Since the demise of FTX, many crypto companies have commissioned proof-of-reserves audits in an attempt to regain lost trust and allay fears of spooked customers. However, such reports do not necessarily indicate the company’s sound financial standing, SEC’s acting chief accountant Paul Munter warned investors.
“We’re warning investors to be very wary of some of the claims that are being made by crypto companies,” Munter told The Wall Street Journal.
“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 official said, adding that having such a report “is not enough information for an investor to assess whether the company has sufficient assets to cover its liabilities.”
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Munter also noted that the SEC is watching closely for misleading statements in the proof-of-reserves reports and is sending warnings to audit firms, since a number of crypto companies are out of the regulator’s reach due to their offshore registration.
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“We are increasing our understanding of what’s going on in the marketplace,” Munter said. “If we find fact patterns that we think are troublesome, we will consider a referral to the division of enforcement.”
Post-FTX collapse, Binance was the first to announce that it would release a proof-of-reserves report to reaffirm its commitment to transparency, as the exchange’s CEO Changpeng “CZ” Zhao called upon other industry players to follow suit. To prepare such a report, Binance hired an outside accounting firm Mazars, but the produced audit contained sparse financial information and didn’t include any evaluation of the quality of Binance’s internal controls, which is normally an integral part of an audit report.
“Binance’s “proof of reserve” report doesn’t address effectiveness of internal financial controls, doesn’t express an opinion or assurance conclusion and doesn’t vouch for the numbers. I worked at SEC Enforcement for 18+ yrs. This is how I define ‘red flag’,” John Reed Stark, former chief of the SEC of Internet Enforcement, opined on Twitter.
“Big red flag for me is that this seems to be more of an attempt at proving collateral rather than proving reserves. They even admit to be insolvent with regard to actual assets owed vs tokens controlled. The “collateral” accounting trick is exactly how FTX played solvent as well,” Jesse Powell, former CEO of crypto exchange Kraken, weighed in.
In response to the backlash, Mazars announced it will temporarily suspend all work for crypto exchanges, citing intense media scrutiny and lack of public trust in produced audits in an email seen by Bloomberg. The company also audited Crypto.com and KuCoin, but the website that hosted its proof-of-reserves reports is currently inactive.
Meanwhile, the big four accounting firms — Deloitte, Ernst & Young, KPMG, and PricewaterhouseCoopers (PwC) — are reportedly unwilling to step up and audit Binance, the exchange’s spokesperson told Blockworks.
“The benefit of having the [proof of reserves] verified by an independent audit firm is that it can provide additional validation that exchange assets are equal to or greater than the exchange’s liabilities to its customers. We have reached out to multiple large firms…and we are still looking for a firm who will do so.”
