Are DAOs the next step in evolution of companies?
Have you heard of DAO? No, we don’t mean the infamous one that got hacked for $150mn, but rather the new approach to organizing people into companies in general. From its very inception in 2016, Decentralized Autonomous Organizations have been making headlines, both for right and wrong reasons.
Let’s take a step back from the fuss of headlines though and look into what DAOs are bringing to the world and whether they can become a prevalent corporate structure democratizing how we organize and do things.
What Are Decentralized Autonomous Organizations?
When a group of people comes together to create something bigger than any one person could do on their own, the common name given is "an organization". This "thing" can be anything from a company, community, or business - even if it's just your favorite blog!
What if the organization is guided by a common goal without centralized leadership? Then it is called a decentralized organization. Add a spice of open-source codes, smart contracts, and transparency, and you have the Decentralized Autonomous Organizations.
Bringing all these together, A DAO is a group of people coming together to abide by certain rules and for a common goal. The rules of engagement are clearly embedded in the smart contract. Details such as profit distribution and voting results are then recorded on a public ledger.
When did Decentralized Autonomous Organizations begin, and how were they first used? Let’s see.
History of Decentralized Autonomous Organizations
The first introduction of Decentralized Autonomous Organizations was seen on the Ethereum blockchain in 2016 through an organization called “The DAO” or “Genesis DAO.” Its framework was designed by the Slock.It team and it became a quick success. The goal of Genesis DAO was to be a decentralized venture capitalist fund, where members pitched their ideas, and the organization voted on financing or not.
At some point in its success, the organization had about $150 million worth of Ether from over 10,000 investors (12.7 million ETH when Ethereum sold for $12). Investors were meant to reap benefits from their investments when the project was approved. They could also take part in projects that had been successful and receive dividends depending on their representation on boards.
Things started going south when a bug was discovered that allowed funds to be siphoned by a malicious actor. This bug is known as the recursive call exploit. The summary of the exploit is such that Ether was sent to the vulnerable DAO and withdrawn before the contract updates the balance. Several other withdrawals of the same amount are made, so the actor gets more than they deposited. In the case of the Genesis DAO, the hacker took nearly a fourth of the whole Ether supply in the DAO (about 3.6 million ETH).
However, the response from the community was swift, and it ensured the sustenance of the Ethereum network. A hard fork was implemented to roll back the system to a day before the DAO was created, hence returning the Ether to their original owners. Subsequently, the hard fork caused the Ethereum to split into two chains. The former chain which contained the stolen funds is now called the Ethereum Classic chain, while the forked chain is the Ethereum we know today. It is important to note that the bug was in the smart contract and not the Ethereum blockchain.
Use Cases of DAOs
With the growing interest in Decentralized Autonomous Organizations, let’s look at some of the ways they can be used in real life.
Owning shares in a DAO for voting and getting rewards is one of its most straightforward use cases. This allows members to have a say in the growth and direction of the organization. A popular example of this is CurveDAO and its CRV token. What's crucial is that this setup is very global and has a low barrier to entry compared to traditional company structures.
Acting like a decentralized version of venture capitalist funds is another way Decentralized Autonomous Organizations are used. They are extra avenues for businesses to raise funds and get grants. The funds come from DAO token holders, who collectively decide on companies DAO invests in and eventually become shareholders in the portfolio firms.
Charity and Grants
Apart from using crowdfunding and blockchain to fund investments and grow organizations, DAOs could also be used to aid social responsibility. A good example of this is the Big Green DAO, a DAO created by Elon Musk’s brother, that seeks to disrupt philanthropic hierarchies. The major setback here is that non-governmental organizations could have a faster response time than charitable DAOs due to the way DAOs are structured, but on the flipside, DAOs are far more transparent, inclusive, and cheaper to operate.
In a world where media is becoming more and more globalized, DAOs provide content owners with a chance to get more involved and ultimately own the content they create. Not only does it provide the opportunity for decentralized collaborative efforts, with each person’s role hard-coded into a smart contract, but it also gives back through rewards in form of tokens or incubated projects.
Examples of Firms Formed as DAOs
Dorg, a software company, is a successful real-life example of a DAO applied to a private business. Created by three friends, the company helps design the infrastructure for crypto projects. As expected of a DAO, the hierarchical system at Dorg is non-existent, as there are no CEOs, COOs, and others. Even the co-founders do not have an official title. Rather, alongside every other team member, they work fluidly as each project demands. A team lead in project-A can report to another team member on another project.
