Although cryptocurrency was invented in 2009, it has quickly become a prominent currency for transacting business and purchasing goods and services. The widespread adoption of cryptocurrency in recent years has encouraged many corporations to begin adopting digital assets. For example, 75% of retailers plan to accept crypto payments in the next 2 years.
While businesses enjoy many benefits by accepting crypto, corporate treasurers and managers have had to adapt to a more complex fiscal and regulatory environment. In this article, we will detail the main aspects of crypto treasury management as well as the primary challenges treasurers and managers face going forward.
How is crypto treasury management different from traditional treasury management?
Traditional treasury management and crypto treasury management are different in several ways. For most companies, the collection and storage processes used for traditional currency and assets are separate and distinct from those used for crypto. This means that when traditional currency is used to pay for goods or services, the company in question collects and stores those assets differently than it would when cryptocurrency is used to pay for the same goods or services.
In addition, traditional currency and cryptocurrency are not considered to be within the same asset class. As a result, the accounting practices vary between the two types of currency. Moreover, the regulations governing traditional assets are well-established, while those governing cryptocurrency are incomplete and evolving rapidly. And finally, crypto assets are more volatile than traditional assets and often require businesses to put processes in place to manage risk.
Crypto Treasury Management Example: Crypto As A Form Of Payment
In recent years, cryptocurrency has increased in popularity and general usage throughout the economy. In fact, “the vast majority of U.S. adults have heard at least a little about cryptocurrencies like Bitcoin or Ether, and 16% say they personally have invested in, traded or otherwise used one.” As a result, more and more businesses have started accepting crypto as a form of payment. Recent research suggests that over 15,000 businesses currently accept crypto as a form of payment, including big names such as Microsoft, Home Depot, Starbucks, Paypal, Whole Foods, Etsy, Restaurant Brands International (Burger King and Tim Hortons), and Yum Brands (Kentucky Fried Chicken, Taco Bell, and Pizza Hut). Companies competing for customers must adapt to shifts in the economy. But to begin accepting crypto, management teams must first decide how they will collect and store crypto once it has been used for payment. Typically, companies choose either the agent model or the direct model for collecting and storing crypto.
The Agent Model
Under the agent model, the business hires a third-party agent to collect and hold crypto payments. This system works in much the same way as a traditional escrow account. “Once a client or customer pays the company using crypto, the agent then collects the cryptocurrency, holding the private key on behalf of the organization…They (the business) can keep the crypto position in the hands of the agent, or alternatively, they can request that the agent convert the crypto to USD or another fiat currency and then transfer the funds to a preferred bank account.”
For many companies, the agent model is favored because it does not require them to build out the processes and teams necessary to handle crypto payments directly.
The Direct Model
Unlike the agent model, there is no third-party agent involved in the crypto collection and storage process when using the direct model. Instead, the business in question collects and holds the cryptocurrency itself. Typically, the company also manages its own private keys. The company is a “...participant with their own wallet and accepts the crypto directly from the remitter. A remitter can be an individual, a wallet provider, the exchange, or the custodian of the remitter.
This approach requires a certain level of accounting and treasury expertise, especially if the company has chosen to hold crypto on its balance sheet.” Once it is collected, the company may decide to convert the crypto to fiat currency.
Three Key Challenges Of Crypto Treasury Management
As mentioned previously, many companies choose the agency model as part of their treasury management strategy. They prefer this strategy primarily because it avoids many challenges inherent in the direct model. Because the agent collects crypto payments and converts them to fiat currency, the company does not have to manage the crypto collection and storage process. Companies that choose to maintain complete control of their crypto assets must overcome accounting, regulatory, and liquidity challenges.
As mentioned previously, many companies choose the agency model as part of their treasury management strategy. They prefer this strategy primarily because it avoids many challenges inherent in the direct model. Because the agent collects crypto payments and converts them to fiat currency, the company does not have to manage the crypto collection and storage process. Companies that choose to maintain complete control of their crypto assets must overcome accounting, regulatory, and liquidity challenges.
1. Accounting
Companies that choose the direct model typically keep crypto assets as ‘Current Assets’ or ‘Long Term Assets’ and, therefore, must include those assets on their balance sheet. Unfortunately, the accounting of crypto assets is a complex process. There are no generally accepted accounting standards for crypto assets at present (but that’s changing). However, most accountants agree that crypto should not be considered a “cash or cash equivalent.” Instead, crypto should be treated as an intangible asset. As an intangible asset, crypto should be marked down to its lowest value over a given time and not marked up until it is sold. Note: This is recognizing impairment loss and not marked up is the current position under US GAAP only, not under IFRS. FASB is addressing this with the FMV approach soon
2. Regulation
There are very few regulations currently governing cryptocurrencies. This is largely due to the fact that cryptocurrency was created specifically to promote decentralization or economic freedom. However, recent events like the FTX collapse suggest that the government regulation of crypto is just around the corner. Companies that choose to keep crypto assets on their books will have to adapt quickly to changes in the crypto landscape once regulations get defined.
