At a recent Information Technology Alliance (ITA) Conference, a gathering of mid-market technology professionals, I was lucky enough to hear a presentation by Gary Golden, a Futurist. He spoke a good bit about foresight and trends, particularly business and technology trends, but he left us with one last, and it seemed, very important concept - "blockchains."
You've probably heard the term in reference to the software and infrastructure on which bitcoins are created and traded. This post is not, however, about bitcoins. It's about the concept that supports bitcoins and other cryptocurrencies before it: the notion of a public, replicated, shared ledger.
Having had the concept, albeit a very basic understanding of it (an understanding that I can't claim has grown much!) planted in my mind by Gary Golden, I then read this article by Richard Gendal Brown, Executive Architect for Banking Innovation at IBM UK. Brown is also an advisor to companies in the crypto and decentralized currency space. His article, How to Explain the Value of Replicated, Shared Ledgers, turned out to be high-level enough to make sense to me, and I hope that you might find it as interesting as I did.
Brown illustrates the concept of replicated, shared ledgers with an example of two banking customers and three banks. With the customers having accounts across the three banks, as well as the banks owing each other money, he points out the complexity of having matching entries in the ledgers of all five actors in his example. It's not hard to see how much trust and, indeed, effort is required in order to maintain accurate data in all the disparate financial ledgers in the world. Throw in securities and derivatives markets and the magnitude increases even more dramatically.
Brown then points out both how convenient and completely impossible it would be to have one centralized ledger in the hands of one organization or regulating body. Records would all be in one place, as would the Achilles heel of the entire global financial system. But what if the blockchain technology behind digital currencies like bitcoin could be used to replicate the entire ledger of all financial transactions? The master ledger could be distributed to all financial institutions or even, in theory, everyone who participates in transactions, making everyone responsible for the accuracy of the records all at once. Anyone who tries to cheat could quickly be discovered when the records no longer match, and it would be clear who did the cheating.
This is all theoretical, at least in Brown's article it is, but companies like Hyperledger, whose blog Brown contributes to, are working to make this scenario a reality. They are also working to incorporate "smart contracts," or business logic that can exist within the replicated code that automatically manages cash flows, margin requirements, etc. If not implemented worldwide, could the distributed, replicated, and shared ledger concept be made use of across smaller networks, and not just for financial transactions?
In addition to being mostly outside the scope of my understanding, this also seems to be on the cutting edge of technology and financial innovation!
From a Finance and Accounting Perspective
But how does this apply to the real world? The move to the cloud for accounting and financial management systems has taken us a small step towards the notion of at least a centralized, if not distributed, ledger model. Instead of individual records stored locally or within a local network, we are seeing more and more companies move their financial data to one system of record in the cloud. This means that within an organization, there is only one ledger or database for each piece of data. Users are logged into the system when they make changes to it, and therefore there can be no errors from one user to the next.
The open APIs of best-in-class solution providers take this a step further, allowing data to flow or sync between different systems. This allows for credit card payment or banking information to automatically be reflected in the accounting system. It theoretically could allow companies or banks who regularly do business with one another to automatically reflect certain transactions in each system, effectively "distributing" data.
Roger Willis of Triplentry is working on the next step in finance and accounting innovation, and how distributed ledger technology might be applied in the real world. In a blog post entitled Distributed Accounting Ledgers, he points out that those immersed in the world of bitcoin might have a limited understanding of how different accounting is from "issuing tokens and regulating their transfer." He writes:
"I’m not suggesting that companies ditch their locally maintained ledgers and start recording everything on a blockchain. Distributed ledgers are not appropriate for the majority of accounting workflows, however they do have a place."
Willis explains that distributing or replicating much of what we might find in a company accounting ledger doesn't make sense. There are, however, transactional journals that could be distributed, while the rest of a company's accounting should remain in a cloud-based "private" or company-centric ledger. These transactional journals could contain information about cash, invoices, and shares. Some transactional entries in "private" ledgers would then simply point to these replicated shared ledgers. He goes on to predict:
"The distributed ledgers store digitally signed receipts. The receipt is the transaction."
This means that each transaction would automatically be reflected in the distributed ledger. Local or company data that points to the shared ledger would also be updated automatically. The transactions and the accounting of those transactions would essentially be the same event.
So we've seen the argument for a distributed, replicated, shared ledger from the high level perspective of someone working in the cryptocurrency industry, and we've also heard from someone with an auditing and accounting background who explains how the concept might look to a company's finance and accounting department. We're still talking mostly theory here, but sometimes it's nice to feel like we're on the cutting edge of where finance and accounting might be headed. Thanks for reading!