June 25, 2020
By: Vincent T. Borst
The Current Cumbersome System of Equipment Lease Documentation
When it comes to booking equipment leases, with limited exceptions, the equipment leasing industry operates much like it did 25 years ago. At each step of the process, the lease transaction is evidenced by an exchange of hard documentation. This imposes an enormous amount of friction on the process with time delays. However, most if not all the friction associated with the old way of doing business could be eliminated by developing technology known as blockchain technology.
Blockchain Technology – What is it?
A blockchain is a decentralized peer-to-peer network that maintains a distributed ledger of transactions.
What is a decentralized ledger?
A decentralized system is stored on any number of computers connected to a common network such as the Internet. Each computer, or node, contains a complete history of every transaction completed on a particular blockchain beginning with the first transaction processed on the first block of the blockchain. The ledger is distributed.
Each block contains a timestamp and a link to a previous block. Linking blocks chronologically results in a chain of blocks, hence a blockchain. Once recorded, the data in a block cannot be altered retroactively without creating an obvious incompatibility with later blocks, which depend on the original data from earlier blocks. For that reason, a blockchain is tamper evident, giving an integrity that makes a blockchain extremely tamperproof.
A network of computers, or nodes, connected to a common network. The nodes are all connected, but in a decentralized manner; there is no single server to which all nodes connect. The network of nodes all operates under the same set of rules, or protocol. The protocol is expressed in computer code that resides on each node in the network. The agreed-upon protocol ensures that only information upon which the network reaches consensus will be included in the blockchain. The network of computers all running the protocol code must come to agreement on whether a change to a blockchain should be made, and if so, what that change should be. No one node (computer) can unilaterally impose a change on the blockchain.
Public or Private: Permissioned or Non-Permissioned
An example of a public blockchain is Bitcoin, which is open to the public and is described as open or non-permissioned. A private network would be similar to that maintained by the Federal Reserve with its member banks.
The protocol consists of common code, or software application, that each computer in the network agrees to use.
Equipment Leasing – How Would Blockchain Work?
Applying blockchain technology to equipment leasing would have a familiar feel, minus all the paperwork. The same players would be present: lessee, vendor, broker, lessor and lessor’s bank as applicable, etc. New players would potentially include credit rating services and other such data providers, an electronic document service such as Docusign or E-Signature, an agent for UCC filing purposes, tax agents, and others. Instead of phone calls, emails, and the post office or FedEx, the parties would all be present and participating as individual nodes in the peer-to-peer network. Each would have input through a computer running protocol of the lessor’s or its bank’s choosing.
So Why Isn’t This Happening?
If blockchain technology has such promising application to equipment leasing, why isn’t the industry rushing to put it into play? A minority of lessors (33%) is currently originating electronic lease transactions, and an even smaller number of lenders (21%) is willing to accept electronic lease transactions as collateral for loans. This is attributed, in part, to a misunderstanding of legal issues related to establishing control of electronic chattel paper when it is transferred from one owner to another and general issues of enforceability of an equipment lease evidenced only by electronic documentation. In addition, the law in some states requires many equipment leases to be in writing and signed to be enforceable, and often accompanied by certain disclosures to lessees.
These issues can be managed. The Uniform Commercial Code already addresses electronic chattel paper. Further, the use of an e-vault that addresses the safe harbor requirements of Article 9 reliably through a secure methodology to keep track of the identity of the controlling party for electronic chattel paper should alleviate other concerns. In addition, the Federal Electronic Signatures Global and National Commerce Act, state-enacted Uniform Electronic Transactions Acts, and various other laws and regulations can be used to meet the writing, signature, and disclosure requirements. For example, effective January 1, 2020, Illinois adopted the Blockchain Technology Act to address concerns associated with the use of blockchain in smart contracts. It provides that a contract is enforceable and may be entered into evidence even though it was created using blockchain.
Looking to the Future
Blockchain technology has clear application to the equipment leasing industry and could give a savvy lessor a competitive edge over a more traditional lessor in capturing new lease deals. There will be growing pains, but the issues are manageable through a variety of tools developed to deal with several cutting-edge issues such as smart contracts, electronic signatures, and electronic documentation.