• The U.S. Securities and Exchange Commission (SEC) has warned investors to be wary of crypto companies’ claims of proof-of-reserves audits.
• Paul Munter, the SEC’s acting chief accountant, has stated that investors should not place too much confidence in these audits as they do not provide enough information to assess whether a company has sufficient assets.
• Recent controversy with Binance’s proof-of-reserves audit has led to audit firm Mazars suspending all work with crypto clients, including Binance, KuCoin, and Crypto.com
The United States Securities and Exchange Commission (SEC) has recently issued a warning to investors about the validity of “proof-of-reserves” audits conducted by cryptocurrency companies, urging that caution be taken when relying on such evidence. The warning came following the collapse of FTX, a third-largest crypto exchange, which eroded user trust in centralized platforms, resulting in some exchanges commissioning proof-of-reserves audits to ensure clients that their funds are safe.
In an interview with the Wall Street Journal, Paul Munter, the SEC’s acting chief accountant, stressed the need for investors to be “very wary” of the claims being made by crypto companies. A proof-of-reserves (PoR) is an independent check conducted on centralized crypto exchanges by third parties, aiming to make sure these platforms hold the assets they claim on behalf of their clients. However, the PoR process is not enough alone. It does not reveal the overall balance sheet and the liabilities of a platform, making it difficult for users to thoroughly verify the financial health of a company.
Munter further noted that the SEC is closely examining how crypto companies are portraying their reports from audit firms. The Wall Street watchdog is also reportedly sending a warning to audit firms. Binance, the world’s largest crypto exchange, released its PoR audit on December 7. The report showed that Binance’s bitcoin reserves have a 101% collateralization ratio, suggesting that the exchange has more than all of the BTC it needs to cover customer deposits. However, industry veterans were quick to raise red flags regarding the report, with some experts claiming it is far from enough to satisfy worried users.
Douglas Carmichael, an accounting professor at New York’s Baruch College, commented: “I can’t imagine it answers all the questions an investor would have about the sufficiency of collateralization.” Munter echoed this sentiment, adding: “Investors should not place too much confidence in the mere fact a company says it’s got a proof of reserves from an audit firm.”
The controversy surrounding Binance’s PoR report led to audit firm Mazars suspending all work with its crypto clients, including Binance, KuCoin, and Crypto.com. Following this, it was reported that Binance had been reaching out to multiple large firms, including the Big Four (Deloitte, EY, KPMG and PwC), who are currently unwilling to conduct a proof-of-reserves for a private crypto company.
In light of this, the SEC’s warning to investors to be wary of crypto companies’ claims of proof-of-reserves audits stands. As Munter noted, a report from an audit firm alone is not enough information for an investor to assess whether the company has sufficient assets to cover its liabilities. As such, it is important for investors to take the necessary steps to protect themselves and their funds, such as researching a company thoroughly before investing, asking questions and staying up to date on news and developments in the crypto space.