HILLA BRIEFING PAPER
HILLA Briefing paper on blockchains, novel business opportunities based on blockchains and new business models
March 2016
Ari-Matti Auvinen HILLA Growth Mill
Table of Contents
1
Introduction .................................................................................................................................. 3
2
Basics of blockchains .................................................................................................................... 3
3
2.1
What is a blockchain? ........................................................................................................ 3
2.2
Why is blockchain interesting? .......................................................................................... 4
2.3
Different generations of blockchain .................................................................................. 5
Business impact of blockchains .................................................................................................... 7 3.1
Financial services ............................................................................................................... 7
3.2
Legal services and insurance ............................................................................................. 8
3.3
Transportation and tourism............................................................................................... 8
3.4
Health and wellness ........................................................................................................... 9
3.5
Software............................................................................................................................. 9
3.6
Media and gaming ............................................................................................................. 9
4
Internet of Things and blockchain .............................................................................................. 10
5
New business models ................................................................................................................. 13
6
References .................................................................................................................................. 16
1
INTRODUCTION
This condensed briefing paper is written to support discussion and development work on new business opportunities and business models which are accelerated by blockchain technology. The BoK (Body-of-Knowledge) of blockchains and their impact on business is still very limited – at the moment there are a handful of conference papers, articles, and working papers, and two reasonably decent English-language books available (March 2016). The most accurate and condensed information seems to come from industry reports.
Due to the nature of a briefing paper, I use references liberally, but all the references are listed at the end of the paper.
2
BASICS OF BLOCKCHAINS
2.1
WHAT IS A BLOCKCHAIN?
Blockchains have many complementary definitions, but the Bank of England has summarized it well as follows: “Blockchain is a technology that allows people who don’t know each other to trust a shared record of events”. This shared record, known as a “ledger”, is distributed to all participants of a network, who can validate the transactions and thus remove the need for a third-party intermediary. The ledger shows each and every transaction, all of which are verified, published, and irreversible. The trust required is created by open access to the ledger and by a peer-to-peer validation mechanism.
The first widely known application of blockchains was the cryptocurrency bitcoin – bitcoin transactions are solely chains of digital signatures which represent a change in the ownership of bitcoins. However, a range of other applications of blockchains are quickly developing, and thus the blockchain is seen as an important, even critical, future approach.
The blockchain is a chain of digital signatures. As a third-party intermediary is missing, peers are required for validating transactions. This usually happens through “mining”, which is basically an automated process – run by peers and based on decentralized consensus building – to validate the
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rightfulness of the documented transactions. In the case of cryptocurrencies (which are built on blockchains and where the key aspect is avoiding double spending of a digitally recorded coin), the miners are rewarded with a small incentive to validate the blocks and thus the blockchain. However, this validation cost is far smaller than the cost of a third-party intermediary (e.g. credit card payment costs).
Each block contains, among other things, a record of some or all recent transactions and a reference to the block that came immediately before it. In bitcoin, a block also contains the answer to a difficult-to-solve mathematical puzzle – the answer is unique to each block. New blocks cannot be submitted to the network without the correct answer – the process of "mining" is essentially the process of competing to be the next to find the answer that "solves" the current block. The mathematical problem in each block is extremely difficult to solve, but once a valid solution is found, it is very easy for the rest of the network to confirm that the solution is correct (for the definition of block, see e.g. https://en.bitcoin.it/wiki/Block).
For us, the key aspect is that a blockchain is a protocol of value exchange. The current model of value creation can be improved by faster, cheaper, more reliable, and more transparent processes enabled by blockchains. Although bitcoin as a cryptocurrency was the basis for developing the blockchain, we can summarize that for us bitcoin is not important – blockchain is important.
2.2
WHY IS BLOCKCHAIN INTERESTING?
Blockchain technology is seen by some authors as THE technology for the future to revolutionize the Internet-based economy. Swan (2015) assumes that “blockchain technology could become the seamless embedded economic layer the Web has never had, serving as the technological underlay for payments, decentralized exchange, token earning and spending, digital asset invocation and transfer, and smart contract issuance and execution”.
The blockchain approach has also quickly gained the critical attention of major business actors. A report by Magister Advisors (2016) estimates that over the next 24 months more than 1 billion USD will be spent by large financial institutions on blockchains. The emphasis has clearly been in North America, where total investment in blockchain and bitcoin development and implementation in 2013-2015 was approximately 1 billion USD, of which more than two-thirds was in North America.