Decisions on Dorg are made by voting, both on and off the chain. Albeit different from the typical principal-agent problem, conflicts at Dorg are resolved using a decentralized dispute resolution system. One of the early problems Dorg faced had to do with the number of decisions that needed to be voted upon. This caused the company to grow at a slow pace, and the solution agreed on was to have technical decisions handled by smaller, specialized groups; which in fact meant a step towards centralization.
Krause House DAO
The Krause House is taking a different approach to ownership of a basketball team; the DAO way. Named after the former Chicago Bulls General manager, this DAO specifically targets the New York Pelicans team for purchase. Seen as a daunting task, the organization has agreed that a 20% stake will be considered a success, a figure currently priced at $300 million. So far, the organization has made around $4.2 million from the sales of NFTs, and the current membership count is a little over 1,700. Some decisions that will be decided by the DAO if their purchase is successful include - but are not limited to - hiring, ticketing, and sponsorships.
Constitution DAO tried to buy one of the thirteen existing copies of the US constitution put up for auction at the Sotheby auction. The funds did not come from one person. Rather, proceeds were raised from over 17,000 members of the Decentralized Autonomous Organization. In the first week after being launched, ConstitutionDAO raised around $47 million worth of Ethereum. After the bid was lost (majorly due to hidden fees like the cost of transportation and Sotheby’s 13% auction fee), several parties came forward to accuse the Organization of closing contributions earlier than intended. The initial plan written on the smart contract showed that the funds would be returned to the contributors in case of an unsuccessful bid. Although there were several calls to bid on another project, the DAO agreed to refund the funds to those interested in getting it back. However, they hope to pursue another rare artifact in the near future with those who decide to stay.
DAO Providers - How to Create Your DAO
Aragon is one of the most popular DApps that allows you to create your DAO on Ethereum or Polygon. The software provides open-source tools that enable customizable organizations that can raise funds and manage them. Aragon has a non-profit organization, Aragon One, that manages raised funds while also running it as an active business venture itself - all from within their smart contract ecosystem.
Apart from Aragon, DAOstack Alchemy is another popular platform to create smart contracts for your DAO. It functions both on Ethereum and xDAI, and its User interface makes it easy to get your DAO up and running quickly. Like Aragon, the creation fee on DAOstack is 0.2ETH, but here, you don't need an Ethereum Name Service to check their DApp for the steps needed to create your DAO.
Challenges and Unknowns
- The major challenge facing Decentralized Autonomous Organizations is that it often needs every (or most) organization member to be involved in their decision-making. While this system of decentralization is one of its advantages, it will prove to be a disadvantage when there are situations that need an immediate response. The process employed by most DAOs in decision-making is time-consuming.
- There is still the threat of regulatory risk with DAOs, especially when they have to be cross-border organizations. First, the regulatory terrain for DAOs in most countries is vague, and there are some fears that new laws could negatively affect them. Even though we have seen Dorg being incorporated as the first DAO Limited Liability Corporation in the USA, high regulatory uncertainty in the majority of countries remains a major pitfall.
Like every new space, the challenges abound for DAOs. These do not undermine the disruptive prospect DAOs pose to how governance is made in the public and private spaces. Mark Cuban, the billionaire owner of the Dallas Mavericks, believes that DAOs could take on legacy businesses and their outdated systems. According to him, DAOs might not fit into every type of business, but many of them will benefit from it.
Finally, the principal-agent dilemma solved by introducing DAOs will lead to the prospects of a more comfortable and accommodating environment for workers. It will lead to more productivity and a formal environment for users to upskill.
The growing number of institutional investors entering the DAO space signifies that this new industry may be set to take off. It could also mean competition with established businesses and organizations for talent and potentially changing how we do things in everyday life.
DAOs are still in their early days, and there is much room for growth and improvement. However, they have already demonstrated to be a powerful tool that can benefit businesses of all sizes. If you’re looking for a way to get your business onto the blockchain or want to find a more efficient way to manage it, then a DAO may be the right solution for you.
*This communication is intended as strictly informational, and nothing herein constitutes an offer or a recommendation to buy, sell, or retain any specific product, security or investment, or to utilise or refrain from utilising any particular service. The use of the products and services referred to herein may be subject to certain limitations in specific jurisdictions. This communication does not constitute and shall under no circumstances be deemed to constitute investment advice. This communication is not intended to constitute a public offering of securities within the meaning of any applicable legislation.