Between family members at Thanksgiving and former colleagues at a recent holiday party, I’ve had several conversations that sound like this:

*Meaningless small talk*

*Transition*

“Can you believe all this FTX stuff? So, when will you give up the charade and ditch crypto?”

Thank goodness SBF finally got arrested yesterday. Now, we can stop talking about SBF and FTX and get back to why we’re here in the first place.

If you aren’t sure why you’re here, this issue may help.

“Calc”-you-later,

Trevor

P.S. Welcome to our thirty-six (36) new subscribers! Since this is entry “007,” you get a special treat.

Come for the Speculation. Stay for the Innovation.

I was first introduced to blockchain and cryptocurrency when a brilliant former colleague recommended I read The Bitcoin Standard by Saifedean Ammous. I was immediately intrigued by the idea of a decentralized, censorship-resistant, scarce form of money.

Without realizing it then, perhaps I was even more fascinated by Bitcoin’s underlying technology; blockchain opened up a new realm of possibilities.

We could now transmit value across the web – free from the facilitation of a central intermediary. I plunged deeper into the rabbit hole with insatiable curiosity. I discovered that blockchain technology wasn’t limited to storing, transmitting, and validating economic value but was also capable of storing self-executing software programs. In other words, we made money programmable. Smart contracts allow us to securely transact and interact at light speed under pre-defined transparent terms.

When you combine blockchain technology with smart contracts, you get innovations like decentralized finance (DeFi). DeFi completely revolutionizes financial services; we can now do everything we’d use a bank for – without the bank. We can borrow, lend, invest, save, trade, and exchange free from privacy-compromising KYCs, outrageous fees, 2-3 business day wait times, and doubts about where our money goes once we deposit it.

What could DeFi do for the 1.7 billion people that don’t have access to a bank account? What about the $650B in global annual remittances with an average cost of 6%?

NFTs came onto the scene in 2021, only to be quickly dismissed by many as “overpriced monkey JPEGs.” As it turns out, most of them were just that, but the technology poses an exciting opportunity: the chance to break up the big tech oligopoly that exists today. To quote U.S. Congressman Ritchie Torres,

“You know something is profoundly wrong with our economy when Big Tech has a higher take rate than the mafia.”

Imagine if creators and entrepreneurs only had to give up 2% of their earnings rather than 30% (Apple), 45% (YouTube), or 100% (Facebook, Twitter, Instagram, LinkedIn)?

I could ramble on about Decentralized Autonomous Organizations and their potential to replace traditional companies or about zkSNARKS’ power to preserve privacy. Instead, I’ll return to my original point: why do I stick around web3?

Did the FTX crash occur because these technologies failed? No. Have any of them stopped functioning since then? No. FTX was a good old-fashioned traditional finance failure. SBF is a classic fraudster – cut from the same cloth as Madoff and Ponzi.

This mess with FTX should be pushing us towards trustless blockchain and smart contract technology, not away from it. That’s why I’m still here. On a more personal note, I’m here to educate professionals like yourself on the technologies of web3 and what they mean for accounting and finance. So let’s keep learning!

Bad News for Binance

Now, please allow me to get off my soapbox to get into the nitty-gritty. Between our last issue of Triple Entry and a LinkedIn Live event two weeks ago, we’ve been talking a lot about proof of reserves (PoR). If it feels like too much, sorry, not sorry, because this is like a crypto accountant’s Super Bowl.

In an ironic turn of events, Binance, the company that called FTX’s bluff, came under intense scrutiny this week for the proof of reserves report it published last week. According to data from blockchain intelligence platform Nansen, net outflows from the exchange hit $902 million in the past 24 hours.

For those who aren’t familiar, Binance is the largest crypto exchange in the world, so it’d be terrible if it turned out to be insolvent. That said, I tread lightly here so as not to take too strong of a stance based on limited information. I’ll present the facts and let you come to your own conclusions.

Agreed-Upon Procedures

You may see this headline bouncing around Twitter:

“BREAKING: Binance’s Alleged Crypto Audit Failed, Not Even Its Auditor Would Vouch For It.”

As far as I can tell, the only evidence to substantiate this claim is a line taken out of context from audit firm Mazers’ report:

“This AUP engagement is not an assurance engagement. Accordingly, we do not express an opinion or an assurance conclusion.”

The language here is pretty standard because an agreed-upon procedure is not an audit. Audit rules specifically state that the practitioner does “not perform an examination or a review…and does not provide an opinion or negative assurance.”

In other words, there’s nothing shady going on, given the scope of the review, but is the scope of the review enough to provide any assurance that Binance is solvent? A full financial statement audit that also addresses the effectiveness of internal controls would’ve been ideal.

