Making sense of the fuss about DAOs.

Communities are inherently valuable. They bring together members’ resources, skills, knowledge, and experiences to create value for members and other people who engage with them. From crowd-sourcing advice to supporting non-profit causes and even reality show favourites, communities have historically been used to accomplish and advance all kinds of goals. For instance, in many African societies, community-based initiatives like cooperative societies are an age-long vehicle for enabling millions of unbanked people to access credit and other financial services.

As we have spent more of our time on the internet over the last few years, we’ve created and established more of these communities online. We’re part of groups on WhatsApp, Facebook, Reddit, Quora and so on. These internet-based communities are able to leverage even more resources and run more efficiently because there are no geographical boundaries to membership. People from different backgrounds can bring diverse perspectives and skills to make their communities more valuable. The influence and value of these communities are also able to reach more people worldwide. Communities no longer have to be made up of just people who look like us; they can be formed around more diverse factors like ideologies, hobbies, and even arbitrary interests.

Depending on the community goals, physical communities can often create and give financial value to their members. For instance, a local community of teachers could pool money together to start a business that allows the members to split profits. They can do this because it’s easier to develop the level of trust and coordination required to manage financial resources when community members are in close proximity to one another.

This isn’t the case for online communities where members tend to be strangers spread out across the globe. It’s near impossible to build trust and coordinate decisions. For instance, if you’re part of an online group of digital art enthusiasts and your group decides to go beyond discussing art to maintaining a collection, it could be almost impossible to manage. As such, the financial value created by internet-based communities today ends up being captured by the community “leader” or the host platform (e.g. Reddit).

To financially co-ordinate, members would need:

• A legal backing to enforce rules and regulations within the group. To do that, you would need to register the community as an entity. It becomes a logistical nightmare if it’s a large group of people from different countries, as is typical with internet-based communities. You’d have to handle conflict over what jurisdiction the entity should be in and any other complications that arise because the law isn’t always interoperable across borders.
• A bank account to make and receive payments. Again, we have the same logistical and legal challenges from the point above. You’d need to be able to pool money together and manage the group’s finances transparently and conveniently. This requires the community to trust one person (or a few people) to act as custodian(s) of the fund. Even if members vote a certain way, they have to trust the custodians to do right by them. If pieces from a collection get sold, you also have to figure out disbursements to individual accounts.
• A scalable way to make decisions in a manner that is democratic and fair. While a public poll could work for some kinds of decisions, coordinating high-stakes (i.e. financial) activities with strangers demands the most transparent tools for making and enforcing decisions. You need to ensure that no single community member can change anything without the group’s explicit consent.

These points boil down to the need to have a central theoretically-neutral entity that the group/community can “trust” — whether it’s a government, a bank or a voting tool. Having members across the globe makes the first two nearly impossible. It makes it difficult to create any kind of sustainable community-owned organisation with a financial component.

A Decentralized Autonomous Organization (DAO) is an internet-native type of organisation that solves these problems using blockchain technology. It eliminates the need to trust any human or central entity by maintaining these three parts of the organisation on a publicly accessible and unchangeable ledger called a blockchain.

The rules of a DAO are written as code (in smart contracts) and deployed to the blockchain. Once deployed, they will consistently execute as written and cannot be changed except through a previously agreed-upon mechanism. DAOs don’t receive their legitimacy from a government (agency); instead, they do so through their community’s coordination and incentive structures and the rules enforced on the blockchain.

Going back to the previous example, here’s how organising your online group of art enthusiasts as a DAO would work:

• It would be “registered” on the blockchain as a smart contract or set of smart contracts. Before the DAO is established, members agree on the rules and regulations, and those rules are converted into code and become the organisation’s binding constitution. The code is visible to all. Once deployed to the blockchain, they can only change the smart contract by a method already programmed into it. Because anyone with a wallet address can participate, there’s no geographical limitation. Everybody is a citizen of the internet, and the rules are enforced equally.
• Voting in DAOs is done on the blockchain (referred to as on-chain governance), so everybody can see the results. The winning decisions are executed automatically as part of the smart contract. Community members could all be in the same place or distributed — it doesn’t matter. The community can reach conclusions in a manner that is democratic, inclusive and transparent.
• The DAO’s fund (called a treasury) will also be held transparently on the blockchain. The smart contract will contain and enforce the rules around how funds will be disbursed. For instance, you could decide that at least 60% of the DAO members must sign a transaction before sending money out of the treasury. You could also program it to send 60% of art sales revenue into the DAO treasury and disburse the rest to members according to their contribution. This will all happen automatically and transparently, and you won’t need any member to oversee it after the contract has been deployed.