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Furthermore, according to Magister Advisors (2016), bitcoin and blockchain have diverged over the past 12-18 months. The emphasis in bitcoin as the leading digital currency is that numerous consumer, SME, and financial services payment applications are being developed and implemented, particularly in developing economies. Blockchains are seen as potential replacements for middleware networks and financial transactions where third-party verification is required, but even more, the potential is seen in applications extended to other networks where veracity is critical to performance. Thus the focus is shifting from cryptocurrencies towards applications of the underlying blockchain technology.
2.3
DIFFERENT GENERATIONS OF BLOCKCHAIN
Although the blockchain idea was first implemented in bitcoin, a number of other independent blockchains have emerged on the market in recent years. Although their features vary, their key features are similar, and these can be listed as follows (see e.g. DeLoitte, 2016): -
they are digitally distributed across a number of computers almost in real time they use many participants in the network to reach a consensus (in verification) they use cryptography and digital signatures to prove identity they have mechanisms to make it hard to change historical records they are time-stamped they are programmable
Melanie Swan (Swan, 2015) categorizes blockchain development into three different phases as follows: -
blockchain 1.0: currency (cryptocurrencies, such as bitcoin) blockchain 2.0: contracts (smart contracts, public records, physical asset keys, etc.) blockchain 3.0: justice applications beyond currency, economics, and markets (in general, the utilization of blockchain as a new paradigm for organizing activity with less friction and more efficiency).
Swan’s solid categorization shows nicely how blockchain has grown from an approach utilized in cryptocurrencies into a new computing paradigm by providing a platform for the connected world of computing relying on blockchain cryptography.
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Another classification of blockchains is also useful (presented by Peters and Panayi, 2015). As discussed previously, blockchains retain joint features, but their technological spread is widening. Thus they can also be classified as follows: permissionless vs. permissioned -
-
permissionless blockchains, where anyone can participate in the verification process, i.e., no prior authorization is required and a user can contribute his/her computational power, usually in return for a monetary reward permissioned blockchains, where verification nodes are preselected by a central authority or consortium
private vs. public -
public blockchains, where anyone can read and submit transactions to the blockchain private blockchains, where this permission is restricted to users within an organization or group of organizations (e.g. value networks).
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3
BUSINESS IMPACT OF BLOCKCHAINS
One can assume that blockchains will have an impact on many – if not all – businesses, but here summary of the areas discussed and identified in the literature at hand. The key common denominator is that the novel business opportunities attached to the blockchain approach are often considered to be disruptive and their potential is widely seen as game-changing.
There are also outspoken technical concerns and limitations, which have a potential impact on business applications. Technical concerns are discussed concerning throughput (how many transactions per second can be handled), scalability of blockchains, latency (how long it takes to verify a transaction), and security issues, among others. (For more details, see Swan, 2015.) However, the rapidly growing number of companies dedicating their work and energy to blockchain technology development are also committed to solving these limitations and challenges.
3.1
FINANCIAL SERVICES
Conventional financial services firms earn their money by acting as key intermediaries and also as trusted partners. However, the blockchain approach creates threats (in eliminating the need for third parties), but also novel opportunities. Here are some interesting trends: -
-
the increasing use of web wallet services (for cryptocurrencies) the increasing use of micropayments (in entertainment, magazines, etc.) widening banking and financial services to new populations (the majority of the world’s population does not have bank accounts or credit cards and thus only 2 billion people can participate in e-commerce; however, a greater proportion of people have Internet access than bank accounts) international remittances (globally today a 50 billion USD business) and their routing novel methods of crowdfunding (e.g. by smart contracts, investors can automatically release certain funding proportions after achieved business results) trustless lending (e.g. allowing strangers to lend each other money by taking verified smart property as collateral and thereby avoid third-party costs).
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3.2
LEGAL SERVICES AND INSURANCE
Various legal services have been based on the idea of providing proof of existence of a document (e.g. will, power of attorney, ownership documentation, even birth certificate). Another function has been the archives of legally binding documents. This is also an area where blockchains can have a great impact on the productivity of the public sector. Some crypto-law firms convert the content of these documents and store them on blockchains. Here are some interesting trends: -
3.3
multiple party documents and their fluent signatures and preservation various escrow services smart contracts smart properties (e.g. states of ownership and property registries) improved, faster, and more transparent insurance claims handling
TRANSPORTATION AND TOURISM
Blockchain innovation is also giving a new perspective on services that are made to function in a shared economy (with the prime examples being AirBnB and Uber). Shared economy actors can gain much from blockchains, as they have quite heavy unit costs with various payments to intermediaries. This can also accelerate the creation of new businesses. Here are some interesting trends: -
novel potential to use, for example, cars or apartments with the integration of keyless entry and limited time through control of digital assets and smart contracts new opportunities for consumers to provide data and get compensated for their peer work.
