A recent report published by the UK government’s chief scientific adviser referred to the development of an EU-wide series of VAT standards and protocols enabling distributed ledger technologies to be deployed across Europe, with unilateral alignment of all VAT accounting transactions from invoices to bank receipts.
However, potential applications for distributed ledger or blockchain extend far beyond VAT transactions.
Since distributed ledgers enable all individuals to have a common, real-time view of transactions and ledger entries, they will enable better auditability and view of the history of all transactions, explains Cliff Evans, head of digital banking and capital markets at Capgemini Financial Services.
A public ledger can sit between multiple organizations, allowing common visibility of transactions and services, he says, adding: “Having a common view removes the need for transferring data between organizations, and through the use of smart contracts it could allow pre-programmed reconciliations and automated triggering of transactions and audit events.”
Smart contracts are self-executing computable contracts that verify whether their own conditions have been met. They are able to securely hold value and reliably release payment because they have been made tamper-proof through storage and/or execution on a decentralized infrastructure.
A common view and permanent archive would allow for more trust in the transactions and less need for testing, says Evans, adding that, with the right tools, early warning of issues such as cash flow or operational problems could be developed.
According to Katie Houldsworth, audit partner and head of innovation for audit at risk advisory Deloitte UK, one of the main benefits of blockchain accounting is a reduction in the need for separate parties to both validate a transaction.
“For example, in a supplier statement reconciliation a company would currently receive a supplier statement, which might be different to what is recorded on the company’s ledger because of goods in transit, credit or debit notes,” she explains.
“On the blockchain, each of those movements is recorded and so both parties would instantly be able to see the status of their reconciliation, which should simplify back-office processes and reduce settlement risk.”
For stakeholders, the technology facilitates data-flow management from the business that they are interested in knowing more about because they will have access to real-time financial reporting.
This means there is a real reduction in the risk that something might be done behind closed doors because what is happening on a day-to-day basis will be accessible and enterprises can be held to account on a real-time basis by their stakeholders.
'Good news' for regulators
Ethereum is one decentralized platform that runs smart contracts on a custom-built blockchain.
Director George Hallam observes that while guaranteeing transparency of data within an organization reduces the need for third parties to cross-check it, when audits are required any accounting records entered and tracked on the blockchain are not alterable, even by the owners of the accounting system.
“This is good news for regulators as it reduces the need for auditing resources and guarantees the integrity of financial records,” says Jeff Ward, co-founder of Balanc3, a triple-entry accountancy company based in New York that uses Ethereum for its accountancy software.
Companies benefit from real-time settlement of transactions, increased transparency and integrity, and reduced costs associated with auditing accounts, adds Ethereum’s Hallam.
“A company using a distributed ledger for its accountancy system – which plugs directly into any transactions and smart contracts executed within the blockchain – would potentially have a much lower error rate in regard to transaction testing as transactions within the chain are final once sent and exist on the chain forever,” he says.
This is why triple-entry accounting works well on blockchains – if something doesn’t add up between two books, there is the trusted third record on a ledger that has no possibility of downtime, fraud or third-party interference.
However, it is worth noting that if information is being entered from a source outside of the blockchain, one still has to trust the organization that is providing that information. For analytical reviews, though, relationships among accounts/material changes are easy to quantify due to the systems transparency, thus reducing the effort and cost required.
Balanc3’s Ward is convinced real-time transactional reporting will improve consumer and stakeholder trust.
He refers to same-day settlement as a game-changer for businesses of all sizes and describes invoices generated by smart contracts that will automatically process and record payments in real time as a “dream come true” for businesses.