Taking Stock of the Block: Blockchain, Corporate Stock Ledgers, and Delaware General Corporation Law—part I

• Jurisdiction: Delaware,United States
• Publication year: 2018
• Citation: Vol. 1 No. 3

John C. Kelly and Maximilian J. Mescall^*

Delaware recently amended the Delaware General Corporation Law to authorize Delaware corporations to replace their paper and electronic stock ledgers with a blockchain. Blockchain, also known as a distributed ledger, can promote efficient recordkeeping, but there are several legal and practical hurdles that corporations need to address before they can reap the full benefits of blockchain legalization. In this first part of a two-part article, the authors discuss blockchain and its applications. The second part of the article, which will appear in an upcoming issue of The Journal of Robotics, Artificial Intelligence & Law, will explain Delaware's legislation, and blockchain's potential uses and hurdles.

Delaware recently amended the Delaware General Corporation Law ("DGCL") to explicitly authorize Delaware corporations to replace their paper and electronic stock ledgers with a blockchain. The law received acclaim from experts in the technological, corporate, and legal fields, and supporters expect it will reduce corporate transactional times and costs while avoiding expensive litigation. Because Delaware is the home of 64 percent of Fortune 500 companies and 90 percent of initial public offerings, the new amendment will have national implications.¹ Blockchain, also known as a distributed ledger, can promote efficient recordkeeping, but there are several legal and practical hurdles that corporations need to address before they can reap the full benefits of blockchain legalization.

Blockchain is the foundation of Bitcoin and Ethereum, two major cryptocurrencies that have shaken the basic assumptions underlying the financial industry. Bitcoin is to blockchain what email is to the internet: a single application to an expansive and disruptive technology. Just as the internet has shaken assumptions in commercial, informational, and service-based industries, block-chain challenges the foundations of financial industries and corporations. With its other evolving applications, such as Ethereum's

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Smart Contract program, blockchain may be able to fuel major innovations in the financial and corporate sphere.² Bitcoin has a checkered history and is often associated with criminal enterprises, such as tax evasion and drug smuggling. But Delaware's law removes blockchain from this legal gray area, enabling companies to use distributed ledgers in corporate governance and maintenance.³ Corporations must utilize this new technology to stay ahead of the competition. This two-part article discusses blockchain and its applications, Delaware's legislation, and blockchain's potential uses and hurdles.

Blockchain and Its Applications

Blockchain Generally

At its core, blockchain is a type of database. Both store information, which users retrieve and alter. Databases, however, are centralized servers; all users must access the database in order to retrieve its data.⁴ With centralization comes vulnerability. While a centralized database can restrict users, it can also be overwhelmed by Denial of Service attacks, unilaterally altered by the entity controlling the database or a malicious third party, or shut down if it malfunctions. Additionally, the owner of the database must pay for maintenance and upgrades on the system. System owners pass these expenses onto users or advertisers, driving up costs. In return for viewing advertisements or paying fees, users look to the trusted party, the database owner, to verify the information or transactions that take place on the database.⁵

Unlike an actual database, a blockchain is a decentralized ledger network.⁶ Rather than having users access a single centralized database, users access the copy of the blockchain on their computer, which refreshes as other users access and update the content of the network.⁷ By joining the network, users authorize their computers to become network nodes that verify transactions and alterations to the blockchain.⁸ The blockchain "algorithmically enforce[s] private agreements and community principles at a global scale by shifting the cost of trust and coordination to the network."⁹ Because nodes must authenticate each transaction, an exchange on a blockchain is considered trustless.¹⁰ The network, rather than trusted third party, confirms an exchange.¹¹ Thus, person-to-person interactions are viable on a blockchain.

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Instead of relying on a trusted party to verify transactions, the blockchain ensures accuracy by using cryptography and the hash function.¹² A hash function "enjoy[s] the potential for high security absent dedicated, and resource-intensive, attempts to crack them"¹³ and allows users to detect tampering by malicious parties.¹⁴ A hash function is too complex to explain entirely here, but essentially takes the input data, which are the transactions, and condenses them into secure output data, which is later organized into a block of information.¹⁵ This block is then verified by computers on the network, which then hash—or chain—the blocks together.¹⁶ If a hacker attempts to reverse a transaction, then the hashes between the various blocks change, alerting users that the new block is different from that which the blockchain accepted.¹⁷Additionally, that hacker would need to change every block in the chain, compromising multiple hashes and requiring an immense amount of computing power, with the power requirement increasing as the blockchain lengthens.¹⁸ As a result, blockchains, though not infallible, are nearly impossible to alter.