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3.4
HEALTH AND WELLNESS
A blockchain can be a powerful tool in health-related applications, as it provides a good structure for storing health data, so that it can be analyzed but remain private. Here are some interesting trends: -
3.5
personal health record storage (which could also be used with permission for health research purposes, as anonymity can be ensured) personal “healthcoins” (which could be linked to personal health follow-up and thus the impact of health interventions) to pay for health and wellness services personalized insurance and related services based on available health data improved health risk assessment and mitigation
SOFTWARE
Blockchain innovation can also offer novel opportunities for software businesses which struggle with licensing. Here are some interesting trends: -
3.6
peer-to-peer software license validation through blockchains novel approaches to using and charging SaaS (Software as a Service).
MEDIA AND GAMING
Many challenges in the media industry are linked to the governance of the ownership of media products, including how individual and independent artists are compensated for the use of their intellectual property. The media sector also faces challenges regarding how to charge micropayments for their products and services. Furthermore, the gaming industry has been developing its own “currencies”, which could be made more efficient by blockchains. Here are some interesting trends: -
micropayment models for compensation of artists (also greater transparency for artists following the use of their creations) novel models for use of media products novel opportunities to provide various “game currencies” and avoid fraud.
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4
INTERNET OF THINGS AND BLOCKCHAIN
Bheemiah (2015) appropriately summarizes the challenges of the Internet of Things (IoT) and the potential of blockchains by stating that “today businesses and societies are noticing that the line between physical and virtual existence is beginning to blur at an increasing rate. In this transitionary ambience, the centralized approach to building an IoT business model is expensive, lacks privacy and is not designed for endurance, as it fails to address the issues related to scale and complexity…. In collaborative digital economy, a decentralized model is a sounder model to adapt, as it removes the fallacy of having a single failure point that is inherent of today’s client-server based business models. On the contrary, in a decentralized structure, the addition of more nodes to the system actually decreases the risk of system failure as if one node fails to function, the whole network is not compromised.”
Mattila and Seppälä (2015) conclude in their report that “from the point of view of social and industrial digitalization, the blockchain technology is an interesting subject of analysis for a number of reasons. First, venture capital investments in the blockchain technology ecosystem have greatly increased over the past few years, reflecting a trend similar to the investments made in the WWW in its early days. Second, said technology has proved itself in that it has been quickly adopted across the world and due account of its potential has been taken in the innovation projects launched by major technology companies. Third, as far as platforms go, the blockchain technology offers a number of promising, even unique technical features.”
Furthermore, Swan (Swan, 2015) highlights that “blockchains might not just be for digital currency transactions among humans, but also for the orchestration and remuneration of the machine economy, the infrastructure for explosively-growing M2M (machine-to-machine) communication. Further, the Connected World of the continuously-connected computing layer (wearables, IoT, smartcar) and the economic layer could be deployed and adopted much more quickly than other technology paradigms given the network effect of so many individuals already being linked worldwide through Internet and cellular network technologies.” The blockchain can work as an elegant integration of physical-world hardware technologies with digital Internet-based software technologies, which would be the fundamental approach in developing IoT solutions using blockchains.
Peters and Panayi (2015) emphasize that “in recent times, industry interest has increasingly moved to second generation blockchain applications, including digitizing asset ownership, intellectual property and smart contracts. The latter use case is particularly interesting, as one can encode the rules of a contract in computer code, which is replicated and executed across the
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blockchain's nodes. Such a contract can be self-enforcing, monitoring external inputs from trusted sources (e.g. the meteorological service, or a financial exchange) in order to settle according to the contract's stipulations.”
