I recently read an article in the MIT Sloan Management Review, entitled “How Blockchain Will Change Organizations”, where authors Don Tapscott and Alex Tapscott speculate that the transformations which blockchain may facilitate in the corporate world could lead to some truly revolutionary modifications in key businesses processes. I see some great value propositions for the compliance function.
How could blockchain have such a dramatic impact on compliance? First is the explanation of what blockchain might mean as a tool in business process. The authors explained that in a business transaction, you cannot email money as you can a document so a company must “use intermediaries to establish trust and maintain integrity. Banks, governments, and in some cases big technology companies have the ability to confirm identities so that we can transfer assets; the intermediaries settle transactions and keep records. For the most part, intermediaries do an adequate job, with some notable exceptions. One concern is that they use servers that are vulnerable to crashes, fraud, and hacks.”
The authors then go on to ask, “What would happen if there were an internet of value where parties to a transaction could store and exchange value without the need for traditional intermediaries?” The answer is that blockchain provides a transparent method to verify and approve transactions that is encrypted. Not only would this lower transaction costs and perhaps even barriers to doing business but also allow greater expansion of business into new geographic areas, through the use of previously used external resources which were prohibitively expensive. Think of the possibilities in compliance for the supply chain and vertical integration.
There are several specific areas where the value from blockchain could enhance the operationalization of compliance into the fabric of a company. In Human Resources (HR) and Procurement “Blockchain will enable organizations requiring specialized talent and capabilities to obtain better information about potential contractors and partners than many traditional recruitment and procurement methods offer.” This means that with a potential third party business partner’s consent, a company will have access to a cache of information that is known to be correct because it has been uploaded, stored, and managed on a highly secure, distributable database. Such potential business partners would not be able to misrepresent their capabilities after such information has entered on the blockchain. The authors also note that “Tampering with data after the fact wouldn’t be possible: It would involve taking over the entire blockchain, a nearly impossible task.”
This is made even more powerful in the area of financial reporting. Typically, a search is “horizontal (across the web) and vertical (within particular websites). What you find can be out-of-date or inaccurate in other ways. On a blockchain, though, there’s a third dimension: sequence. In addition to being able to obtain a historical picture of the company since it was incorporated, you can see what has occurred in the last few minutes.” The authors correctly note, “The opportunity to search a company’s complete record of value will have profound implications for transparency as it brings to light off-book transactions and hidden accounts. People responsible for records and reports will be able to create filters that allow stakeholders to find what they are searching for at the press of a button. Companies will be able to create transaction ticker tapes and dashboards, some for internal use”. This would be extremely helpful in the difficult vetting of third parties around financial information.
In the sales realm, blockchain could be most helpful in understanding who you are doing business with and, more particularly, if the company is a state-owned enterprise. The same information you would consider about potential third parties sales agents would be available from customers. Obviously this would be critical in any Foreign Corrupt Practices Act (FCPA) analysis but it could also pay big results in anti-money laundering (AML) compliance. As the authors note, “sellers won’t have to incur the cost of establishing trust — thus they can facilitate transactions that would have been risky or might not have been possible otherwise.” Finally, there could be a data security plus as “blockchains will eliminate the cost of warehousing data and protecting other people’s data from security breaches.”
In the realm of the compliance discipline blockchain provides a potential game changer in the auditing of compliance terms and conditions which have become ubiquitous in third party contracts. As the authors explain, “Blockchains facilitate contracting in both the short and long term. Through smart contracts — software that, in effect, mimics the logic of contracts with guaranteed execution, enforcement, and payments — companies will be able to automate the terms of agreement. A contract can refer to data fields elsewhere on the blockchain”; for example, compliance training, annual certification, or another ongoing obligation, it can trigger alerts and ensure compliance.
The authors conclude that blockchain could help alleviate some of the more egregious scandals seen, beginning back with Enron and up through Volkswagen (VW) and Wells Fargo. They believe that blockchain could help to “codify ethics and integrity into the circuitry of the enterprise, or reduce the moral hazard that too often sees management gambling with shareholder capital? Through smart contracts under blockchain, shareholders will be able to enforce the commitments executives make. Companies can specify relationships and state specific outcomes and goals so that everyone understands what the respective parties have signed up to do and whether those things are actually getting done.”
This final points sounds to me quite a bit like operationalizing compliance. It will be interesting to see when the Department of Justice (DOJ) or Securities and Exchange Commission (SEC) will begin to comment on blockchain as a part of a best practices compliance program.
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Blockchain may transform compliance through its pairing of secure transaction/information coupled with transparency.Click to tweet
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© Thomas R. Fox, 2017