Blockchain considerations for management and auditors

There is a lot for accountants and auditors to understand as distributed ledger technology (also known as blockchain) and digital currencies emerge.

First, members of the accounting profession are being challenged to gain a deep understanding of how the technology works. Second, as the use cases for blockchain multiply, accountants and auditors need to consider how the existing accounting and auditing rules relate to distributed ledger technology.

The technology capitalizes on a digital ledger of economic transactions that is a list of continuous records in blocks and has major implications for accountants and auditors because it provides significant transparency and is considered extremely difficult to corrupt.

Speakers at the AICPA Conference on Current SEC and PCAOB Developments on Monday in Washington explained the importance of the technology to the accounting profession and provided information for CPAs to consider.

“The word ‘ledger’ is a key indicator that this information probably has something to do with what we do,” said Julie Erhardt, an SEC deputy chief accountant. “If you haven’t spent any time trying to understand it, just the fact that it’s about a ledger and we’re the profession that’s the master of ledgers would suggest that it’s worth your time to understand it better.”

Kimberly Ellison-Taylor, CPA, CGMA, chairman of the AICPA, said at the conference that a world where all transactions for a company occur on the blockchain would enable auditors to verify large amounts of routine data automatically, allowing them to focus instead on more complex transactions and controls.

“While change can be daunting and the brave new world of technology is no exception, we must stand ready to embrace it,” Ellison-Taylor said. “Already, we are exploring how to use the blockchain to support core services of financial reporting, auditing, and tax.”

She said there is an immediate need to identify standards and regulations surrounding the use of this technology. SEC Chairman Jay Clayton offered a bit of clarity Monday with comments on cryptocurrencies.

“We have a number of regulated entities in our securities ecosystem that have requirements when people show up with cash,” Clayton said. “And when someone shows up with $100,000 in ether or $100,000 in bitcoin, or the equivalent value, and plunks it on your desk, your responsibilities about knowing your customer and other things like that are the same as if they plunked a bag of cash on your desk.”

The SEC also provided considerations for management related to distributed ledger technology:

• Maintain appropriate books and records — whether making use of distributed ledger technology or not — and maintain the necessary system of internal control over financial reporting on which the auditor will continue to report if required to do so.
• Consider what a “coin” is — as opposed to solely how it may be used — in determining how to account for any issuer participation in the “coin” aspect of a distributed ledger software program.
• Produce financial statements that reflect the facts and circumstances of any manner of claim — whether the claim is being referred to as being embodied in or represented by a “token” or not — in accordance with either U.S. GAAP or IFRS.

Meanwhile, the SEC said auditors should:

• Assess the application of the financial reporting framework used by the issuer in the preparation of its financial statements.
• Determine the nature of the audit procedures to perform based on the circumstances of the issuer and the assurance standards used. This would entail understanding and assessing the access to records, the validity of transactions recorded, and the integrity of the transaction records, as a starting point.

Erhardt acknowledged that it may be difficult for accountants and auditors to find the time to fully understand distributed ledger technology and the effect it will have on the profession. She said she understands that financial statement preparers, for example, are busy preparing financial reports and implementing a suite of new accounting standards.

Nonetheless, she said it’s important to find time.

“You need to go beyond just what does it do, the outputs,” she said. “You really need to get under the hood of digital innovation and understand what it is and why it works, not just what it produces or what it serves as.”

With a full understanding of the technology, the next step is to figure out how to apply the accounting and auditing model, Erhardt said. She said the technology will not change the fundamental responsibilities accountants and auditors have to investors and the capital markets.

“It may be fancy,” she said. “It may be complicated. It may be very innovative and cutting-edge. But we’re the human beings here. And so I think in the end we prevail, and therefore the fundamentals of our accounting and auditing model, you need to apply them even though at first glance it may look like it is revenge of the technology.”

—Ken Tysiac (Kenneth.Tysiac@aicpa-cima.com) is a JofA editorial director.