There are three types of distributed ledgers a network creator can adopt: public, private, and hybrid (also known as consortium).¹⁹ Public, or permissionless, ledgers are available to all, and all users have "identical privileges to view, modify and affix their assent to a transaction."²⁰ Private, or permissioned, ledgers allow access to a limited number of nodes, thereby controlling who may alter the blockchain.²¹ Hybrid ledgers attempt to merge the transparency of public blockchains with the control of private ledgers by allowing a governing body to select which transactions are public and which require permission to view.²² Blockchains are therefore customizable and can fit the needs of the parties or corporation that codes it.

Blockchain and Bitcoin

For those who have difficulty conceptualizing a blockchain, Bitcoin provides a real-world example of its function. Bitcoin is a type of cryptocurrency whose value is driven by speculation and scarcity, rather than by support from a government. It was first proposed by a person or group of people calling themselves Satoshi Nakamoto.²³ Utilizing distributed ledger technology, Nakamoto envisioned a system that allowed transactions without a trusted third party, such as a bank, reviewing and approving the

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exchange.²⁴ Essentially, Nakamoto suggested that cryptocurrencies could replace banks and government controls in the same way the blockchain could replace centralized databases.²⁵ With blockchain, once a transaction is made, it is nearly impossible to reverse.²⁶ Thus, a party cannot renege on a transaction once it occurs, and every user can trace the history of all bitcoins from creation to current ownership by examining the transactional history in the publicly viewable distributed ledger.²⁷

To trade Bitcoin, users download a bitcoin wallet—a platform that grants access to the distributed ledger. There are two ways to put a bitcoin in this wallet: (1) trading real-world currency for bitcoin or (2) mining bitcoin.²⁸ Bitcoin mining is what drives the system and ensures the accuracy of the distributed ledger. When a transaction occurs, that transaction is added to a block with one block created about every ten minutes.²⁹ When a block is created, it is sent to nodes on the ledger, which then have an opportunity to mine the block.³⁰ Mining involves solving the difficult mathematical formulas that are the basis of cryptography.³¹ Upon receiving the new block, Bitcoin miners engage in proof of work—a race to solve the cryptographic formula through pure computational guesswork.³² The first user to solve the mathematical formula attempts to place the mined block on the largest chain on the ledger.³³ Using consensus protocols, the miner's node shares the mathematical answer to the cryptographic formula.³⁴ Once a majority of nodes accept the miner's answer as correct, the mined block is added to the longest chain.³⁵ In return for completing the equation first, the system may reward the miner with a newly minted bitcoin.³⁶ The ledger subsequently updates and supplies the miner with a pair of cryptographic keys specific to the bitcoin.³⁷

These keys prove ownership of the bitcoin and are essential to the transfer processes.³⁸ Each bitcoin has a public key, which is what appears on the blockchain and is universally available to those who access the chain.³⁹ The owner of the cryptocurrency also has a private key, which acts like a password and is necessary to trade the coin.⁴⁰ A party obtains a bitcoin by communicating with a public key on the distributed ledger, and the owner confirming the trade by sending the private key to the blockchain.⁴¹ When an owner trades a bitcoin, the blockchain "utilizes mathematical techniques to match a public address with a private security access key for each participant in a transaction."⁴² Once the system verifies the public and private keys, the transaction is broadcast to all ledgers on the

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network, which group it with other transactions into a block that miners subsequently verify and place on the ledger.⁴³

Cryptocurrencies are not necessary for a blockchain.⁴⁴ Innovative uses arise when the traded item is not a digital currency, but instead a digital representation of a real-world item, such as a property deed or an intellectual property right.⁴⁵ With smart contracts, parties can easily transfer goods and money by automating the transactional process.

Blockchain and Smart...