The Future of Payments in Construction: Pay me on the blockchain!

(Originally published in July edition of the Contractor's Compass published by the American Subcontractors Association)

James L. Salmon, Esq.

Introduction

Would you rather get paid today or in six (6) months?

Technology exists to enable payment of pay applications in construction within hours instead of months. If McDonalds collects at the counter PRIOR to delivery, why not allow trade contractors to collect UPON delivery?

This article outlines a futuristic pay processes driven by blockchain technologies on the cloud. Just don't be surprised if something very close to the process described herein emerges in the marketplace sooner rather than later. But first, a little background.

What is the Blockchain?

Everyone knows about the internet and the cloud, but what is a blockchain?

A blockchain is an immutable database - usually distributed and networked around the world, via the internet - of secured tamper resistant digital transactions. Blocks of data on the blockchain contain timestamps and links to previous blocks. Users around the globe connect to the network to send and verify transactions, creating new blocks in the chain.

Self-executing transactions on the blockchain, verified independently by random participants around the globe, reduce the need for trust between parties and enable swift, value based exchanges on a global scale.

Blockchain 1.0, marked by the rise of Bitcoin and similar digital currencies, began in 2009 when Satoshi Nakamoto published the Bitcoin blockchain code described in his 2008 whitepaper that introduced the concept.  Ethereum introduced the world to blockchain 2.0 powered by code with Turing capacity, that is the ability to insert logic forks and loops and, ultimately, write self-executing smart contracts on the blockchain. Today, as blockchain 3.0 unfolds, startups offer Blockchain as a Service, (Baas) Data as as Service (DaaS) on blockchain platforms, Digital Asset Arrays (DAAs) and Distributed Autonomous Applications as a Service (DAAaaS). In short, blockchain offers an innovative new platform for services on the web.[3]

What is a smart contract?

Smart contracts reside on the cloud as code and self-execute when a triggering event occurs. Online bill payment systems utilize smart contracts. The due date of a bill triggers automatic payment of the bill, electronically, by executing prior instructions. Smart contracts leverage software to increase efficiency and productivity by automating execution of the terms. The potential uses of smart contracts are legion, and limited only by the imagination of the drafters and, importantly, the appetite for risk of those entering into such agreements. Deploying smart contracts on a secure blockchain reduces those risks exponentially.

How is the blockchain used today?

Blockchains, resting on secure distributed ledgers, enable the intelligent secure use of smart contracts. Those transparent ledgers create immutable records of each transaction and as append-only databases they create the perfect audit trail, ensuring transparency and accountability and, over time, becoming more and more secure. Bitcoin and other crypto currencies reside on such ledgers.

Intrigued by the value of the blockchain, businesses and governments are exploring the use of blockchain style ledgers as secure, distributed platforms. Multiple sectors of the economy, many ripe for digital disruption, appear vulnerable to the exponential increases in efficiency, productivity, security and transparency that blockchains enable. These include sectors as diverse as finance, government, real estate, medicine and, of course, construction and the built industry generally.

Two big time players in this space are the R3 Consortium and the state of Delaware. Made up of 19 different members, all banks, the R3 Consortium controls a research lab that recently completed the origination, funding and payment of a Syndicated Loan on a private blockchain. In 2016 Delaware launched the Delaware Blockchain Initiative, on Symbiont's AssemblyTM platform. Delaware intends to record all government data on a state controlled blockchain, to issue, track and update UCC filings and, ultimately, issue, record and track stock ownership in Delaware Corporations.

What is the "State of the Art" in construction? 

