Crypto Accounting Rules Could Make for Messy Financial Statements

For any job seekers who are familiar with cryptocurrencies, the Securities and Exchange Commission is hiring. The agency announced earlier this month that it has added 20 new positions to the Crypto Assets and Cyber Unit in its Division of Enforcement, nearly doubling the size of the squad responsible for protecting investors in the crypto markets. Considering the recent downturn in crypto investments, it seems fair to ask how much of a market will be around for them to regulate.

A broad-based drop in prices earlier this month erased more than $300 billion from the crypto market in the span of days. Meanwhile, developments like a crash in the value of stablecoin TerraUSD and upheaval at crypto exchange Coinbase Global appear to be shaking investors’ confidence in the sector. Those investors include publicly traded companies with exposure to the crypto market, and a survey of issuers’ filings with the SEC illustrates why the fallout for them may be murky.

As witnessed in the case of digital payments platform PayPal Holdings Inc., the issues at play are straightforward for companies charged with safeguarding users’ digital assets. According to SEC guidance issued in March, such reporting entities must record the related assets and liabilities based on fair value of the digital assets.

The situation is trickier for companies that invest in crypto. At issue are the accounting rules for investments in digital assets. Specifically, generally accepted accounting principles (GAAP) don’t mention them. The uncertainties around the rules surfaced earlier this year in a ruling involving the accounting practices of MicroStrategy Inc., which had a digital assets portfolio valued at about $3.75 billion at the close of last year. Essentially, the SEC slapped down MicroStrategy’s efforts to massage out the impact of bitcoin’s price volatility on the company’s income in its earnings statement for the third quarter of 2021.

So how are companies supposed to treat investments in digital tokens when it comes to publishing their financial statements? Conventional wisdom has apparently settled on proceeding as though crypto assets are “indefinite-lived intangible assets” for reporting purposes. As such, accounting rules dictate issuers recognize impairment charges for decreases in the fair value of digital assets below their carrying values. On the other hand, until digital assets are sold, accounting rules prohibit positive revisions for price increases in their valuations.

With stakeholders like MicroStrategy lobbying for more clarity in the accounting rules for digital assets, messaging app maker DatChat Inc. made sure to express its misgivings about the current treatment in its latest quarterly report. Even though it “does not appropriately reflect the economics associated with digital currencies,” the New Jersey-based company indicated guidance on intangible assets from the Financial Accounting Standards Board was the best it could do at the moment.

Just how messy could the current accounting treatment get for a company? Consider the situation at Tesla, which addressed the potential problems in a 10-Q issued last month. The electric vehicle manufacturer made a high-profile play on crypto in 2021 by investing $1.5 billion in bitcoin, a call that raked in paper profits for the company as the prices of digital assets soared.

Now that crypto has crashed, Tesla’s entire bitcoin trade may be underwater. As if Elon Musk didn’t have enough on his plate already.