A Technical Analysis of Smart Contracts in Blockchain

A Smart Contract is a digital agreement on a distributed ledger network (DLT) that is executed automatically when its terms and conditions are fulfilled. 

• A smart contract is a self-executing digital agreement stored on a blockchain. It’s designed to automatically carry out the terms of a contract once specific conditions, outlined in code and written in languages like Solidity, are fulfilled.
• From NFTs to DApps, smart contracts form the basis of most blockchain-based services, achieving trust & automation. 
• This article provides a comprehensive overview of smart contracts, covering their functionality, diverse applications, available development tools, and best practices. 

What Are Smart Contracts? 

First introduced by Ethereum, smart contracts have become the building blocks for Web3 enterprises, allowing DeFi, Gaming, NFT, DApps, and Crypto to operate and execute tasks seamlessly and efficiently. These digital contracts run on blockchain networks, ensuring the code and agreements are immutable and transparent. They automatically enforce and execute the terms when predefined conditions are met. 

Often used with decentralized applications or dApps, they extend beyond Bitcoin’s initial use case. For example, a manufacturer and supplier can use smart contracts to automatically manage payments and shipments based on predetermined conditions, forbidding the need for arbitrators.  

History of Smart Contracts 

The work of computer scientist Nick Szabo gave the idea of smart contracts in the middle of the 1990s. He had an idea for self-executing contracts that could ease, validate, and enforce contract negotiations or performance. Even if, at the time, this concept was limited by technology, it set the stage for a key component of blockchain technology. With the introduction of Ethereum in 2015, smart contracts were able to thrive and move from being a theoretical idea to a useful and widely used piece of technology. 

How do smart contracts work?

Smart contracts operate on a simple principle: “If this happens, then do that.” These contracts can manage multiple conditions and actions within a single agreement. To create these contracts, programmers employ specialized languages such as Solidity, the most widely used option, especially on the Ethereum blockchain. 

The democratization of smart contract development is a cornerstone of blockchain technology. Individuals can construct and launch a smart contract on a public blockchain for personal applications, such as optimizing investment portfolios. Nevertheless, the true potential of smart contracts unfolds in multi-party scenarios. These contracts serve as digital intermediaries for individuals or entities who may not know or trust each other.  

By establishing precise rules for interactions, including participant eligibility, timing, and input-output relationships, smart contracts transition agreements from a realm of probabilistic outcomes to a deterministic state. This shift ensures that contract execution aligns perfectly with the encoded logic, eliminating uncertainties and fostering trust in digital transactions. 

The Lifecycle of a Smart Contract 

1. Agreement Creation 
   The parties wishing to transact business or exchange goods or services must agree upon the terms and conditions of the agreement. They also have to decide on the parameters of a smart contract’s operation, such as what must happen for completion. 

2. Contract Creation 
   Smart contracts can be developed independently or in collaboration with specialized providers. These digital agreements are constructed using programming languages and require rigorous security assessments during development.  

3. Deployment 
   Once finalized, a smart contract is integrated into the blockchain network. This process mirrors a standard cryptocurrency transaction, with the contract’s code embedded within the transaction data. The contract becomes an immutable and irreversible part of the blockchain record upon verification. 

4. Monitoring Conditions 
   Smart contracts are activated by monitoring specific conditions or triggers, which can be verified digitally. These conditions include the occurrence of a particular date, the completion of a payment, or any other verifiable event, often tracked on the blockchain or a reliable external source. 

5. Execution 
   The smart contract automatically executes the predefined actions upon fulfilling the predetermined conditions without requiring human involvement. This automated process guarantees strict adherence to the contract’s terms. 

6. Recording 
   The outcomes of contract execution are immediately recorded on the blockchain. The system validates the performed actions, registers them as a transaction, and permanently archives the completed agreement on the blockchain, making it accessible anytime. 

Does Every Blockchain Have Smart Contracts? 

