DAOs - everything you need to know
A DAO – decentralised autonomous organisation – is, in broad terms, an organisation made up of a collective of strangers who all share a common set of goals, beliefs or interests, and who have a shared pot of funds.
What makes it decentralised is that it isn’t run in the traditional way of other organisations, with CEOs and directors at the top of the hierarchy making all the decisions, and the majority of voiceless and powerless workers at the bottom. Instead, every member who holds a governance token has a say in how the organisation is run, and can even make new proposals and suggestions for change.
It is autonomous because it is governed by a set of protocols which are executed by smart contracts on a blockchain. These protocols are open and public, so you can see what they are before you join and they cannot easily be modified unless you have a majority vote by stakeholders. For example, “if 51% of stakeholders vote yes on proposition XYZ, execute proposition XYZ”.
How is a DAO created?
There are 3 main steps required for launching a DAO:
Step 1 – Create a smart contract for a DAO. This will typically be a set of rules, aims or objectives. After the initial smart contract all stakeholders, including the creators, will be governed by these rules and any future changes will need to be voted on in accordance with the rules of the smart contract.
Step 2 – Decide on a method of how to raise funds and enact governance. Usually this is done by selling tokens, which then provides the token holder the right to vote on proposals. In effect this is like buying equity. The token holders can cast a vote on everything from the addition of new proposals, to whom to delegate tasks to, and how to spend funds.
Step 3 – Deploy a DAO on to a blockchain. Once this is done the original creators can no longer influence the management or direction of the organisation, any more so than other stakeholders can because it is all executed by the smart contracts autonomously.
The benefits of a DAO
There are countless examples of projects, and even companies, being run into the ground because of unscrupulous individuals making decisions for their own self-interests instead of for the benefit of the wider group. We have all experienced dismay at the senseless decisions made by our bosses which directly impact us. Couldn’t we do a better job than them? If all the workers had an equal say in how to manage the organisation, wouldn’t we make better and fairer decisions? With a DAO, those idealistic dreams become a reality.
As a prospective investor, you need to have trust in the CEOs of traditional organisations, making a judgement on a person’s character. With a DAO you only need to trust in the code, the smart contract. The smart contract is transparent and publicly available, as are all the transactions and changes ever made after a DAO is launched. These are all verifiable which you can view before joining a DAO. In contrast to a traditional organisation, board decisions are rarely transparent and public, if at all.
Once you join a DAO and own a governance token you have a voice in the organisation. You can propose changes for the betterment of it, and vote on all other proposals. Once again this is in stark contrast to equity holders of traditional organisations.
Different types of DAOs
Bitcoin is considered by some to be a type of DAO because it’s a decentralised completely autonomous currency. There is no single person controlling the transactions. They are governed by the masses and transactions are verified following a set of rules or protocols. The first actual DAO was, rather confusingly, called The DAO. It launched in 2016, but soon afterwards was hacked, reportedly losing $50-60 million. The hack divided the crypto community in more ways than one (quite literally). Controversially, the governance token holders of The DAO voted to hard-fork the blockchain, essentially creating two different blockchains – one in which the hack and loss of ether remained, called Ethereum Classic ($ETC), and one in which it didn’t, known as Ethereum ($ETH).
The hack and subsequent fallout was a huge blow for the crypto world, but within a few years, as technology and security improved, DAOs bounced back. There are now more than 4000 DAOs in operation. In November 2021, ConstitutionDAO raised $47 million in a matter of days to try to buy a first edition copy of the US Constitution at a Sotheby’s auction. This year BuyTheBroncos DAO is trying to raise $4 billion to purchase the Denver Broncos (an American Football team in the National Football League). Flamingo DAO which buys NFTs turned initial investments of approximately $10 million into $1 billion by today’s value. Neon DAO, which focuses on buying land in the metaverse, raised $20 million in the first 45 minutes after launching.
Risk vs Reward
DAOs are a powerful tool in the crypto world, but they don’t come without risk. There are many potential downsides to DAOs. The main concerns revolve around legal issues, security, and structure.
In 2017, the US Securities Exchange Commision (SEC) published a report concluding that the offer and sale of tokens for The DAO were securities and subject to federal securities law. As these were not registered with the SEC, anyone involved with the sale and purchase of these tokens would be in violation of these federal laws.
Criminals could start a DAO and entice a lot of investment from unsuspecting members, before walking away with all the money. This is known as a rug pull. There is also the risk of hacks, as was seen with The DAO in 2016, and BadgerDAO in December 2021. The latter hack resulted in $120 million worth of BTC and ETH being maliciously syphoned out of user's wallets.
With no single person spearheading a DAO, and no regulation, it becomes very difficult to protect members and their investment should something go wrong. The mantra, do your own research, is highly pertinent here if you are thinking of joining a DAO.
The future for DAOs
DAOs could have a very far-reaching impact on the future of all organisations and on our future daily lives, challenging the notion of how every organisation is run. Mark Cuban, billionaire investor, tweeted his thoughts on DAOs in May 2021 describing them as, “the ultimate combination of capitalism and progressiveness”. He later added, “There are so many features and processes in any given company that can be more efficient and productive using a decentralised, trustless approach”.
A report written in 2016 by MIT Technology Review suggested investing in DAOs was not very smart. It surmised trusting the masses to make informed decisions on investment opportunities was not a good idea, given very few of them would have any experience of investment and would have very little research to inform their decisions.
There is still a lot of grey area surrounding DAOs. However, if the legitimate concerns of regulation, legality, security and safety can be cleared up, then DAOs may leave a big footprint in the crypto world and an influential legacy in the real world for years to come.
The views and opinions expressed therein are the authors, and are not intended to be used as advice to trade on the crypto markets.