How to use blockchain and smart contracts in procurement

Why do traditional supply chain processes need blockchain?

Traditional procurement and supply chain processes can be manual, scattered, inefficient and complex. The use of blockchain in procurement can address these issues by making them faster, more organized and cheaper.

Procurement involves sourcing, purchasing and receiving goods and services. It’s a key part of supply chain management, but it often suffers from serious inefficiencies.

Procurement depends on contracts, agreements and documents like purchase orders, invoices and delivery notes. Many of these documents might be paper-based, and processes can be manual or involve multiple software systems.

The above challenges can cause:

• Errors and delays
• Lack of transparency
• Delayed orders and payments
• Inaccurate or hard-to-manage inventory
• Poor communication between parties
• Difficulty ensuring regulatory compliance

Procurement problems can hurt a business by causing supplier distrust, production delays and even fraud.

For example, imagine a shipment arrives at a company but is delivered to the wrong department, and the delivery note is lost. The company refuses to pay the supplier, who then withholds future shipments. This could mean the company misses out on meeting a client’s order.

How is blockchain used in procurement?

Blockchain has the potential to add efficiency, transparency and trust to procurement processes.

Understanding a few elements of blockchain technology is essential to learning how it is used in procurement.

Understanding blockchain and its role in procurement

A blockchain is a digital distributed ledger of information similar to an accounting record. This is why a blockchain can be referred to as a “ledger.” It’s really a digital database shared across a network of computers.

Blockchain networks use cryptography to make transaction records unchangeable. This means these records are not easily altered.

Knowing the difference between public and private blockchains and what smart contracts are helps to understand how blockchain procurement solutions work.

• Public blockchains: These are called “permissionless,” like the Bitcoin blockchain. This means anyone can transact with Bitcoin without “permission.”
• Private blockchains: In contrast, private blockchains are usually developed by companies and are “permissioned,” meaning that users must be given access to view the records or make changes.

A blockchain in procurement will usually be a private, permissioned ledger. Procurement records will be secure and very difficult to change. Records will also be transparent or open to those with access, like employees and suppliers.

How smart contracts enhance procurement processes

A smart contract is a computer program written with code. A smart contract can automate procurement contracts. This means that smart contracts can automatically carry out actions that they are programmed to do. 

Smart contracts work on an “if/when…then…” basis.

In procurement and blockchain supply chain management, a smart contract can record the arrival and location of a delivery. It can then trigger invoice payment to the supplier, for example, “when” the delivery arrives safely, “then” the next step is to pay the invoice.

At any point, the customer and the supplier can check the blockchain to confirm what’s happening with a shipment in real time.

The delivery note might be sent digitally to the network. For complete transparency, the shipment could have a global positioning system (GPS) tracking device. This blockchain use case is called supply chain traceability, and it’s an important application for blockchain in procurement.

Smart contracts can perform digital tasks automatically. They can also manage procurement agreements and make sure parties follow terms and conditions.

How do companies approach using blockchain in procurement?

Adding blockchain to procurement starts with finding out where it could be most beneficial. Then, a company will try to find a suitable technology supplier or start to build its own system. 

A company could develop a private blockchain if it had the right experts. Or, it might use a ready-made product from a company. Here are the key steps involved in the process:

Step 1: Process identification and platform selection

A company will start its journey in blockchain procurement efficiency by finding out where the technology could be used. It could be for blockchain purchase orders or blockchain contract management. Inventory management, compliance and auditing are other areas in which a company could consider using blockchain.

The next step is to find a platform, technology or supplier. Permissioned platforms include Hyperledger Fabric, R3 or Corda. Public blockchains include Ethereum. A company will consider its technical expertise, cost, security, regulations, and who will require access to the network.

Step 2: Development and testing

Once a suitable technology is found, development work will be needed. Even a ready-made solution will need to be tested. It’s important to make sure that the smart contracts work as expected.

Step 3: Integration and training

Once a smart contract procurement process is created, it must be shared with teams and suppliers. Using blockchain in procurement allows companies and suppliers to work with the same software. So, suppliers also need to be trained on new systems and processes.