Boards adapt their thinking as blockchain technology affects the audit

Jan 20, 2020

Blockchain technology—still in its nascent stages—promises to transform how companies are audited in tremendous ways. As companies adopt the technology platform to improve their processes, the nature of blockchain simultaneously offers the audit process greater accuracy, transparency, and ease.

A blockchain is a ledger where transactions and data are pseudo-anonymously recorded and confirmed. It is a record of events that multiple parties share. Information written to a blockchain cannot be reversed; an entity can only append more data. At its core, blockchain technology is an encrypted digital accounting system.

Blockchain is frequently associated with cryptocurrency, but its uses extend far beyond that. Industries are already exploring blockchain to enhance their processes and increase safety and reliability. In aviation, manufacturers can track a part from creation to implementation, ensuring it meets Federal Aviation Administration standards and preventing counterfeit parts from entering the system. In retail, a coalition of food giants aims to use a blockchain to maintain secure digital records and improve the traceability of their food products at any point along the supply chain.

With blockchain technology added to these processes, one can see how the behind-the-scenes workings of an audit would dramatically evolve. Auditors will need to learn the workings of a blockchain’s mechanisms to be able to evaluate the reliability of its data as well as the data’s susceptibility to manipulation. Could an unauthorized transaction occur? What control processes does the client have in place to assure accurate data entry in its blockchain? Are all of a client’s digital assets accounted for in their records and books? And how are a client’s digital assets being accurately translated and converted to a currency’s value for reporting?

For all of these questions, future certified public accountants may need to understand the oversight, design, and tuning of the automation of accounting, audit, and tax. Service auditors will need to assess enterprise blockchain platforms. Auditors will need to understand the details of smart contracts and data input accuracy. Financial arbitrators of smart contracts may act as escrow agents. As blockchain proliferates throughout the supply chain, the use of software layers on top of blockchains could become another important tool for external auditors.

One of the most radical changes blockchain could elicit in audit comes from the fact that blockchain has the ability to record the supporting documentation, authorizations, and journal entries, and execute the value transfer for both parties of a transaction, all in real time. This will require a fundamental shift in how we think about auditing—from a retrospective effort to ongoing, real-time monitoring. The underlying foundations of audit and internal control become part of the nature of each transaction. This is a big deal.

Using blockchain technology to improve a process, change the dynamics of a supply chain, or reduce the friction of a financial transaction has long-term benefits for businesses. Both internal and external auditors need to think about how blockchain will change the audit process, and businesses need to think about how to implement this technology in a manner that will continue to provide a proper audit trail.

Since blockchain and digital assets are disruptors to traditional technology platforms, being prepared and informed about how they will affect the organizations on whose boards you sit is imperative. For audit committees, when considering the implementation of blockchain technology, it is important to develop a strategy with executive leadership and consider the following: compliance and regulatory implications and concerns; how blockchain data may impact the financial statement or other key data metrics; and of course, how best to institute the appropriate procedures and processes.

Article originally appeared in NACD's Directorship magazine January/February 2020 issue.

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