Diving into the rules, future and relationships of the digital market

Tony Holder

As crypto assets emerge and develop, so too are the ways government entities regulate them. Anthony Holder, an associate professor in the School of Accountancy, is studying the ways companies report cryptographic assets now—and how those practices could change. He shared some of his research with the Daniels Newsroom.

How are companies reporting cryptographic assets? Are there any current standards for them to follow? Do you see them as investments?

In general, the Financial Accounting Standards Board (FASB) sets the accounting standards for public and private companies in the U.S. Auditing standards for publicly traded companies are determined by the Public Company Accounting Oversight Board (PCAOB). The FASB and the PCAOB have not issued binding authoritative accounting requirements for accounting for and subsequently auditing cryptographic assets. 

However, several white papers published by various entities recommend accounting for cryptographic assets. The consensus seems to be that companies should recognize these as intangible assets. Nevertheless, accountants have used what I like to call “survival of the fittest” accounting, whereby the most robust accounting method is used to recognize cryptographic assets.

For example, a sovereign government does not back a cryptographic asset. Thus we wouldn’t classify cryptographic assets as “cash and cash equivalents” because they don’t fit the definition. Cryptographic assets are not cash, nor do they give the right to receive money. Therefore, we wouldn’t classify cryptographic assets as “financial instruments.” Finally, we wouldn’t classify cryptographic assets as “inventory,” as a cryptographic must be tangible. So, the category that we are left with intangible assets. 

However, the FASB notes that intangible assets lack physical substance and have an indefinite life. They exist “if no legal, regulatory, contractual, competitive, economic or other factors limit the intangible asset’s useful life.” An indefinite-life asset requires annual impairment testing unless events require testing earlier. In other words, if a cryptographic asset is recognized as an intangible asset, then whenever its valuation drops, companies have to try to see if an impairment exists. Given the volatility in many well-known cryptographic assets (i.e., Bitcoin), this can severely understate the balance sheet’s cryptographic assets.

Nevertheless, most companies record values as intangible assets. Given the intricacies, complexities and desire for secrecy inherent in cryptographic assets, I expected to find cryptographic assets listed as a critical audit matter on these companies’ financial statements. Critical audit matters (CAMs) arise from the current period audit of the financial statements that are communicated to the audit committee.

I didn’t observe any companies listing cryptographic assets as a CAM. An electric car company had invested over $1 billion in Bitcoin, but Bitcoin was not listed as a CAM. This is a surprising result, given that investments outside central business should be subject to additional scrutiny. Despite the issues above, a $1 billion investment would not be considered material.

What do you see as the future for cryptographic assets?  

I believe companies’ cryptographic assets will exponentially increase as technology evolves. Businesses are increasingly accepting cryptographic assets as payment or holding cryptographic assets as investments. These companies will find current accounting rules unacceptable for their transactions. Digital values will be everywhere in companies’ financial statements 5-10 years from now.

The demand for suitable cryptocurrency asset accounting rules will also presumably increase. We do not currently have an accounting rule that “fits.” We will have to create a new law that accounts for the various characteristics of this asset class. Along these lines, the FASB re-examined its priority projects after a 2021 “agenda consultation,” which netted more than 500 letters from companies, investors, academics and the like, offering opinions on matters from accounting rules on crypto to restrictions on climate-related transactions. Most of the letter writers suggested the FASB undertake a project to require or permit cryptographic assets with a “readily determinable fair value.”

Assets like Bitcoin are measured regularly at fair value, with realized and unrealized gains and losses recognized in the current period earnings. In general, these respondents commented that the current intangible asset rules do not reflect the economic nature of these assets or companies’ reasons for investing in them. However, the FASB noted that a large percentage of those respondents solely commenting expressed their views by reference to the comments of a “single U.S public company significantly invested in Bitcoin.”

Consequently, the FASB decided not to add a cryptographic assets project to its agenda—until May of this year, when it did so for the first time. On Oct. 12, the FASB released guidance indicating that it would require fair value accounting for some—but not all—cryptographic assets. 

Are there things you’d recommend so companies can get ahead now?

With the current accounting rules, lack of adequate internal controls and authoritative auditing guidance, I recommend that companies not invest in cryptographic assets.  

Any final thoughts?

Currently, ESG and cryptographic assets have an abundance of opportunities. Thus, I think these developments have led to the demand for a new type of accountant and auditor. Successful accountants and auditors will have a skill set at the intersection of accounting, auditing and a more technical analytic skillset.