Not all blockchain platforms support smart contracts. While networks like Ethereum, BNB Chain, and Avalanche enable the creation and execution of self-executing contracts, others, such as Bitcoin, lack this capability. The fundamental distinction between these blockchains lies in their ability to process and store arbitrary logic, a feature essential for smart contract functionality. 

Benefits of smart contracts 

Smart contracts excel at facilitating streamlined transactions between parties. A classic example is the exchange of goods for payment. Manufacturers can automate payment processes through smart contracts when sourcing raw materials, while suppliers can manage shipment schedules accordingly. The contract can stipulate that payment is released upon confirmation of shipment or delivery, eliminating the need for manual intervention and reducing the risk of payment disputes. 

Six USPs of Smart Contracts: 

1. Automation 
   Smart contracts automate processes, reducing the need for manual intervention. 

2. Transparency 
   All transactions are visible to all participants, reducing the risk of fraud and disputes. 

3. Security 
   The blockchain’s immutability ensures that once a contract is deployed, it cannot be altered, making it highly secure. 

4. Cost Savings 
   Traditional processes often involve lawyers, notaries, and other intermediaries, all charging fees for their services but not smart contracts, saving you a fortune. 

5. Accuracy 
   The automation of smart contracts minimizes human errors, ensuring that terms are executed precisely as intended, especially in the finance industry. 

6. Trust 
   Because smart contracts are executed automatically and transparently, they build trust between parties who may not know each other.  

Smart contract examples

One of the primary purposes of a smart contract is to automate a particular business process among a group of entities. These entities mutually agree on all the smart contract terms, such as payments, workflow, and dispute resolutions. For instance, a straightforward smart contract for global trade might include terms like: 

• Term 1: If the goods are delivered on time, the retailer will trigger a full payment to the supplier. 

• Term 2: If the goods are delivered one day late, then trigger a payment from the retailer to the supplier for 98% of the total amount. 

Other smart contracts support public decentralized applications (dApps), which anyone can interact with without requiring permissions. Public dApps are often open-source, allowing anyone worldwide to review their functionality before using them. A typical example of a public dApp is a decentralized lending/borrowing platform, which might include terms such as: 

• Term 1: If a user deposits collateral into the smart contract, they can receive up to 50% of the collateral’s value (e.g., a $100 deposit can secure a $50 loan). 

• Term 2: If the user’s collateralization ratio (collateral divided by outstanding loan value) falls below 200%, the collateral is automatically liquidated and transferred to the lenders to prevent financial loss. 

• Term 3: Lenders can deposit funds into a specific contract from which other users can borrow, based on predefined collateralization ratios, while the lender earns a share of the interest payments. 

How Good are Smart Contracts When It Comes to Execution? 
Running on blockchain technology, smart contracts execute automatically and deterministically as programmed. This ensures that no party involved in a smart contract transaction can alter the outcome or back out of the agreed terms. 

A well-programmed smart contract can eliminate counterparty risk, which is the risk that one party will not fulfill its obligations. However, they also introduce smart contract risk, which refers to the possibility that the smart contract’s code may have vulnerabilities or flaws leading to unintended outcomes. Since smart contracts always execute as coded, any faults in the program will result in the execution of those faulty instructions. 

Additionally, not all contracts can be applied solely through code. For example, DeFi protocols typically offer overcollateralized loans, requiring borrowers to deposit more than they borrow because there is no guarantee that a loan will be repaid unless the smart contract’s total amount is already secured. In such cases, integrating smart contracts with off-chain systems like credit scores, proof of funds, and legal agreements can help mitigate counterparty risk by providing a comprehensive defense strategy. 

Types of Smart Contracts 

Smart contracts are classified into Decentralized Autonomous Organisations, Application Logic Contracts, and Legal Contracts. 

1. Decentralized Autonomous Organizations (DAOs) 
   DAOs are democratic organizations governed by smart contracts that grant members voting rights. They operate as a blockchain-governed entity with a common goal that is managed collectively. There are no executives or presidents; instead, the rules encoded in the smart contract dictate how the organization functions and how funds are distributed. An example of a DAO is VitaDAO, which uses this technology to power a community focused on scientific research. 

