WCARS Nov 8 2019 - Rutgers...

Confidential & Proprietary

Making Digital Assets Accountable.


WCARS Nov 8th 2019Gerard Brennan CFE Ph.D.

Confidential & ProprietaryConfidential & Proprietary

Lukka Overview

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Lukka transforms digital asset data into accurate financial

information for tax, accounting, audit and regulatory reporting.

BUSINESS WORLD

BLOCKCHAIN WORLD


NICK

OGURTSOVChief Operating Officer

Chief Risk Officer

JAKE

BENSONFounder & CEO

JEREMY

DRANEChief Commercial

Officer

BOB

HERTZFormer Chairman of FASB,

Global & US BoD for PwC

Accounting Advisors

MICHAEL

CANGEMIFormerly of EY, Advisory Board

for Rutgers Continuous Auditing

& Reporting Lab

GALE

CROSLEYFormerly AA & PwC, Most

Recommended Consultants -

Inside Public Accounting

DR. MIKLOS

VASARHELYIRutgers University Director of

Accounting Research Center,

Auditing & Reporting Lab

ROGER

BROWNFormer EY International Tax &

Financial Products Partner,

Senior IRS Official

DR. ROD

BRENNANFormer Siemens North America

Risk & Internal Control Officer

Lukka Team & Advisors

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ROBERT

MATERAZZIHead of Customer

Success & Operations


World’s first crypto tax calculator

in 2014: LibraTax

We provide tools that support

~50% of crypto hedge funds

World’s first crypto valuation &

pricing methodology aligned to

GAAP and IFRS

Launched institutional grade

reference data in 2018

● First and only SOC 1 Type 2

● First company to support daily

NAV’s for crypto hedge funds

$25MM in VC funding raised to

date

Founded in 2014; ~60

FTEs

Lukka Milestones

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https://www.youtube.com/watch?v=jG5f6hysc5M

https://lukka.tech/content-download-pricing/

https://lukka.tech/libra-becomes-the-first-crypto-native-technology-company-to-receive-soc-1-type-2-attestation-report/

https://www.coindesk.com/daily-liquidity-comes-to-crypto-fund-with-lukka-accounting-tool

https://lukka.tech/libra-closes-15-million-in-series-b-funding-to-support-ongoing-institutional-investor-adoption-of-crypto-assets/


Our products support accountants, auditors, & tax professionals from industry or accounting firms.

Lukka Crypto Office

Collects, enriches, reconciles, processes and provides reporting for hedge funds, fund admins, exchanges, and other financial institutions

Lukka Reference Data

Golden copy of standardized and enriched crypto reference data that covers 3,500+ crypto assets from 65+ sources

Lukka Pricing & Valuation

Valuation and price transparency aligned to GAAP and IFRS guidelines

Lukka Blockchain Nodes

Uniform, reliable, and accessible blockchain data to support assurance, reconciliation, and financial reporting (part of LCO)

LukkaTax

Institutional-grade tax preparation and reporting engine purpose-built to support millions of users (launching now)

Products

Lukka Data WarehouseComing Soon

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Delivery

Lukka Institutional Data Platform

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Tax Reports

Audit Reports

Risk Metrics

Analysis

Journal Entries

General Ledger

Treasury Systems

Financial Statements

Investor Reports

Existing Financial Services Infrastructure

Lukka Reference

Data

Lukka Blockchain

Nodes

ReconciliationTools

Lukka Crypto Office

Subject Matter Experts

Collection

Lukka Pricing & Valuation

Blockchains /

TokensBlockchains /

TokensBlockchains /

TokensBlockchains /

Tokens

Blockchains /

TokensBlockchains /

TokensBlockchains /

TokensExchanges /

OTC Firms

Blockchains /

TokensBlockchains /

TokensBlockchains /

TokensWallets /

Custodians

Blockchains /

TokensBlockchains /

TokensBlockchains /

Tokens

Banks /

Financial

Institutions


Customer Segments

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ABOUT LUKKA

MIDDLE- & BACK-OFFICE

SOFTWARE FOR:

Accounting Firms

Hedge Funds

Prop Trading Firms

Custodians

Mining Firms and Pools

Protocols

Exchanges

Crypto Enterprises

Fund Administrators

WHAT TYPES OF PRACTICES DOLUKKA’S SOLUTIONS HELP FIRMS BUILD AND GROW?

