For a commodity that is less than ten years old – the first bitcoin was mined as recently as 2009 – the market for cryptocurrencies has been volatile, with wild periods of growth followed by sudden slumps. Nevertheless, the underlying trends are upwards. In April this year, the total market capitalisation for all cryptocurrencies was US $25 billion; two months later that figure had grown to over US $100 billion. There are now over 900 cryptocurrencies available on the internet.
It looks like then that cryptocurrencies are here to stay, but will continue to suffer peaks and troughs in value before markets mature in understanding and transparency. Bitcoin, for example, hit an all-time high over the weekend of US $5,000 a coin, but has since fallen back quite sharply after the Chinese Central Bank announced a ban on organisations raising funds using initial coin offerings (ICOs), which they deem as illegal fundraising. Although this announcement does not affect bitcoin directly, it did inspire negative market sentiment against the virtual currency sector, causing traded prices to drop.
Many experts expect, however, that this is a short-term issue, and the underlying trend for bitcoin is up. In part this is because of its very nature. One of the features of bitcoin is that there is a finite number of them – 21 million – a figure derived from the assumption that people would “mine” (discover) a set number of transaction blocks daily. Every four years, a new cycle of bitcoin is released, which is half that issued during the previous cycle, as does the reward which miners get for discovering new blocks.
This means bitcoin is never subject to inflation – you cannot dilute its buying power by creating more because there is no more available once the 21 million have been released. It is estimated that 94% of all bitcoin will be released by 2024, and that the total supply of 21 million will have been mined by 2140.
One of the areas which is struggling to catch-up with cryptocurrencies is accounting, where governing bodies have yet to provide any definitive guidance on how to account for holdings of bitcoins, or other cryptocurrencies, or transactions denominated in them. In part, this may be due to confusion as to what they are in nature.
Although they are talked about as currencies, some leading economists claim it should not be regarded as cash or an equivalent, because of its inherent price instability, and limitation on the number of transactions that can be traded each day, due to the process of protecting the security of its blockchain. Moves to change the way that transactions are processed have met resistance from those in the bitcoin community who wish to preserve its anonymity and traceability.
And, at a more atavistic level, cryptocurrencies are digital, virtual in nature. You cannot handle a digital coin like you can with one in your pocket or purse.
If treating them as cash or cash equivalents is not suitable, then the alternative is probably to treat holdings as some form of asset. Again there is some resistance from investors and economists to treat a cryptocurrency as a financial asset – one that is held for long-term growth in value – because of its extreme volatility to date. Perhaps the closest approximation then is to treat bitcoin or another virtual currency in the same way that gold or any other commodity is currently classified in financial statements. This would mean that holdings of bitcoin, or the equivalent, would be classified as either inventory or intangible assets.
For businesses that happened to hold a virtual currency or to trade in them as part of its business, this means that the holding would need to be measured at either purchase price or fair value of the goods or services provided at the time of transaction. However, for a virtual currency trader, it would make more sense to measure its digital holdings at fair value through the profit and loss account.
The fact that there is no official accounting guidance yet on how to value cryptocurrencies and transactions denominated in them suggests that regulators and governing bodies are still coming to grips with the issue. However, despite the volatility and negative connotations which are sometimes attached to them, bitcoin and the many other digital currencies now available show no sign of going away, and the recent news that major banks are collaborating in creating their own virtual coinage, shows they are now becoming mainstream. The accounting profession will need to catch up.