Accounting

Reconciling Blockchain Theory With Accounting Reality

FEI is working to undertand the impact of blockchain technlogy for senior-level financial executives. What are your thoughts?

Blockchain

The fervor around Bitcoin, cryptocurrencies and the underlying blockchain technology is hitting new highs and lows. Bitcoin’s value soared in 2017 from $1,000 to just under $20,000 before dropping down to around $13,000 before the new year. Seeing opportunity, companies are changing their entire business plans -- such as Long Island Iced Tea Corp. morphing into Long Blockchain Corp. -- to ride the valuation wave.

But despite the fervor of blockchain enthusiasts seeking to apply the technology to financial reporting and completely disrupting corporate disclosures, there are significant hurdles that sit at the core of modern accounting practice and audit methodology, says Joshua Coyne, assistant professor at the University of Memphis’ School of Accounting.

“The issue with blockchain is that people think, ‘It has the word ledger, ledgers are used in accounting, therefore blockchain plus ledger equals good accounting,’” Coyne says. “But that’s hype. When it comes to the blockchain, even though it's a novel technology I don't believe it's a novel technology for financial reporting.”

Accounting standard setters have the cryptocurrencies on their radar, if not the accounting implications of blockchain in particular. This past summer the Financial Accounting Standard Board (FASB) received a request from The Chamber of Digital Commerce to add a project around accounting for digital currencies to its Emerging Issues Task Force agenda.

“There is currently no authoritative literature under accounting principles generally accepted in the United States (U.S. GAAP), which specifically addresses the accounting for digital assets, including digital currencies,” the organization said in its agenda request to FASB, adding that the growing market requires “accounting guidance addressing the recognition, measurement, presentation, and disclosure of digital currencies and related transactions.”

A FASB spokesman said that the staff is currently performing research about accounting for cryptocurrency and will discuss the research with the Board at a future public board meeting.

Accounting Requires Trust, and That’s A Problem
While adopting a distributed ledger technology into modern financial reporting may seem like the next logical step, senior-level financial executives should realize that the structure of the audit and accounting under U.S. GAAP presents several issues.

First and foremost, according to Coyne, the distributed ledger system technology only recognizes a transaction if it’s accepted by all parties on blockchain and its recorded. Put simply, if a transaction is recorded in the ledger it exists, and if it’s not recorded in the ledger it does not exist. However, in modern accounting and financial reporting, transactions can live outside the ledger and still have an economic impact on an organization.

“Accounting is fundamentally different from blockchain because the idea is to capture real world events that live outside of the ledger,” Coyne says. “In blockchain everything exists inside the ledger and there are no real world events that live outside of that ledger.”

Coyne also argues that employing a distributed ledger in financial reporting assumes that all users have agreed to accounting treatments upfront, something that is unlikely given the constantly changing nature of finance.

“In financial reporting it's not just did this transaction occur, it's did this transaction occur and does the reporting of it satisfy GAAP or IFRS,” he says. “We have to be in a situation where all of the members of the network know enough accounting to be able to create consensus about that. We can't have average retail investors participating in this network because they would throw up their hands and say, ‘Well, I don't know accounting standards. I can't tell you whether this was correct.’”

For Coyne, and other financial reporting blockchain skeptics, it remains to be seen if it makes sense for financial leaders, standard setters and regulators to put more resources in to exploring the technology.

“I am always trying to push accounting more into IT and not less because I think that's extremely important for accounting students who are coming out and who need to change the profession,” he says. “I really struggle with it when it comes to blockchain.”