2. Application Logic Contracts (ALCs) 
   Application logic contracts (ALCs) consist of application-specific code that often integrates with other blockchain contracts. These contracts facilitate interactions between various devices, such as those in the Internet of Things (IoT) ecosystem or blockchain-integrated applications. Unlike smart contracts, ALCs are not agreements between humans or organizations but between machines and other contracts. 

3. Smart Legal Contracts 
   Smart legal contracts are legally binding agreements that follow the format of traditional contracts: “If this happens, then that will happen.” As they reside on the blockchain and are immutable, these contracts offer greater transparency than conventional documents. The involved parties execute these contracts using digital signatures. These contracts can autonomously enforce their terms when specific conditions are met, such as processing a payment upon reaching a deadline. Failure to comply with the terms can result in significant legal consequences for the stakeholders. 

Top Smart Contract Platforms

When selecting a smart contract platform, experts recommend evaluating its security features, track record, scalability, performance, cost, and the strength of its developer community. Each platform offers unique benefits and tradeoffs, so choosing one that best matches your project’s needs is essential. 

Prominent Smart Contract Platforms Are: 

1. Ethereum 
Ethereum is the most popular blockchain for smart contracts and the first. With the most significant number of apps developed on it and the largest developer community, it provides abundant support and ongoing innovation. 

2. Binance Smart Chain (BSC) 
BSC is a suitable substitute for Ethereum for developers looking for a less expensive and faster environment to implement smart contracts. 

3. Polkadot 
Polkadot makes it possible for smart contracts to communicate with one another over many networks by facilitating interoperability between various blockchains. For projects that require cross-chain capabilities, this is crucial. 

4. Cardano 
With a focus on sustainability and security, Cardano offers a strong foundation for creating smart contracts. Its tiered architecture seeks to balance decentralization, security, and scalability. 

5. Solana 
Large-scale applications can benefit from Solana’s high throughput, as it can process thousands of transactions per second. Due to its quick and affordable transactions, it has gained popularity among DeFi and NFT projects. 

Smart Contract Use Cases 

1. Rights Management (Tokens) 
Smart contracts, designed explicitly for tokens, manage digital asset creation, ownership, and tracking within blockchain ecosystems. These contracts embed functions into each token, granting holders various privileges. For instance, tokens can represent utility (e.g., FIL for storage), governance rights (e.g., COMP for Compound protocol), ownership stakes (e.g., security tokens), or unique digital or physical asset claims (e.g., NFTs). 

2. Financial Products (DeFi) 
Decentralized finance (DeFi) utilizes smart contracts to replicate traditional financial services like lending, trading, and asset management on blockchain platforms. These contracts enable peer-to-peer financial interactions without intermediaries by executing predetermined conditions. DeFi’s flexibility allows for innovative financial products that combine various services. For instance, platforms like BarnBridge employ smart contracts to automate investment strategies, while Aave utilizes them to create decentralized lending markets that are accessible to all. 

3. Gaming and NFTs 
Blockchain technology, powered by smart contracts, provides a transparent and secure framework for executing game mechanics. Platforms like PoolTogether offer no-loss savings games where users’ funds collectively earn interest, with a randomly chosen winner claiming the total earnings. This process, along with the distribution of limited edition NFTs and random in-game rewards, is made fair and verifiable by smart contracts. To generate genuinely random outcomes, many games utilize Verifiable Random Function (VRF), a cryptographic method that ensures the randomness is provably unbiased and transparent. 

4. Supply Chain Management 
Smart contracts can operate autonomously, executing agreements without intermediaries. Businesses can automate entire supply chains using these contracts, eliminating the need for constant oversight. Predefined conditions within the contract can trigger specific actions, such as escalation procedures for delayed shipments, ensuring smooth operations. 

5. B2B Data Marketplaces 
Data marketplaces are online platforms where individuals and businesses can buy and sell various datasets. These platforms rely on smart contracts to automate transactions, ensuring security and efficiency. By eliminating the need for intermediaries, smart contracts create dynamic markets where data can be exchanged rapidly. Dataspace is a prime example of this technology in action. 

