated paper-heavy practices, it is full of inefficiencies. Blockchain will most likely disrupt the complete trade and supply chain finance industry because of reduced cost and trust it can provide. The benefits of Blockchain are multiple:
- By being able to digitally timestamp various parts of the supply chain process we have a proof of when goods or raw materials are shipped and received.
- Settlement of the payment can be streamlined. Different parties on the Blockchain have real-time visibility into what parts of the contract have been executed on and can hence execute payments quicker and with more assurance. The ownership of receivables (e.g. purchase orders or payables) can be distributed on a Blockchain. With the Blockchain, the automation of payment to the supplier can be triggered upon pre programmed conditions. This should overall positively impact payment terms in the long term.
- When assets are transferred from party to party, they will have a digital asset attached to them and can be verified by several peers in a network, hence increasing trust.
- By having real-time visibility on the Blockchain, there is an opportunity to automate contracts. This should also allow for faster approvals and speedier payment.
- There is less risk for fraud since the truth is held by a single real-time source that is shared simultaneously across the Blockchain network
Overall the Blockchain network should facilitate the interworking between IT systems, financial systems and ledgers that are today primarily managed in silos and require heavy manual processes.
Less paper work and automation in supply chains
Using the same infrastructure as described above SMEs could also achieve major improvements in the management of their inventories and streamline management of warehouses.
This could lead to the following scenario. When your company’s inventory management system detects a low stock on an item in demand it could automatically issue a purchase order to the supplier. The supplier would automatically and digitally sign the contract, ship the goods and send an invoice, which is also stored on the Blockchain. As a buyer, your company digitally signs the invoices with a promise to pay as soon as the goods are received. The payment can then be automatically executed as soon as you sign that the goods have been received. The reduction in paper work, as well as the opportunities for automation, should greatly reduce cost and improve efficiencies of the business.
Peer-to-Peer lending could provide alternative financing for SMEs
Another opportunity that Blockchain will provide to SMEs is the ability to access new alternative financing options. Since Blockchain provides trust between untrusted parties, it means that new types of lenders could potentially start making their capital available through new Blockchain applications. Blockchain’s scripting language can in a sense be compared to an ‘escrow’ model, i.e., securely stored and verified funds or opposed to the role of a Federal Bank. Funds can be delivered once certain conditions are met. This is an area that is of particular interest for startups that work on varies types of P2P lending solutions. This approach could be particularly disruptive to banks. The Blockchain in itself is very cost-efficient, so a peer-to-peer based lending solution could quickly erode interest rates that banks are charging SMEs.
Hang in there the future is bright for SMEs
While many analysts believe it is probably going to take another five years for commercial Blockchain applications to appear, the opportunity that Blockchain will provide to SMEs can simply not be ignored. From streamlining contracts, to supply chain and trade financing, or to getting access the alternative financing, Blockchain will allow SMEs to compete in ways never seen before.