The Difference Between a Smart Contract and a Traditional Contract

When you mint an NFT, you often have the option to mint from a website set up by the developers, or directly from the smart-contract. What may be confusing to people is the use of the term “smart-contract” and how that differs from our traditional understanding of contracts.

Hopefully, if you were one of the people confused about the term, this article helps you understand the differences between the legal implications of a traditional contract (which I am an expert in) and the technical implications of a smart contract (which I sometime pretend to be an expert in).

What is a Smart Contract?

Put simply, a smart contract is the technical mechanism for recording a transaction on the blockchain. Instead of a contract, think of it more as an automated escrow service. It makes sure that if there is an exchange of money there is also an exchange of NFTs, and records that exchange on the blockchain. What a smart contract does not (usually) do is provide the terms and conditions surrounding the transaction.

The more complicated the smart contract, the more expensive it is to record on the blockchain. This is why your purchase of a .jpg monkey with an engrained set of characteristics and features (i.e., a complicated exchange) is generally going to have more expensive transaction fees than converting USDC into ETH (a relatively simple exchange). The best smart contracts are simple which in turn saves their buyers needless transaction fees. Developers could include all the terms and conditions that the parties to the transaction agreed to directly into the smart contract, but this would needlessly increase costs.

Don’t get me wrong; completely integrated smart contracts with full terms and conditions are coming. Especially for things like land sales, which currently use an antiquated recorder of deeds system to note who bought what when. But because virtually none of us can actually read a smart contract, even when that day comes, those terms will also need to be located elsewhere for non-tech savvy philistines like myself to read.

A Traditional Contract

A legally enforceable contract generally requires: (1) a valid offer; (2) acceptance of that offer; and (3) an exchange of consideration (i.e., goods, services, or money). Obviously, there are lots of nuances and exceptions (which is why you pay us lawyers so much), but those are the basic requirements that virtually every governing body agrees are necessary.

To be a valid offer, there must be sufficiently definite terms to create a “meeting of the minds” where both sides understand what is being bought and what is being sold. Example– saying “I’ll buy that thing off you for a few bucks” would likely not be a valid offer, while saying “I’ll buy that jacket you’re wearing for $50” likely would be.

So what is the offer and what are you accepting when you buy an NFT? There is the basic component which is the price in exchange for the NFT. You give me .08ETH, I give you a .jpg of a monkey recorded on the ETH blockchain. There are often also certain intellectual property rights which come with the .jpg. For example, Bored Ape Yacht Club and Cool Cats have differing intellectual property rights granted to their buyers. You can learn more about intellectual property rights in NFTs in my article on NFT Copyright Basics.

But what about the promises made by developers about future utility or value? As I stated in my Class Action article, these also may be a part of the offer you are accepting when you purchase an NFT. Certainly what is contained on a project’s “terms and conditions” are a part of the contract you are agreeing to, but additionally the project’s published roadmap and promises from the project founders in discord could be a part of the contract.

If you buy something on Amazon, and Amazon fails to deliver that product as promised, Amazon has breached its contract. Similarly, if you buy something from a developer and that developer fails to deliver what was promised, that developer has likely breached its contract.

As projects get bigger and more major players like Adidas and McDonalds enter the metaverse, courts will need to find a way to determine when traditional contracting rules (such as when a contract must be in writing and signed by both parties, who has authority to change contractual terms, and what contractual terms pass to subsequent purchasers) apply in Web3 scenarios.

Conclusion

What does this mean for you? It means when you are doing your own research into a project, consider not only the immediate economic details but also what exactly you are buying. If you see something which is important towards your purchasing decision (such as a promise in a roadmap or a claim by a founder in the discord) take a screen shot and preserve that on your computer somewhere. You never know when that may come in handy in the future.

If you have any questions, or would like me to cover anything in particular, reach out to me on either of my twitter pages. As always, I am an attorney, I am not your attorney. For legal advice, you should always consult (and pay for) an attorney.