● Tax Compliance Outsourcing● Tax Planning and Consulting● CFO Advisory Outsourcing● Assurance Services

(External/Internal Audit)● Governance, Risk, & Compliance

Services● Blockchain Advisory Services


Accounting/Valuation of Crypto Assets

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Crypto Data Challenges

~2,000 blockchains and

wallets

~100’s of different enterprise

apps (ERP, BI, Custom, etc..)

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~200 independent exchanges,

growing weekly

~20 large OTC desks w/ 10

having ~80% market share

~50 different banks (to

support cash rec processes)

~1000’s of smart contracts,

mining pools & pricing services

ISSUEThe crypto ecosystem is large and expanding at a rapid pace.

Confidential & Proprietary10

Pricing & Valuation

Today’s Structural Issues with Pricing and Valuation

- Cost to open a crypto exchange platform is very low (<$50k), hence hundreds of exchanges have proliferated around the world

- Most tokens only trade on a limited number of exchanges, varies a lot by country

- Most exchange platforms don’t have fiat currency on-ramps: only trade crypto-to-crypto

- Many exchanges have been proven to have vast amounts of fake or highly manipulated trading volume (i.e. Bitwise Report to the SEC)

- In this environment, no concept of ‘principal market/primary exchange’ exists or even makes sense

- Exchanges typically trade 24 hours a day, 7 days a week (time zone is relevant for tax year boundary)

- And yet, GAAP (ASC-820)/IFRS (IFRS-13) guidance for valuation talks about “the primary exchange” and “the closing price” and other items which simply don’t apply in the crypto ecosystem


Pricing & Valuation: Lukka Prime

Lukka Prime Pricing Methodology

- Lukka created a pricing methodology to explicitly comply with GAAP and IFRS guidelines

- The essence of the approach is to determine the primary exchange for a given crypto asset at a given point in time using qualitative and qualitative parameters:

- Qualitative parameters include which country the exchange is domiciled in, whether the exchange is regulated, how stringent AML/KYC rules are, whether the exchange adheres to specific anti-manipulation rules, etc..

- Quantitative parameters include volume, liquidity, frequency of trades, width of bid-ask spread and so on, at that particular point in time for that particular asset blended together in a fairly complex mathematical formula

- The white paper is available at: pricing.lukka.tech

- Our team of quantitative researchers monitors the data and periodically refits the models as the markets evolve


Objective

Argue that cryptocurrency should be classed as a new asset (i.e. “Intangible Investment” and measured through the fair value approach (ASC-820 & IFRS-13), much like commodities, foreign currencies, and equities.

Present a fully developed theoretical framework for the use of the fair value model and provide an interpretation of the fair value approach in the context of the unique characteristics of the cryptocurrency markets. Concept Statement No.8 – Conceptual Framework

Build up a methodology of the fair value measurement for cryptocurrencies.

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Current Accounting Classification Used Most Often.

“Indefinite-lived Intangible Assets” (i.e. Patents, License, etc..)

Theoretical Deficiencies of the Classification• Cryptocurrency cannot be used in operations to generate income.

• Cryptocurrency can be used for payment and in exchange transactions.

• Gains or losses are deferred until the cryptocurrency is exchanged.

• Fails to faithfully represent the economic rationale for holding a crypto asset: to create profit (loss) from changes in fair value.

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Proposed Accounting Classification

“Intangible Investment Assets”

– Fair value accounting All unrealized G/L should be recognized in earnings.

– FV methodology should compare across all firms rather than using measures tied to a specific entity.

