Decentralized Autonomous Organization (DAO) is a community-led entity with no central authority. DAO is pronounced as “Dow” like “the Dow Jones.”
Unlike the traditional organizations that are governed by a board or executive committees, DAO is governed by its members who collectively make important decisions
Smart contracts play an important role in DAO by: Source
- Stating the foundational rules
- Executing the agreed-upon decisions
- Verification of voting and proposals and
- Auditing the code
DAOs also have their built-in treasury that is only accessible with the approval of their members. It is fully autonomous and transparent.
Benefits associated with a DAO blockchain
- More transparency compared to traditional companies
- Every member can collectively take decisions and see all the actions as well as the method of funding for DAOs.
- The risk of censorship and corruption is lower.
How do DAOs Work?
Rules and regulations of DAOs are built and enforced via the use of smart contracts. The foundational framework of any DAO is verifiable, publicly auditable and highly visible. Any member of the DAO community can see how the protocol is functioning at every stage.
When these rules are formally recorded onto the blockchain DAOs will figure out how to receive funding. Token issuance is one of the major ways to raise funds for DAOs.
The set protocol sells tokens and consequently raises funds for the DAO treasury. Users can hold a certain number of tokens in return for their fiat.
When any users hold tokens, they are known as token holders. Depending on their token holdings, users are given certain access and voting rights.
When the funding stage is completed, DAO is ready to Go Live. As soon as the code is pushed into the blockchain for production, it can no longer be changed until a consensus is reached through voting rights.
This means no centralized authority or governing body can modify or change the rule of the DAO other than the token holders of the DAO community.
Steps for launching a DAO
There are 3 major steps for the launching of a DAO
✔️Smart contract creation: A group of developers develops the smart contract at the very first stage. The DAO system is basically dependent on the smart contract as all set rules and regulations are written on it. Once it is launched, there is no other way to change the rule except change in the smart contracts. Hence, the smart contract should be extensively tested and verified to encompass all the important details.
✔️Funding: When everything about the smart contract is tested and set, the DAO should find a sustainable way to receive funding. At the same time, DAO needs to enact governance. To satisfy both aspects, funds are raised through the selling of tokens among the users. Token holders avail voting rights as soon as they possess tokens. This at the same time maintains good governance.
✔️Deployment: The third step is deployment when the DAO gets deployed on the public blockchain. Once it is deployed on the blockchain, only the stakeholders can influence the future of the DAO project. Developers have no longer the right to make any changes to the project—it is all dependent on the stakeholders.
Why do we need DAOs?
A traditional organization requires a lot of trust in the people behind it. DAO is a trustless platform where everything is written on the smart contract code and no change or amendment is possible without the consent of the stakeholders.
The code gets extensively tested before the final launch. Once it is launched on the public blockchain, every action must be approved by the community. This is how DAO maintains complete transparency and auditability.
DAOs don’t have any hierarchical structure like the traditional organization. This also means any stakeholders from anywhere can come up with an innovative idea that is placed before all other stakeholders for approval or amendment.
Tasks are accomplished via native token while internal disputes are solved through a transparent voting system.
DAOs also provide access to pool funds. Source So, stakeholders can independently invest in early-stage startups and decentralized projects. Any profit generated from such investment gets shared among them.
Examples of Decentralized Autonomous Organization
The first Decentralized Autonomous Organization, The DAO, came into existence in April 2016 with the objective to create a venture capital fund keeping decentralization at the forefront.
Members invested Ethereum in return for DAO tokens. The project raised nearly $150 million in ETH before the infamous hack took $60 million. The hack made people skeptical about the future of decentralized autonomous organizations.
However, they are still a formidable tool for organizing your project. The ‘Crypto-DAO’ interplay indicates that decentralized autonomous organizations have promising potential.
If any crypto projects allow token holders to vote on the project’s future direction and follow decentralized governance for management, then that project can be a DAO. MakerDAO is an example where token holders can exercise their influence in governance and voting.
Automated Market Maker (AMM) is yet another example of ‘Crypto-DAO’ interplay.
Drawbacks of DAOs
Despite several benefits, DAOs have their own drawbacks. The theft right at the inception of the DAO project showed a security flaw. The hack occurred due to erroneous smart contract code which is difficult to fix at any point.
As per MIT Technology Review, it is not a prudent choice to trust the opinion of the masses on major financial decisions.
There is no legal framework for DAO as well. If any legal issue arises it is often subjected to regional laws and complex legal procedures. For example, in July 2017 the SEC found that ‘The DAO’ sold securities on the Ethereum blockchain in the form of tokens. This was a partial violation of the United States securities law.
The concept of DAO has established a new avenue for managing organizations more effectively. DAO brings transparency and there is no hierarchical structure. The implications of DAO in crypto projects are also promising.
With that said, DAO has to deal with its own security risks as flawed smart contracts are difficult to amend. Besides, legal issues are hard to settle in decentralized autonomous organizations.
Disclaimer: The information and opinions expressed herein have been obtained from sources believed to be reliable but are not guaranteed for accuracy or completeness; are for information/educational purposes only; do not constitute a solicitation or recommendation for the purchase or sale of any security; are not unbiased/impartial; subject to change; may be from third parties. Opinions expressed are those of the Author and do not necessarily reflect those of B. Riley Wealth Management or its affiliates. Investment factors are not fully addressed herein. For important disclosure information, please visit www.brileywealth.com/legal-disclosures.