Smart Contract Applications 

The applications of smart contracts extend beyond the obvious use cases such as: 

1. Crowdfunding 

Crowdfunding campaigns can be managed via smart contracts, guaranteeing that money is delivered only once predetermined milestones are reached. Indiegogo and Kickstarter are investigating blockchain to increase crowdfunding’s transparency and credibility. 

2. Digital Identity 

Digital identities can be created and managed using smart contracts, giving people secure control over their data. SelfKey is a platform that handles KYC and digital identity verification using smart contracts. 

3. Energy Trading 

Smart contracts can enable direct energy buying and selling between individuals in the energy industry through peer-to-peer energy trading. Power Ledger is a blockchain-based technology that facilitates decentralized energy trading. 

4. Employment Contracts 

Employment contracts can be automated with smart contracts, guaranteeing that workers are paid correctly and on schedule. A project called Chrono. tech uses blockchain technology to automate employment contracts and HR procedures. 

5. Real Estate Rentals 

Rental agreements can be automated with smart contracts to manage security deposits and guarantee on-time rent payments. As a result, there is less need for property managers, and renting becomes more accessible for both landlords and tenants.  

Smart Contract Audit

A smart contract audit thoroughly examines the code underpinning a smart contract. Security experts meticulously inspect this code to uncover potential vulnerabilities, risks, or inefficiencies. By identifying and addressing these issues, the audit ensures the reliability and security of the smart contract. 

Why Organisations Need to Conduct Smart Contract Audit 

• Enhancing Trust: By subjecting smart contracts to scrutiny by security professionals, user and investor confidence is significantly bolstered. This process certifies to all parties involved that their investments are protected compared to those in unverified decentralized applications (dApps). 

• Mitigating costly errors: Given the blockchain’s unalterable nature, it is crucial to audit smart contract code during development. Discovering critical flaws post-launch necessitates an expensive and time-consuming redeployment of the contract. 

• Independent assessment: Typically conducted by an external entity, smart contract audits provide an impartial evaluation of the contract’s code, functionality, and security. 

Top Smart Contract Solutions 

Companies and platforms specialize in smart contract solutions, offering tools and services to facilitate their development and implementation. 

1. Data Integration 
   One of Chainlink’s unique selling points is its Oracle services, which let smart contracts access real-world data—an essential feature for many decentralized finance (DeFi) applications. 

2. Contract Security 
   With its pre-built, certified smart contract templates, OpenZeppelin speeds up development while boosting security. 

3. Comprehensive Solutions 
   Consensys provides a range of tools, including MetaMask and Truffle, for the entire lifetime of a smart contract, from development to implementation. 

4. Infrastructure and Tools 
   On Ethereum, Alchemy offers the tools and infrastructure to create and grow decentralized apps, or dApps. 

5. Developer Framework 
   Truffle’s well-liked programming framework provides extensive capabilities for building and implementing Ethereum smart contracts. 

6. Enterprise Consulting 
   Deloitte helps companies incorporate blockchain and smart contract technology into their processes by utilizing its consulting experience. 

7. Enterprise Blockchain 
   IBM Blockchain offers services for creating and implementing smart contracts on permissioned blockchains, meeting the demands of enterprises. 

8. Open-Source Collaboration 
   A cooperative project called Hyperledger promotes the creation of blockchain solutions for several industries, including smart contracts. 

Takeaway  

Ethereum is the most prominent platform for smart contracts, but it’s far from the only one. Blockchains like EOS, Neo, Tezos, Tron, Polkadot, and Algorand also support this technology. 

Anyone can create and deploy a smart contract to a blockchain. These contracts operate entirely transparently, allowing public verification of their underlying logic. Anyone can scrutinize a smart contract’s rules when handling digital assets. 

 But it’s better to seek help & detailed guidance from prominent smart contract development companies. Their comprehensive smart contract development services can help you decide on the right smart contract suited to your services & get the whole operations automated. Connect with our competent contract development experts for ultimate assistance at info@webmobinfo.ch