Financial Reporting and Blockchains: Audit Pricing, Misstatements, and Regulation
57 Pages Posted: 25 Sep 2018 Last revised: 1 Apr 2019
Date Written: March 1, 2019
To understand the implications of decentralized ledger technology for financial reporting and auditing, we analyze auditor competition, audit quality, client misstatements, and regulatory policy all in a unified framework. We demonstrate how collaborative auditing using a federated blockchain can improve verification efficiency for not only transactions recorded on auditors or clients' proprietary databases, but also cross-auditor verifications through zero-knowledge protocols that preserve data privacy. Consequently, the technology disrupts conventional audit pricing and effort focus: Auditors' competitive fees depend on clients' counter-parties’ characteristics and corresponding transaction volume instead of client size. Blockchains also reduces clients' incentives to misreport and auditors' sampling costs, allowing auditors to reallocate effort from transaction-based auditing to discretionary account auditing. Importantly, auditors’ technology adoption is costly and exhibits strategic complementarity, hence a regulator can help select an equilibrium with lower endogenous misstatements, audit sampling, and regulatory costs.
Keywords: Auditor Risk and Sampling, Collaborative Auditing, Distributed Ledger Technology, FinTech, PCAOB PCAOB, RegTech, Technology Adoption, Zero-Knowledge Proof.
JEL Classification: D21, D40, M42, M48
Suggested Citation: Suggested Citation