More and more, sophisticated consumers of planning, design and construction services insist that integrated teams of designers, constructors and suppliers virtually plan, design and construct facilities, infrastructure and residential assets (BuiltAssets). Those integrated teams, made up of the owner, designers, constructors and key trades, often execute new generation legal instruments patterned after the ConsensuDOCS 300 Multi-Party Integrated Project Delivery (IPD) Agreement and related documents, or instruments contained in the AIA Integrated Project Delivery (IPD) Family of documents published by the American Institute of Architects (AIA). Virtually planning, designing and constructing Built Assets together, as an integrated team, and signing an integrated agreement related to the delivery of such services, greatly increases efficiency and productivity and might be described as the "State of the Art" in construction. At a minimum these processes represent best practices in the industry.

Unfortunately, these best practices tend to replicate antiquated paper processes developed for use in "waste based" business models created to extract profits from the waste stream of a complex construction project. Historically, the built industry, operating under a design-bid-build procurement model, delivered planning, design and construction services out of a series of silos. Procurement via design-bid-build encourages waste and inefficiency, and the built industry delivers both in spades. From 1950 until 2013, a span of almost 65 years, labor productivity rates remained flat while labor productivity in all other non-farm sectors of the economy improved by over 250%!

While flat to declining labor productivity is one measure of failure in construction there are others.

In 2004 the US construction industry wasted $15.8 billion due to a lack of interoperability among digital platforms used in capital facilities.  The value "added" by the construction sector in 2007 was, purportedly, $1.2 trillion; however, at least 50% of that "value" was waste.  In other words, the industry wasted $600 billion dollars in 2007!  Nor have these numbers improved in the past 10 years.

Waste manifests as labor inefficiencies at a rate of 30%, as material waste at 30%, re-work at 10%, while 5% arises from poor planning and management. Together the foregoing account for $450 billion of the $600 billion wasted in 2007.  Further, 72% of construction projects run over schedule, and 70% run over budget. 

Not fully reflected above, additional failure manifests itself as injuries to workers, broken equipment, design defects, energy loss, inefficient operations and undue maintenance costs.  These factors contribute billions more in red ink. Meanwhile, the industry embraces business models that extract profits from waste, while shunning those that earn profits by adding value.

How can we fix our broken built industry?

Forward thinking firms in the built industry embraced building information modeling (BIM) in the late 1990s and early 2000s and by 2005 the industry had begun to supplement those virtual planning and design tools with proven continuous improvement processes borrowed from manufacturing and agile project management concepts borrowed from the IT industry. In 2010 the UK government mandated that all government projects in the UK worth more than £5.0 million be planned, designed and constructed virtually, and that the resulting digital asset be delivered to the UK government along with the completed physical asset.

Armed with the technologies described above the built industry has the capacity to plan, design, construct, operate and maintain Built Assets on a blockchain platform that combines virtual planning and design, lean construction processes and innovate financing options in a manner that enables automated payment of pay applications.

Leveraging Blockchain as a Service (BaaS) in construction

Imagine a complex construction project financed by a member of the R3 Consortium on behalf of an owner that intends to manage the digital assets related to the Built Assets it procures on Symbiont's AssemblyTM blockchain platform. Further imagine that owner sought to procure planning, design and construction services from an integrated BIM enabled team capable of operating on a blockchain platform upon which all stakeholders recorded and tracked everything related to the project including, ultimately, pay applications.

In that environment, where proceeds from the construction loan reside in an escrow on the blockchain and the owner expects the physical Built Assets as delivered to match the virtual, as designed version of those Built Assets, a trade contractor can complete a pay application on the blockchain and get paid immediately.

To process a pay application on a construction project three things must occur: The trade must properly complete a portion of its scope of work and request payment; the request for payment must be approved; and, a lien release related to that portion of the work must be executed. In a technologically empowered world, that entire process can be completed in a matter of seconds rather than months, resulting in a permanent, transparent record of the entire transaction being recorded on the blockchain. Under our current cumbersome system, processing pay applications easily takes forty five (45) or even ninety (90) days and consumes thousands of hours of administrative time, depending on the size and complexity of the project.

