Another Blog Post About DAOs

Yes, another beginner’s guide to DAOs. But with DAOs being such an important piece to the blockchain puzzle, why not?

NFTs have certainly hogged the spotlight in 2021. However, attention is turning towards DAOs (decentralised autonomous organisations), a vital aspect of the Web3 space and an area I briefly touched on in last week’s post. 

DAOs

A DAO is a decentralised autonomous organisation where no central entity owns it nor governs it. Essentially, people come together who share a common goal, interest or vision and work collectively to realise such. As Aaron Wright describes them, think of a DAO as a subreddit but with a bank account and a set number of rules enforced by the blockchain. Furthermore, the degree of autonomy can vary. For example, you can have a DAO that is more of a decentralized organization where groups work and make decisions together in a participatory manner or one that is run entirely by software-based code (Bitcoin). 

That being said, the possibilities of DAOs are endless. A DAO can be as simple as a group of friends coming together to govern over a particular interest or as complex as a multi-national enterprise.

Some History

The concept of DAOs is not necessarily new. Daniel Larimer coined the term DAC (decentralised autonomous corporation) in 2013 as a means of organizations becoming completely digitally native; secured against double-spend attacks by blockchain technology and acquiring services by offering shares in the decentralized company (skin in the game). DAC’s were even mentioned in one of the early versions of the Ethereum Whitepaper on the possibility of using smart contracts as a means to achieve a self-managed community.   

The first realisation was ‘TheDAO’, which launched in 2016 and presented itself as a decentralized venture capital fund. An ICO ensued with investors able to buy DAO tokens in exchange for ETH. DAO tokens were to be used to vote on how the collective fund was to be allocated toward projects of interest. Unfortunately, while TheDAO raised $150 million, a vulnerability was exploited, leading to over a third (~$60 million) being drained from the fund. Not only was this a loss for investors, but the exploit did not present much promise for the concept of a DAO. 

Now, years later, interest and confidence in DAOs are greater than ever before.

Why are DAOs Important?

DAOs are transparent by default. Every decision, every vote and every investment is recorded on the blockchain and made publicly available. You can see every proposal put forward and what is being voted on in the community that you are part of. This significantly reduces the risk of both corruption and censorship. Not to mention, how these decisions are made is far more efficient and inclusive. Not only can anyone theoretically join a DAO (provided they have enough funds or meet some membership conditions in some cases), but individuals can even delegate their voting authority seamlessly. Furthermore, compared to a centralised, publicly traded company, only audited financial statements are made available at the end of every year. With regard to stakeholder governance, it can be a painstakingly slow and manual process to capture the votes of every stakeholder.

Other points worth mentioning include:

Categorising DAOs

The number of DAOs has increased significantly in the past year. Broadly speaking, these are broken down into the following categories.

Protocol Level DAOs

A crypto project with a utility/governance token can be considered a DAO provided that decisions are made in a decentralized manner. The concept here is there that there is a governance token. Holders of such are not beneficial owners of the underlying protocol, but they can weigh in on certain decisions/changes to the way the protocol operates. For example, in the MakerDAO, there are 2 tokens; $DAI, which is the token with the money function and $MKR, which is the utility token. $MKR acts as a form of governance allowing holders of $MKR to weigh in on decisions regarding $DAI and the MakerDAO ecosystem as a whole.
Another use case on the protocol level is a Team DAO whereby, for example, a team raises funds through a public sale and manages such capital through a DAO. API3 have done exactly this.

Investment Vehicle DAOs

These are DAOs focused on investing in technologies, projects or developing ecosystems. Individuals come together and pool capital, which is then used to invest. These DAOs work collectively to identify opportunities and take advantage of such. A significant advantage of investing via a DAO is that despite your assets being in a collective vehicle, you remain in complete control. As a result, functions exist such as being able to pull your capital out of the fund when and as you desire. Known as ‘ragequitting’, this concept was introduced by MolochDAO, a decentralized grant funding DAO focused on the Ethereum ecosystem. Other examples include The LAO, MetaCartel as well as FlamingoDAO, an NFT-focused DAO.

Creator DAOs

Rather than pooling capital, creator DAOs pool human capital. Individuals or groups come together, aligned under a common interest or goal, and “implement a smart contract according to which tokens in the project would be granted to contributors, customers or investors, in return for their labour or money”.

Across each category, members have skin in the game. This is important. By having users interested in the project by ownership through the possession of tokens, they are directly invested in the well-being of the DAO they are part of. This can help align incentives, overcoming coordination issues and ensures that changes or modifications are administered in a socially beneficial manner.

What Lies Ahead?

DAOs certainly face challenges moving forward. Whether or not governance tokens are a security is heavily debated while how to prioritize objectives within a DAO can be difficult. DAOs are also sitting on a trove of capital within their respective treasury and how to spend such is another challenge.

As DAOs develop further, these challenges will no doubt be ironed out. Take treasury management for example. Principles are being outlined while applications such as Llama are providing a means for DAOs to easily and transparently manage their respective treasuries.

To close, I will say that DAOs will not replace centralized organisations or companies. They will however play an important role in the overall ecosystem, one that will be more transparent and inclusive as a result of their existence.

Thanks to Eyal Eithcowich (DeepDAO) and Sami Tannir (Conflux Network, OpenDeFi) for the feedback on this one.