How Does Blockchain Work: Guide for Businesses

There’s no escape from the blockchain buzz. The debates happening online are hot: will consumers favor decentralized services? Or will blockchains remain reserved for cryptocurrencies?

Unsure which side to take?

This post will help you develop a better understanding of the blockchain technology and the value it may bring for your business.

What is Blockchain Technology

 The blockchain can be compared to an endless ledger containing thousands of transactions, duplicated and stored across a network of computers. No one in particular owns or controls this ledger. It is powered by the community choosing to interact with it.

Blockchain is an open-source technology. Anyone with enough skills can use this technology to code a distributed ledger and invite others to participate. You can include specific rules and permissions for using your ledger for different groups of users. All the records on the blockchain can be made public or stored privately with a permissioned access. You can also indicate who can add and validate new entries (blocks) on the blockchain and propose rules for deciding on their validity. No matter which setup you chose, the information on the blockchain will remain easy-to-aduit.

Let’s illustrate this with an example. Your friend Dave wants to purchase a used car. He wants to avoid buying a stolen vehicle or a car that got in too many accidents. If the car’s history was recorded on the blockchain, Dave would be able to review the string of ownership back to the moment when that car was brought in from the dealership; check out accident records and get to know if the past owners “forgot” to pay some fines.

The best part is that no one can tamper the records in any way once they are validated on the blockchain. If the previous vehicle owner was in a major accident, he wouldn’t be able to “erase” that fact from the ledger.

So the blockchain is a tamper-proof, distributed digital ledger of transactions. It can be programmed to record, store and exchange any types value exchanges. All the records are stored in a distributed manner, meaning there’s no single point of failure a hacker could exploit.

All the transactions are also protected by the state-of-art cryptography – a mechanism more secure than the standard “username/password” systems we use to safeguard our data and assets online.

How Does Blockchain Work

The blockchain networks are built from three major components:

A cryptographic keypair (public + private key, stored in a blockchain wallet) enables a secure digital identity reference. The keypair helps ensure that Jane is exchanging data with Joanna, not John, without exposing Jane’s private details. By signing your transaction with your private key you also place an “ownership stamp” on it, meaning the transaction can be traced back to you if needed.
A decentralized, P2P network. Instead of a central authority, a community of users decides whether your transaction is valid and can be added to the blockchain. The community uses mathematical verification to evaluate the history of the individual blocks that are proposed to be added and the “sender” signature validity. Once enough users verify that your transaction is valid, it is processed and recorded on the blockchain.

The network servicing protocol. The block, packed with transactional data, digital signatures and a timestamp, is broadcasted to the network’s participants. The block verification process requires tremendous computing power. Public blockchains encourage the community to service the network by offering a reward for their effort – cryptocurrencies such as Bitcoin or Ether.

Image Credit: Christoph Burgdorfer

The original vision of the Bitcoin blockchain was to “create a system for electronic transactions without relying on trust”. Bitcoin programming language still remains limited to handling financial transactions, mainly cryptocurrency exchanges.

The majority of business blockchain applications are now powered by Ethereum, or custom forks of the platform’s original blockchain. Unlike Bitcoin, Ethereum blockchain is more versatile and can be used to code different types of blockchain apps – document exchange networks, blockchain voting systems or even a car-sharing app. We’ll get to more examples in the next section.

Ethereum founders have introduced Turing-complete Virtual Machines (VMs). These Ethereum Virtual Machines enable blockchain developers to deploy code on the Ethereum blockchain without the need to allocate additional resources such as computing power or maintain network bandwidth.  EVMs are fully programmable and function just like your laptop.

The EVM’s programming language, Solidity, allows developers to code any types of smart contracts – autonomous applications, automatically executing pre-coded agreements whenever the indicated condition is met. For example, Dave and John can create the next agreement on the Ethereum blockchain:

1. When Dave’s account has a positive balance of $10,000;
2. And if the car’s title and registration papers have been signed and forwarded to him;
3. Than $10,000 should be sent to John’s account.
4. If either of those conditions is not met, the deal does not take place.

Smart contracts eliminate the need for a “middleman” to broker the sale or overview a non-financial agreement that two parties have made. The blockchain represents a “shift from trusting people to trusting math” when conducting any exchanges – a more secure way of collaboration between the two parties, who don’t trust each other.

Smart contracts have propelled the creation of Dapps – decentralized applications that are built on the Ethereum blockchain or another platform that allows coding smart contracts e.g. Qtum or NEO-One. Smart contracts are an open-source technology – the agreement information thus remains public. Thus, some businesses may choose to keep certain parts of the application in a centralized environment or choose to create a private fork of the blockchain to limit external access to the information recorded on the ledger.

Types of Blockchain Networks

The blockchain can be coded with different permission structures to match your business needs.

Public blockchain allows anyone to propose new transactions and have those recorded on the blockchain as long as they are valid. Any user can participate in the consensus process and help validating new blocks. Public blockchains are fully decentralized, as there’s no single “authority” overviewing the consensus process. The two well-known examples are Ethereum and Bitcoin blockchains.

Pros

• Zero infrastructure costs – the blockchain is supported by the community.
• Reduced costs for deploying and running a decentralized application.
• Completely eliminates the need for any intermediary to deliver your service e.g. a server or cloud services provider.