3. Liquidity
The liquidity challenges surrounding crypto treasury management are not necessarily related to the corporate treasuries themselves but rather the cryptocurrency exchanges and tokens. As the recent FTX and Terra collapse demonstrates, many existing crypto exchanges and stablecoins do not maintain sufficient liquidity or diversification. Most of their assets are held in their native token. Any significant sale of the native token by the exchange or coin forces the price of the native token downward. Large downward movements in price can spark panic selling, especially in the case of stablecoins. The panic selling pushes the price down further and faster and often leads to a collapse. Corporate treasuries holding the cryptocurrency will suffer a significant loss along with all other coin holders. Dealing with this risk of collapse will continue to be a significant challenge for treasury managers going forward.
Four Key Aspects Of Crypto Treasury Management
When it comes to corporate treasuries, managing risk is the primary objective. In fact, “Traditional corporate treasury teams are legally required to manage risk in their portfolios to ensure that day-to-day operations of the company can be met.” There is no rational reason why crypto treasuries should operate differently. The recent FTX and Tether experience, along with the volatility in the crypto market, suggest that managing risk should be even more important to crypto treasury managers than it is to their traditional counterparts. The four pillars of treasury management are instructive in this regard and can help crypto treasury managers allocate assets safely and effectively.
1. Governance
Governance is an often overlooked subject in the crypto space but can be an essential component of risk management. Many tokens come with voting rights that operate much like how company stock works in this respect. “The idea is that token-holders, by right of their ownership, have a say in the fortunes of a particular network's technological progress.” As a result, treasury managers should investigate who has voting rights in the crypto assets they hold to determine whether those crypto holders are trustworthy. In addition, treasury managers should generally avoid holding crypto assets that have a so-called “whale voter” who has enough crypto to control all voting. However, the whale voter scenario cannot be avoided in some instances. In this case, managers should ensure that the whale voter is capable, trustworthy, and well-intentioned before investing.
2. Liquidity
Liquidity concerns in the crypto treasury world are two-fold. The first issue involves the liquidity of exchanges and tokens discussed above. The second concern involves the liquidity of assets held in the treasury. While crypto is typically a highly liquid asset, treasuries must maintain effective procedures with regard to the storage and recording of private keys for crypto to maintain its liquidity. In the past, there has been a significant diminishment of liquidity simply because private keys are lost or are difficult or time-consuming to access.
3. Cash Flow
Like traditional treasuries, crypto treasuries need cash flow to cover operational expenditures. Although crypto investing does not produce yield on its own, there are ways to produce cash flow using crypto assets. For example, crypto treasuries can stake their crypto and benefit from rewards. Staking rewards can be re-invested or converted to fiat currency and used to cover operating expenses. Similarly, crypto treasuries can lend out some of their crypto and receive interest in return. While these are good options for producing yield, crypto treasuries must be sure to limit risk and balance the need for cash flow with the need to maintain sufficient liquidity.
4. Diversification
Asset diversification is essential to the health and longevity of every crypto treasury, especially considering the current risk and volatility in the crypto market. As a result, treasury managers should ensure that their crypto assets are not overly concentrated. Managers should spread their crypto assets across several different exchanges and tokens to limit downside risk. By doing so, treasuries can avoid catastrophic losses in the event of an exchange or token collapse.
Track Your Digital Assets And Cryptocurrency Holdings With Bitwave
Crypto treasuries can limit risk and create great returns by adhering to the foundational principles of effective treasury management. But managers will also need a place to organize their accounting and tax processes and track all of their crypto holdings. That’s where Bitwave comes in!
Contact us to learn more about how we can help you achieve your crypto treasury goals.
Disclaimer: The information provided in this blog post is for general informational purposes only and should not be construed as tax, accounting, or financial advice. The content is not intended to address the specific needs of any individual or organization, and readers are encouraged to consult with a qualified tax, accounting, or financial professional before making any decisions based on the information provided. The author and the publisher of this blog post disclaim any liability, loss, or risk incurred as a consequence, directly or indirectly, of the use or application of any of the contents herein.