In discussing the rise of the potential of IoT utilizing the blockchain approach, Duiverstein et al. (2015) are close to the previously described classification of Swan (see section 2.3). They describe smart contracts as being key elements in “crypto-economy 2.0” and maintain that at this development stage, the blockchain approach can serve all physical equipment that can be connected to the Internet.
applied from Duiverstein et al. (2015)
At the heart of the Internet of Things is increasing machine-to-machine (M2M) communication, for which blockchain technology provides a good integration platform and thus also enables novel types of business and earning models. As Noyen et al. (2014) predict, “the IOT is expected to consist of billions of sensor nodes bridging the gap between the physical and digital world. Hence, Sensing-as-a-Service (S2aaS) is a promising candidate for an IOT-enabled business model pattern”. Sensing as a Service is an example of novel service applications built on blockchain – the essence of the concept is that “physical goods that help to create data initiate multi-sided markets for sensor data in which one or more customer groups (the markets buying side) subscribe to and pay for data that is provided by one more data creator (selling side). For instance, car manufacturers could be interested in a constant flow of road condition data generated by all cars on the street, city planners in the way how bicycles move through town, parking authorities and car drivers in empty parking lots, companies that produce weather forecasts in the data of millions of privately owned weather stations, and home security systems”. (Noyen et al., 2014)
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Blockchain applications in the Internet of Things can also enable novel financial mechanisms – for instance, charging leasing fees for machinery based on capacity utilization or downtime or agreed share of cost savings of profitability of business operations. In particular, blockchain technology can be powerful in multi-actor environments where a product or a service is produced by a number of consequential activities.
The big promise of blockchain technology is to provide and ensure frictionless supply chains. Thus, they can be used not only for routing and tracking (and based on that data, logistical process improvement), but also for the increasing transparency of supply chains. The transparency of supply chains is already a major issue in the food and textile industries, and without doubt this trend is increasing in importance in connection with the increasing demands on CSR (corporate social responsibility).
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5
NEW BUSINESS MODELS
Dodgson et al. (2015) claim that “three elements help underpin business model innovations associated with digital money: pursuit of efficiency gains by reducing the friction caused in traditional financial transactions, new ways of engaging with customers, and the creation of new businesses based on data gleaned from transaction behavior.” What Dodgson et al. claim regarding digital money is also applicable to blockchain business innovations. The key approach in business model innovations triggered by the utilization of blockchain technology is that they are – and should be – disruptive by nature.
Various challenges have been discussed in the previous sections but the challenges facing business models due to blockchain technology can be summarized by the following chart (making a rough distinction between providers and users and between consumers and businesses).
Furthermore, the business models emerging from the utilization of blockchain technology can also be discussed based on the framework of the St. Gallen Business Model Navigator (Gassman, Frankenberger & Csik, 2013). They rightly claim that “in future, competition will take place between business models, and not just between products and technologies”; based on their
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research, they have condensed the potential business models to 55 models. According to the business model navigator, “by answering the four associated questions and explicating (1) the target customer, (2) the value proposition towards the customer, (3) the value chain behind the creation of this value, and (4) the revenue model that captures the value, the business model of a company becomes tangible and a common ground for its re-thinking is achieved. A central virtue of the business model is that it allows for a holistic picture of the business by combining factors located inside and outside the firm.”
So which business models could then be seen as viable in businesses utilizing blockchain technology?1 In particular, in the IoT area, the key business models would be integrator (“integrator is in command of the bulk of the steps in a value-adding process”), as blockchain technology provides good potential for integration of various activities and actors, or orchestrator (“the company's focus is on the core competencies in the value chain - the other value chain segments are outsourced and actively coordinated”), as blockchains also provide good potential for orchestration.
As blockchain technology is by its nature based on active participation of various actors and their voluntary collaboration, the open business model (“in open business models, collaboration with partners in the ecosystem becomes a central source of value creation; companies pursuing an open business model actively search for novel ways of working together with suppliers, customers, or complementors to open and extend their business”) can also be seen as a potential and valid business model. The basic approach of open ledgers and open sharing supports the use of the open business model. Technically, a blockchain approach would also enable revenue sharing (“this refers to firms’ practice of sharing revenues with their stakeholders, such as complementors or even rivals; in this business model, advantageous properties are merged to create symbiotic effects in which additional profits are shared with partners participating in the extended value creation”), as the ledgers provide the required transparency for trusted operations. However, blockchain applications in the area of IoT with smart contracts pave the way for performancebased contracting (“a product's price is not based upon the physical value, but on the performance or valuable outcome it delivers in the form of a service; performance-based contractors are often strongly integrated into the value creation process of their customers”).
Regarding the financing of the companies, blockchain technology supports, in particular, two existing business models. The blockchain approach is effective in supporting crowdfunding (“a product, project or entire start-up is financed by a crowd of investors who wish to support the underlying idea, typically via the Internet; if a critical mass is achieved, the idea will be realized and 1
in the following, the business model is shown in bold and the definition of the business model according to the St. Gallen Business Model navigator is written inside the brackets with quotation marks.
