The world of finance is rapidly evolving, with digital assets becoming an integral part of the financial landscape. For finance teams, understanding and managing these assets is becoming increasingly important and CFOs must adapt to ensure they have a forward-facing finance function.
Digital assets, such as cryptocurrencies, tokens, and assorted digital forms of value, are fundamentally changing how we look at financial transactions. Their growth has been rapid, transforming conventional financial structures and creating new ways to generate revenue streams and reduce expenses.
Nonetheless, these opportunities also come with distinctive challenges that finance teams must confront. These include the development of robust security protocols to safeguard against cyber threats, the implementation of regular audits to ensure accuracy and transparency, and the use of specialised software tools designed for tracking and managing these assets.
Let's explore some examples of digital assets and examine their functions within the finance sector and assess their implications.
What is a digital asset?
A digital asset is exactly as it sounds, a piece of property owned by a company that exists in a digital format. The ownership rights associated with digital assets often grant the owner exclusive privileges over their use and distribution, which can be protected by copyrights, patents, or licences.
For instance, the author of an e-book retains the copyright over their work when it's distributed digitally. Unlike traditional physical assets, digital assets are intangible and can be easily distributed or reproduced.
They are usually stored on digital devices or Cloud-based servers and can be easily transferred or duplicated without loss of quality. This makes them highly accessible but also poses a unique challenge in terms of managing and protecting these assets.
To address this, a comprehensive management strategy is needed, via Digital Asset Management (DAM) systems. These systems allow organisations to efficiently store, organise, access, manage, and distribute their digital assets.
Digital assets can be transformed into revenue through various means. Digital content like music, movies, and e-books can be promoted and traded online, while digital currencies can be swapped for goods and services.
The emergence of blockchain technology has broadened the possibilities for driving benefits from digital assets by introducing tokenization, a procedure in which a digital token is established to symbolise ownership of a physical, tangible asset.
What isn’t a digital asset?
While the term 'digital asset' encompasses a wide range of properties, it's important to note that not all digital content falls into this category. The key distinguishing factor lies in the inherent value or ownership rights associated with the resources.
An everyday example can be an email. A simple, routine email, such as a quick update or a casual conversation, typically isn't considered a digital asset because it doesn't contain valuable data or intellectual property. It's transient in nature and holds little to no value beyond immediate communication. However, an email containing sensitive business information, proprietary data, or legally relevant communication could indeed qualify as a digital asset due to its potential value.
In the same vein, digital content that lacks rightful ownership or usage entitlements does not qualify as a digital asset. When a piece of content is readily accessible on the internet and carries no usage limitations, it becomes challenging to attribute distinct value or ownership to it. This renders it unsuitable for classification as a 'digital asset.'
Examples of digital assets
Cryptocurrencies
Cryptocurrencies such as Bitcoin and Ethereum represent one of the most widely recognised examples of digital assets. They are built on blockchain technology and possess distinctive intrinsic value, distinct from conventional currencies. Such decentralised technology can change how finance teams work and brings in a lot of potential benefits to the organisation.
What sets these digital assets apart is their absence of physical presence and lack of issuance or oversight by any centralised authority, be it a government or a financial institution. Despite this, many CFOs are thinking about cryptocurrency because the sophisticated blockchain technology is inherently safe.
Digital art
Digital art, such as Non-Fungible Tokens (NFTs) encompasses a variety of forms, ranging from digital paintings and animations to digital installations and more.
Prior to the rise of blockchain and NFTs, artists grappled with the challenge of verifying the genuineness and ownership of their digital creations. NFTs allow digital art to undergo a process known as ‘tokenisation’, which generates a digital ownership certificate that can then be bought and sold. This tokenisation procedure involves associating a piece of digital art with a unique digital token on the blockchain. Once this link is established, the token functions as evidence of ownership and authenticity, thereby transforming the digital art piece into a verifiable asset.
Their popularity has diminished over time, with reports that 95% of NFTs are now worthless. That said, there are still some that have held their value, and with blockchain enduring, it’s impossible to know what the future of digital assets holds.