What’s in Your Wallet?

One procedure used frequently in proof-of-reserve audits requires the custodian to move funds from wallets it claims it owns. In the process, the client cryptographically “signs” the transaction with its private key, proving that they control the wallet. It would be similar to the postal service asking you to prove that you own slot #20 of your community mailbox. You could easily prove this by opening the mailbox with your key.

What’s weird is that Mazars performed the “instructed movement of funds” procedure on some balances, but used a less-kosher one on others.

“The procedure relating to the ETH and BSC addresses that were searched were not subjected to “instructed movement of funds”, but only verified on Etherscan and BSCscan as being “tagged”.”

What’s this “tagging” business? In our mailbox equivalent, that’s the equivalent of slapping a nametag sticker on it.

Assets – (Blank) = Equity

I can’t tell you how many times I’ve had this equation beaten into my thick skull. You can’t get a great feel for a company’s solvency without looking at assets and liabilities. The assets portion of Binance’s PoR report seems to check out mostly. Still, the liabilities portion is a little weak:

“Based on management’s explanation of the various parameters we ensured that the logic and the parameters are designed to extract a complete and accurate listing of client liability balances.”

In other words, “management told us how they run an internal report to pull client liability balances from an internal database, and based on what they told us, they did it right.”

If I had to nitpick one last thing, it would be that Binance included negative balances in its calculation of customer liabilities. Best practices say you exclude these balances to avoid artificially deflating your liabilities. Binance claims that it included these negative balances to account for funds owed to Binance from customers using their margin and loan products. This could be true, but it’s all based on an assertion made by management, which we should take with a grain of salt.

To Make Matters Worse

To make matters worse, Reuters broke a condemning story Monday morning claiming that the U.S. Justice Department is toying with the idea of bringing criminal charges against Binance and its executives for violations of anti-money laundering laws.

I’m usually not one for conspiracy theories, but this is starting to feel like a coordinated attack against the crypto industry. At least SBF is behind bars!

The Water Cooler

Things worth talking about at the office water cooler…if you 1) talk to people, 2) still work in an office, and 3) have a water cooler.

Other Significant Findings

Big Brands Still Bullish on NFTs (Because They Didn’t Dive In Too Fast)

• Starbucks takes the plunge into NFTs. For a limited group of beta testers, there are new perks beyond the caffeinated jolt from their morning peppermint latte. The unofficial office space of every remote worker has expanded their existing loyalty program into web3 with Starbucks Odyssey. If you’re wondering how we get from “Starbucks Rewards” to “Starbucks Odyssey,” it’s all about the journey. Specifically, the customer journey across the Starbucks brand (points earned from purchases help earn “coffee-themed NFTs that translate to real-world experiences,” although they’re calling them “Journey Stamps” instead of NFTs). We can’t help but also notice that the name applies just as well to the coffee giant’s own “odyssey” into web3.
• Speaking of NFTs, Franklin Templeton is getting in on the action…or at least “exploring use cases.” What is one of the world’s largest asset-managers doing in this space? Simply put, they recognize the utility of the technology beyond Bored Apes. The mainstream association of NFTs with art is well known, but you know what else is a unique, non-fungible asset? Loans and property titles. That’s where these folks see this going.

Featured Funding Find: Bitwave Closes Series A

As of December 6th – Crypto accounting and compliance platform Bitwave closed a $15m Series A led by Hack VC and Blockchain Capital, with participation from other funds including SignalFire.

Why we noticed this:

Bitwave is well-positioned in the current conversation around transparency in the industry, especially concerning third-party audits, proof of liabilities, and proof of reserves (case in point: co-founder Pat White dropped in on our aforementioned War Room discussion on the topic earlier this month). In their own words, Bitwave is “designed to manage the intersection of cryptocurrency tax, accounting, and compliance.” To put it differently: Bitwave eats all of this stuff for breakfast.

The FTX collapse will likely catalyze an exodus from centralized exchanges to DeFi, and DeFi accounting is well-within Bitwave’s wheelhouse. Additionally, though it’s definitely winter for North Dakotans, Canadian geese, and retail crypto investors, enterprise-level adoption of crypto and digital assets continues to look bullish. For Bitwave, serving more enterprise customers than retail, this is good news.

This round of funding will help build out Bitwave Institutional, a new product for enterprise customers like custodians and exchanges who typically face more complex accounting scenarios. This round follows remarkable market traction with leading digital asset native and Fortune 500 customers such as OpenSea, Compound, and Polygon.

Extraordinary Items

Still not sure what to say to your friends and relatives over the holidays? Try this out.