Blockchain and the Future of Auditing

If you are still wondering what blockchain is and what it means for accountants, you are not alone.

Often considered synonymous with cryptocurrency, blockchain may actually open up accounting to the world of triple-entry accounting. This is something the profession has been working toward since the dawn of the internet. Now it is being made possible through blockchains.

Simply put, “blocks” on the blockchain are digital tokens (or digital receipts) of information. Blockchains mint new blocks of information in a decentralized manner, meaning transactions on a blockchain are verified in a more public manner, and a post to the “ledger” or blockchain must be verified by a list of third-parties before the transaction can go through.

In double-entry accounting, Company A has its books and records, its bank has its own books and records for Company A, and an accounting fi rm would spend hours making sure those two sets of books match. With triple-entry accounting, before even being posted on Company A’s books or its bank’s books, a third-party group of validators (“miners”) on the blockchain must agree that the transaction is valid. Th en the transaction gets posted to a ledger shared by Company A and its bank.

The auditors can then come in and review the books and records that the shared blockchain has compiled. Better yet, the audit firm shifts its business model entirely to focus on System and Organization Controls (SOC) audits of the third-party miners, spending little time on ensuring that transactions match and more time focusing on “why” these transactions went through.

This is audit utopia, and we remain far away from that. Everyone’s job is safe. However, in positioning ourselves as a profession that provides more advisory services, we must embrace this technology.

To further understand how triple-entry accounting is possible with companies running on blockchains, brush up on what mining is. This is where the value is and how you can be confident that the general ledger being posted to the public is correct and verifiable.

Not only does it make an auditor’s life easier, we also can start to have real-time financial reporting. XBRL-tagged financial statements could be updated every 15 minutes. This would save a lot of time and avoid a lot of fraud. It is difficult to commit a fraudulent public transaction when people can review your work every 15 minutes.

So, what does blockchain mean for audit firms? Really, only time will tell. You can, however, prepare for audit quality that will be improving as we scale these blockchains.

Two blockchains that may come to mind are Bitcoin and Ethereum. Bitcoin has emerged as the store of value for most digital assets, while Ethereum has emerged as the blockchain for innovation. But I suspect the first Fortune 500 company to have a financial statement audit successfully performed on a blockchain will use neither Bitcoin nor Ethereum. It has proven too difficult to scale either of these to be reliably useful for publicly traded companies.

Of course, Bitcoin’s blockchain was only created 10 years ago and Ethereum’s only 5 years ago. Thus, it is too early to tell if my prediction will prove right or wrong. Still, I think a more likely scenario is that there will be the equivalent of a Myspace-to-Facebook displacement that will accelerate the widespread adoption of blockchain for financial reporting.

Blockchain experts, Bitcoin enthusiasts, and most everyone in these circles are government-resistant. Generally speaking, the people in the blockchain world are aggressively free-market oriented and do not believe in reporting to the government. I have developed a successful practice that gently reminds entrepreneurs that certain governmental oversights are unavoidable currently. Their liquidity is heavily dependent on audits, as successful innovation requires trust. CPAs can help them navigate the financial oversights of which they are suspicious.

CPAs will have a decision to make about doing the right thing when it comes to financial reporting, tax reporting, and compliance for blockchain transactions. The right thing is to empower these new clients to become more cooperative with regulatory agencies; that is how blockchain and the cryptocurrency industry will have room to grow.

But much relies on the honest assessment of your abilities at your CPA firm. Will you outsource blockchain calculations to a service provider? How will you navigate which providers have SOC audits and which are reliable when it comes to reporting the performance of digital assets? CPAs need to answer these questions. They are not crossing the minds of many in the digital assets industry, mostly because they are relying on CPAs to be the experts in this area.