Intellectual property
Intellectual property (IP), like patents, trademarks, and copyrights, can also be included as digital assets if their storage and administration are conducted in a digital format. It not only amplifies the ease of accessing and handling these assets but also bolsters their security via digital encryption techniques.
What are the risks associated with digital assets?
Digital assets, like all assets, have associated risks. These can be broadly classified into four principal categories: technological, legal, market, and operational. Each necessitates unique strategies for effective mitigation.
Technological risks are primarily associated with the prospect of data loss or corruption. Due to the digital nature of the assets, they are susceptible to technical malfunctions, hardware breakdowns, or software errors. Such errors could potentially lead to irreversible damage.
Legal or regulatory risks encompass the complications that may arise from the use, storage, or transfer of digital assets. The legal framework governing digital assets is continuously evolving, with varying regulations existing across different jurisdictions. Failing to adhere to these regulations could result in costly entanglements.
Market risks are linked to the intrinsic volatility in the value of digital assets. The prices of digital assets, especially cryptocurrencies, can experience frequent fluctuations due to a variety of factors. These factors include market demand, investor sentiment, regulatory developments, and macroeconomic trends. Such volatility can potentially lead to substantial financial losses.
Operational risks involve inadequate management or security breaches. Deficient governance structures or lax security protocols can expose digital assets to theft, fraud, or unauthorised access. Furthermore, human errors or system failures can also lead to operational disruptions, negatively affecting the value or usability of digital assets.
What does the legislation say?
The legislation around digital assets is always evolving and varies from country to country. The UK's Economic Crime and Corporate Transparency Bill, for instance, require all crypto asset exchanges and custodians based in the UK to register with the Financial Conduct Authority (FCA). This legislation provides the FCA with oversight to check that firms have anti-money laundering (AML) procedures in place.
Moreover, the Law Commission an independent UK legal body has recommended a personal property law reform to include digital assets. This recommendation aims to provide a legal framework that can accommodate the unique nature of digital assets, reflecting their growing significance in the financial world.
Some nations outside of the UK have welcomed digital assets, instituting their own well-defined regulatory structures. For example, Bitcoin is also legal in the US and Canada. While others, such as Saudi Arabia or China have outright prohibited them. As such, it is imperative for finance teams to remain abreast of the most recent legal advancements.
Do finance teams need to start digital asset management?
As digital assets continue to gain popularity within the financial realm, it is becoming increasingly imperative for finance teams to grasp and oversee these innovative forms of value.
The intricacies associated with valuing digital assets mean a deep understanding is needed of the diverse methodologies applied in this domain. Moreover, given the vulnerability of digital assets to cyber threats, rigorous security measures and robust storage solutions are fundamental.
They also introduce fresh avenues for operational efficiency and revenue gains. By harnessing these assets, finance teams can streamline procedures, curtail expenses, and potentially unlock previously untapped value. Therefore, managing digital assets shouldn’t just be perceived as a challenge, but as an opportunity for innovation and expansion too.
How should finance teams manage digital assets like crypto?
For finance teams looking to enter the realm of resources such as cryptocurrencies, it's crucial that they establish clear procedures and controls. This might involve implementing advanced security measures, regularly auditing their digital property, and using specialised accounting software to track all their finances in a more seamless manner.
Due to the complexity of certain digital assets, finance professionals should consider consulting with experts in the field too. These specialists can provide valuable insights and guidance, helping them to navigate this new world.
Future proof your finance function
To prepare finance functions for the future, CFOs and financial management teams must stay abreast of the latest FinTech news and prioritise training. Another factor to consider is to implement the right Cloud-based accounting software.
A Cloud-based solution, like Advanced Financials, can significantly enhance the efficiency and effectiveness of managing resources (both digital and physical). With all financial data in a single unified platform, including the depreciation of assets and overall performance, everyone in the finance department has clear visibility of potential risks and value-creation opportunities.