Consortium blockchain limits the number of users who can participate in the consensus process (and add new blocks to the blockchain) to a selected few. This type of blockchain can be compared to a company board – each member (node) has one vote. To add a new block, at least 8 out of 15 members should vote to “sign it”. Consortium blockchains can have a public or a restricted right to be read. Examples: Energy Web Foundation, Corda and Azure Multi-Member blockchain.

Pros

• Lowers transaction costs and data redundancies.
• An effective replacement for an outdated legacy system e.g. to improve document processing and eliminate manual compliance mechanisms.

The private blockchain is fully centralized. Permission to write new transactions is limited to one node. The recorded information can be either public or have permissioned access. Private blockchains do not use the same secure consensus mechanisms (proof-of-stake/proof-of-work) to validate transactions. Instead, the process is done by someone internally. Some argue that a centralized consensus mechanism, in turn, may make the network less immutable and transparent.

In a recent post, Paul Frazee proposed an interesting solution that may eliminate the  need for a decentralized consensus without compromising blockchain immutability. His idea is to replace miners with a single host, which would maintain a secure ledger. This secure ledger will include information about the host state and its activity log, including all requests and their results.

The host is designed to follow a predetermined set of business rules – stored as code on the ledger or outside of it. This ledger is public to read: all users can monitor all the activities and compare the inputs against the published code. Whenever any deviation occurs, the users are instantly notified and can take respective action.

A blockchain network, thus, can be made accountable by a very hard-to-forge public log. For example, such system can be used to help regulators monitor compliance and conduct company audits only when some unusual activity is registered without involving a large pull of external validators.

Private blockchains are primarily designed to facilitate B2B operations and are making their way into supply chain management, government management, healthcare and the financial industry.  Examples: IBM Hyperledger and Multichain.

Pros:

• A higher level of data privacy, essential for certain industries.
• Transaction validation costs are lower and processing time is faster as each transaction needs to be validated by one node, rather than thousands as it is on public blockchains.

Business Use Cases of The Blockchain Technology

Global blockchain technologies market has reached $339.5 million in 2017. By 2021, it is predicted to hit $2.3 billion.

So what exactly the blockchain pioneers are up to?

Blockchain smart contracts hold a strong potential in the nearest future. Any industry still stuck with paper contracts and guilty of accumulating piles of reporting documentation can greatly benefit from this technology.

Image Source: Deloitte

CB Insights further indicates around 36 big industries that can be disrupted by blockchain – advertising, messenger apps, education, hedge funds, cloud computing and more. For the sake of this article, we’ll focus on just a few curious business use cases.

Blockchain in Supply Chain Management

There’s this one industry where 80% of documentation is still in paper form – the shipping industry. This over-reliance on paper often results in operational delays, and what’s even worse – fraud.  Forged cargo documentation and bills of lading is a multi-million problem.

Blockchain-based smart contracts can have the next advantages for the shipping industry and supply chain management in general:

• Quick-processing time  – document exchanges can take place in a matter of minutes, not days. A smart contract will also ensure that all the necessary documents are in place before the cargo is shipped.
• Transparency – all the parties can review the added information and audit if necessary. Each participant can be aware of the transactions performed by other and can’t state that he “didn’t receive” or “haven’t seen” a certain document.
• If paired with IoT Sensors, smart contracts can detect cargo damage in real-time; inform the other party, initiate an insurance claim and issue a refund to the affected party – all without human intervention.

Blockchain in Healthcare

The healthcare industry operates gigabytes of data on a daily basis – private patient records; payment and insurance data; clinical trial results etc. The wrinkle? These data exchanges are often ineffective and still happen manually as different providers use different legacy systems, incapable to “communicate” well with one another.

Those outdated legacy systems are also a huge security vulnerability. While the government actively campaigns for the adoption of electronic healthcare systems, most providers struggle to comply with basic HIPAA requirements for data security and privacy.

One compromised patient record costs $380 for the provider, not to mention the additional fines and audit costs incurred by the institution once that breach “surfaces”.

Here’s how blockchain works towards fixing those issues:

• The blockchain eliminates the interoperability problem and can become the “industry standard” for seamless and secure data exchanges. In fact, 70% of hospital managers strongly believe that blockchain can become a game-changing solution to this problem. The technology can also help ensure better connectivity for IoT medical gadgets.
• Smart contracts can reduce the costs of compliance and regulation. Medical systems can be coded to comply with the set rules automatically.
• Service providers can cut down on the reconciliation costs and hire more medical staff instead. Less administrators + more doctors = better healthcare.
• Patient data storage can be distributed among several entities. Healthcare providers will no longer be a “single point of failure” if any breach takes place.
• Patients will also get more visibility and control over their health data as the blockchain enables them to see how and when their information is being used.

Blockchain as a Service (BaaS)

Not every business may be ready to invest in a blockchain infrastructure built from scratch. And they no longer should.

To match the growing interest, popular cloud service providers like IBM, SAP, Oracle and Microsoft have rolled out attractive BaaS options. Azure, for instance, now supports distributed ledgers such as Ethereum, Hyperledger Fabric, R3 Corda, Quorum, Chain Core and BlockApps.

BaaS platforms can be used to develop private or consortium blockchains or develop blockchain-based add-ons for existing applications. Building atop a BaaS platform is a cost-efficient alternative to extended development timelines and the need to assemble a dedicated in-house team of developers.

Back in the day cloud computing have disrupted the way we exchange data and deliver services. Blockchain may soon become the next technology of choice for better collaboration. Interested in how your business can gain a competitive edge with the blockchain technology? Contact our team for a consulting session.