If the virtual design reflected in the BIM accurately depicts what the owner contracted to receive, and the photo / video from the trade contractor accurately depicts what the trade contracted to deliver, then proof of completion exists. Technology exists to compare such photos / videos to the BIM, thus automating two elements - proof of work and approval - of the smart contract referenced above. Of course, a human might "approve" the work and then click an online link to satisfy the approval element of the smart contract as well.

Next, a lien release must be executed. Technology exists to create and execute lien releases digitally and to then store those releases on the blockchain. Or a PDF copy of a physically executed lien release could be stored on the blockchain. Either way, placing the release on the blockchain could be the last "if then" requirement prior to payment under the smart contract. Processing pay applications on the blockchain, rather than via the existing byzantine red-tape riddled process used now, will save the built industry billions.

All providers, including trades, designers, suppliers and general contractors will get paid more quickly. Owners will enjoy lower costs and access to a transparent and immutable record of all payments. That transparent and immutable record of payment will save lenders millions if not billions in administrative and regulatory compliance costs. Insurance companies and sureties will also benefit greatly from the increased precision and timeliness of information shared on projects. And as with all such technologies, numerous unknown benefits will likely accrue and trigger new opportunities to deploy new business models.

Conclusion

Trade contractors need to embrace the new knowledge economy and think carefully about how emerging technologies, like the blockchain, will impact their businesses going forward. After all, wouldn't you rather get paid today instead six (6) months from now?

 

 


Bitcoin: A Peer-to-Peer Electronic Cash System, Satoshi Nakamoto, October 31, 2008, accessed June 2, 2017 http://nakamotoinstitute.org/bitcoin/

 

History of Ethereum, Accessed June 2, 2017 http://ethdocs.org/en/latest/introduction/history-of-ethereum.html

 

 Blockchain explained in under a minute, accessed June 2, 2017 https://youtu.be/xrurxBEftMs

 

Financial Institutions Move Closer to Realizing a Blockchain Solution for Syndicated Loans, Ipreo, March 30, 2017, accessed May 1, 2017 http://www.prnewswire.com/news-releases/financial-institutions-move-closer-to-realizing-a-blockchain-solution-for-syndicated-loans-300431763.html

 

Delaware Blockchain Initiative: Transforming the Foundational Infrastructure of Corporate Finance,

Tinianow, Andrea and Long,  Caitlin, March 16, 2017, accessed May 1, 2017 https://corpgov.law.harvard.edu/2017/03/16/delaware-blockchain-initiative-transforming-the-foundational-infrastructure-of-corporate-finance/

 

AECbytes Viewpoint #67 (March 14, 2013) Labor-Productivity Declines in the Construction Industry: Causes and Remedies, Paul Teicholz, Professor Emeritus, Dept. of Civil and Env. Eng. Stanford University

 

Cost Analysis of Inadequate Interoperability in the U.S. Capital Facilities Industry, Gallaher, M. P.; O'Connor, A. C.; Dettbarn, J. L., Jr.; Gilday, L. T.  NIST GCR 04-867; 194 p. August 2004.

 

Rex Miller, Dean Strombom, Mark Iammarino, and Bill Black, "The Commercial Real Estate Revolutions," John Wiley & Sons, Inc. 2009 at pg. 3.

 

Martin Fischer, Howard Ashcraft, Dean Reed and Atul Khanzode, "Transitioning to Integrated Project Delivery: The Owner's Experience" Wiley & Sons, Inc. 2017

 

Rex Miller, Dean Strombom, Mark Iammarino, and Bill Black, "The Commercial Real Estate Revolutions," John Wiley & Sons, Inc. 2009 at pg. 3.

 

Id.

 

The Built Industry's Backwards Bicycle, Blog Post on the Collaborative Construction Blog, accessed 4-4-2017, http://collaborativeconstruction.blogspot.com/2015/08/the-built-industrys-backwards-bicycle.html

 

The UK government set up a BIM Task Force to ensure compliance with the BIM mandate. Accessed June 2, 2017 http://www.bimtaskgroup.org/