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investors receive special benefits, usually proportionate to the amount of money they provided”), as open ledgers provide the required transparency, and fractional ownership (“the sharing of a certain asset class amongst a group of owners; typically, the asset is capital-intensive but only required on an occasional basis - while the customer benefits from the rights as an owner, the entire capital does not have to be provided alone”), as again open ledgers provide the required transparency and also a clear definition of ownership through smart contracts and public records.
If the seven above-mentioned business models apply well to the B2B-market, blockchain technology in the consumer market also provides interesting business opportunities. Of the existing business models, blockchains support peer-to-peer (“this model is based on cooperation that specializes in mediating between individuals belonging to a homogeneous group; the company offers a meeting point, i.e., an online database and communication service that connects these individuals”). This approach is ideologically at the heart of blockchain development and the idea of bringing peers together and avoiding third parties was the starting point of bitcoin. Furthermore, particularly in the media and entertainment fields, the business model of pay-peruse (“the actual usage of a service or product is metered; the customer pays on the basis of what he or she effectively consumes - the company is able to attract customers who wish to benefit from the additional flexibility, which might be priced higher”) and thus a large variety of micropayments is enabled by blockchain technology.
Blockchain technology can provide a trusted environment (although at the moment a slow one) for auctions (“auctioning means selling a product or service to the highest bidder; the final price is achieved when a particular end time of the auction is reached or when no higher offers are received”). The auctions can be recorded onto a blockchain and verified through a time stamp.
However, as discussed at the beginning of this section, blockchain technology can – and probably will – also alter business models and, as it matures, also create novel business models.
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6
REFERENCES
Bheemaiah, K. (2015). Why Business Schools Need to Teach About the Blockchain. Available at SSRN 2596465.
Deloitte LLP (2016). Blockchain – Enigma, Paradox, Opportunity.
Dodgson, M., Gann, D., Wladawsky-Berger, I., Sultan, N., & George, G. (2015). Managing digital money. Academy of Management Journal, 58(2), 325-333.
Duivestein, S. et al. (2015). Design to Disrupt. Blockchain: cryptoplatform for a frictionless economy. SOGETI Labs.
Gassmann, O., Frankenberger, K., & Csik, M. (2013). The St. Gallen business model navigator. Working Paper, University of St. Gallen, St. Gallen, Switzerland.
Herbert, J., & Litchfield, A. (2015, January). A Novel Method for Decentralised Peer-to-Peer Software License Validation Using Cryptocurrency Blockchain Technology. In Proceedings of the 38th Australasian Computer Science Conference (ACSC 2015) (Vol. 27, p. 30).
Kazan, E., Tan, C. W., & Lim, E. T. (2015). Value Creation in Cryptocurrency Networks: Towards A Taxonomy of Digital Business Models for Bitcoin Companies. In The 19th Pacific Asia Conference on Information Systems. PACIS 2015.
Magister Advisors (2015). Blockchain & Bitcoin in 2016 – A Survey of Global Leaders.
Mattila, J. & Seppälä, T. (2015). Blockchains as a Path to a Network of Systems. ETLA Reports No 45.
Noyen, K., Volland, D., Wörner, D., & Fleisch, E. (2014). When Money Learns to Fly: Towards Sensing as a Service Applications Using Bitcoin. arXiv preprint arXiv:1409.5841.
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Peters, G. W., & Panayi, E. (2015). Understanding Modern Banking Ledgers through Blockchain Technologies: Future of Transaction Processing and Smart Contracts on the Internet of Money. Available at SSRN 2692487.
Pilkington, M. (2016). Blockchain Technology: Principles and Applications. Research Handbook on Digital Transformations, edited by F. Xavier Olleros and Majlinda Zhegu. Edward Elgar.
Swan, M. (2015). Blockchain: Blueprint for a New Economy. O'Reilly Media, Inc.
Swan, M. (2015). Connected car: quantified self becomes quantified car. Journal of Sensor and Actuator Networks, 4(1), 2-29.
Valtanen, K. (2016). Lohkoketjuteknologia – uudenlaisia mahdollisuuksia IoT:lle (Presentation at HILLA IoT Think tank meeting 12.02.2016)
Vigna, P., & Casey, M. J. (2016). The Age of Cryptocurrency: How Bitcoin and the Blockchain Are Challenging the Global Economic Order. Macmillan.
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