Blockchain and ‘smart’ contracts part of the future of mergers and acquisitions

The Covid-19 pandemic presents a “unique opportunity” to update the traditional M&A process through the use of blockchain technology and “smart contracts,” says Norton Rose Fulbright lawyer Coco Chen, making recent collaborative pilot projects in this area among Canada’s big law firms even more relevant today.

The pandemic is “such a global event that it has really pushed people in the legal industry to work in innovative away remotely and using the potential of technology that is available to us,” says Chen, who practises business law with a focus on banking and corporate finance, public and private mergers and acquisitions, and securities matters.

Chen notes that the use of blockchain technology “will be pivotal” in expanding the use of smart contracts. She describes these contracts, first proposed 30 thirty years ago by computer scientist Nick Szabo, as electronic “documents” that are drafted using programming languages and software that are legally enforceable and binding for all parties involved.

Smart contracts have recently been used in association with blockchain platforms and technology. The blockchain platform, which acts as a type of digital ledger, ensures that the coding used to develop the contract remains well protected and executed. When code from a smart contract is copied across a new block within the blockchain, it takes the effect of executing a provision in the contract.

As an example, Chen describes how smart contracts could be used in earnout payment agreements that are becoming a more frequent feature of M&A agreements during the pandemic, as volatile markets and the economy often make deals riskier for buyers.

Earnouts are payments made to the seller by the buyer following a transaction, if the business purchased meets certain financial metrics that are agreed on by both parties. It is an incentive for the business to continue to do well after the transaction.

Chen says a smart contract could be used to handle making earnout payments, using the programmed metrics and timetable for payment that have been agreed on, removing the potential for human error and third parties, yet providing secure blockchain technology.

Prior to the pandemic, Chen says the combination of using blockchain technology and smart contracts was becoming increasingly popular, and this trend will likely continue as the markets look to new platforms to weather future pandemics and global crises.

Chen points to a pilot project, done in 2019, in which several major Canadian law firms worked together to make a “smart contract” using Ethereum blockchain. The six-month pilot with a consultancy called GenesisB focused on automating a merger and acquisition escrow agreement.

The project was a “proof of concept” trial that used a real escrow agreement and model but not client funds. Firms involved in addition to Norton Rose included Bennett Jones, Blake Cassels & Graydon, Davies Ward Phillips & Vineberg, Fasken Martineau Dumoulin and Stikeman Elliott.

Chen says apart from M&A, there is also increased focus on integrating smart contract technology into legal and business practice to address vulnerabilities that have emerged as a result of the pandemic.

For example, she says, Covid-19 has resulted in several legal issues such as “force majeure” provisions in contracts, which became a source of debate at the outset of the pandemic. The use of smart contract codes that are pre-emptively added for several potential situations can provide a greater sense of certainty and clarity for all parties involved, she says.

Blockchain technology can also potentially be used for tasks such as clearing a settlement of securities trades, verifying identities or protecting privilege.

In a study comprised of executives surveyed across 12 countries, 80 per cent of respondents believed that blockchain technology is “broadly scalable and will eventually achieve mainstream adoption.” PricewaterhouseCoopers has estimated that by 2030, blockchain technology has the potential to add $1.76 trillion to the global economy.

While the smart contract pilot project Norton Rose was part of revealed that there are still some gaps to be worked out in using smart contracts and blockchain technology in M&A, Chen says what is interesting is the collaboration that took place between prominent Canadian law firms that are usually quite competitive.

“We’re all trying to work together to get a better understanding of how to harness the potential.”