– Timeliness, Comparability, and Verifiability Enhance Relevance & Faithful Representation

– Fair Value Measurement (ASC 820; IFRS 13)A fair value measurement assumes that the transaction to sell the asset or transfer the liability takes place either:▪ in the principal market for the asset or liability; or▪ in the absence of a principal market, in the most advantageous market for the

asset or liability.

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Proposed Methodology

Step 1: Assign each exchange for each pair of currencies a Base Exchange Score (BES).

BES is determined by computing a weighted average of the values assigned to four different exchange characteristics

• Exchange oversight• Microstructure efficiency of exchange• Data transparency• Data integrity

Step 2: Adjust the BES based on the relative monthly volume each exchange services. This new score is the Volume Adjusted Score (VAS).

Step 3: Decay the adjusted score based on the time passed since last trade on exchange. Here, we are assessing the level of activity in the market by considering the frequency of trades. The decay factor reflects the time since the last trade on the exchange. This is the final Decayed Volume Adjusted Score (DVAS).

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Proposed Methodology

Step 4: Rank the exchanges by the DVAS score and designate the highest-ranking exchange as the Principal Market for that point in time.

Step 5: Designate the price of the last transaction on the principal market as the spot price at that point of time.

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Lukka Prime

Lukka’s proprietary pricing methodology

Purpose-built around institutional requirements under GAAP & IFRS guidelines

Lukka Pricing Custom Pricing

Lukka Pricing & Valuation is the institutional source of pricing and valuation data for crypto assets.

Lukka Pricing & Valuation Overview

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PRODUCT: LUKKA PRICING & VALUATION

Third-Party Pricing

Exchange Prices

Current and historical direct exchange prices

Other Price Sources

Consolidated pricing feeds from third-parties

Custom Methodology

Your custom methodology implemented and delivered

Internal Sources

Integrate with your existing internal price sources


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Lukka Pricing & Valuation Overview


Other Key Valuation Issues

- Valuation of “thinly traded” crypto assets – Mark to Model Level 2-3 in ASC-820. Using Effective Spread, Matrix Pricing, etc..??

- Valuation related to Forks, Main net swaps, Derivatives & Options, Perpetual futures, Staking, Mining, Smart contracts, Margin Lending etc..?

- Crypto Lending collateralization and restricted asset valuations (entity vs. security restrictions), etc.?

- Valuation of stable coins relative to fiat reserves?

- Valuation and other issues around 1099’sKey policy questions

How to best address valuation problems when there is no fiat-to-crypto price on the exchange?

Trust taxpayers to do the required reporting?

Require overreporting, including for wallet-wallet transfers of the same taxpayer?

Require taxpayers to provide basis information to brokers for accurate reporting?

Compliance implications of large discrepancies between economic income and 1099 reporting?


- FMV is determined using appropriate valuation/pricing data (derived exchange price, not an index).

Other Key Valuation Issues – Adj. Basis Calculations

Cost Basis Method Example: Crypto-Crypto Trade (with crypto fee) – buy ETH with BTC

Fee (Disposal)

Acquisition

Disposal

Date (ISO 8601 format) Type Source Base Amount Pair Counter Amount Fee Asset Fee

21-Oct-2019 12:48 AM Buy Coinbase 45.00 ETH/BTC 1.11365 BNB 0.223

Ethereum (ETH) Bitcoin (BTC) Cost Basis/Proceeds

1.11365

$8,218.89

0.223 $18.89FMV

45.00

FMV $8,200.00

Binance Coin (BNB)

- Fee is a capital asset, so FMV is applied to determine value based on the date/time of the transaction.

- Acquisition cost basis is the sum of all disposals (each valued based on FMV at the trade date/time).

- Additionally, the fee asset is matched to an acquisition of the same asset using an accounting method (FIFO, LIFO, etc.) to create a capital gain/loss.


Discussion/Questions

LINK FOR PRICING WHITE PAPER:


Gerard (Rod) Brennan CFE, Ph.D

Director Audit Technology

732 910 5553



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