You can think of DAOs as a cross between a company and a cooperative society. While it’s a separate entity that can conduct business, employ other people, make investments etc., it is owned by all the members, and they get to participate in decision making.

Most DAOs have a token that is used for governance. Each member of the DAO is a shareholder (or token holder) and can vote to the degree of their token ownership. They can propose changes within the organisation and rally other members to vote for their ideas. In some cases, e.g. with Uniswap’s UNI token, the DAO’s governance token also has market value and can be traded. This leads to additional value accrual to DAO members if the token price rises in the market. However, a noteworthy argument against having governance tokens with market value is that it could lead to misalignment of incentives such that it attracts people who only care about flipping the token for a profit but don’t care about the DAO’s mission.

DAO Applications

• Product-Building DAOs: You can set up a DAO to build and launch products for public use. For instance, PartyDAO was created to build PartyBid, a tool that allows people to bid on digital assets collectively. The DAO started with an initial crowdfund on the Ethereum blockchain that was open to people from everywhere in the world. Backers would fund with Ether and receive $PARTY tokens. Holders of the $PARTY token own the product and any other product that the DAO launches. They collectively make decisions about the product(s), and as the product grows, they’ll receive any financial upside.
• User-owned Products: Organizations can use the DAO structure to empower users of a product to become owners. Users can receive ownership tokens that give them decision-making abilities and entitle them to profits. Redistributing profit to users in this way tends to make the users even stronger product evangelists. An example of this is the decentralised publishing platform and DAO, Mirror. Users can become owners of the platform by earning and burning their $WRITE token. As more users contribute to the platform’s growth by publishing high-quality content, they will eventually also earn financial rewards. Imagine every Facebook user being able to make decisions about how Facebook is governed and being entitled to a revenue share in Facebook.
• Independent Media Organizations: Special interest media groups such as journalists could form a DAO focused on publishing the kinds of stories they want to tell without restrictions from “top management”. Through the DAO, they can crowdfund as a collective, hire writers (who might not be DAO members), commission work for revenue, publish their work and split profits. The members can be anywhere on the planet and could even be pseudonymous. They don’t need to know each other, and they would still be able to coordinate effectively.
• Venture DAOs: A group of people could create a DAO as a vehicle to invest in ventures and projects as a collective. They would pool together their funds in the DAO treasury and vote together on deals. The DAO can also own non-fungible digital assets, and its members will essentially hold ownership stakes of the asset. Komorebi Collective is a Venture DAO focused on funding female and non-binary crypto founders.

Considerations to organising as a DAO

While DAOs are effective for coordinating financial incentives and decisions in community-based groups, they are not suited for all kinds of organisations.

There are cases in which having several decision-makers could slow down or reduce the quality of decision making. Some DAOs mitigate this problem by allowing token holders to delegate their votes to other users. DAOs requiring a high degree of mission alignment or knowledge solve this by restricting membership access to only people to meet specific pre-defined criteria. For instance, Mirror’s $WRITE tokens aren’t available for sale publicly. Every week Mirror airdrops ten tokens to prospective members who are voted in by existing members. The culture and community DAO, Friends With Benefits requires prospective members to fill out an application to get approved even if they have the required tokens. There is ongoing research and several theories about the optimal number of DAO members to maintain speed and quality in decision-making.

Another primary consideration with setting up as a DAO is that vulnerabilities can be fatal. Since with DAOs, the smart contract is essentially law, if there are any bugs deployed to the blockchain, it will enforce them as part of the contract. Fixing these vulnerabilities will require DAO members to submit proposals and vote, all of which can take some time depending on the previously written rules in the contract. Generally speaking, there is no “human mediation” to speed up the process or make any quick fixes until all the rules are followed. This is by design and is one of the things that makes smart contracts so powerful and valuable.

Lastly, because DAOs are not yet popularly recognised as legal entities that can run separately from the owners by governments, they are currently more suited to organising digital over physical property. However, some progressive governments are beginning to give DAOs legitimacy within their jurisdiction. The Wyoming government recently passed the Wyoming DAO bill legitimising DAOs as a type of organisation similar to an LLC that can “form and operate for any lawful purpose, regardless of whether for profit” separately from the individual members.

Conclusion

DAOs can be used to achieve anything from one-off projects to non-profit initiatives, full-blown companies, and long-term projects. Like LLCs (Limited Liability Companies), they function as a unit through which a group of people (or entities) can collaborate and create all kinds of value. Rather than bind us to geography or a central entity, they allow us to coordinate around jointly developed value in a  borderless, permissionless and transparent way.

DAOs also present a new way for people with varying commitment levels to own and run an organisation. Most DAOs have a core team that oversees the day-to-day activities and other members who contribute to varying degrees and receive commensurate rewards. Regardless of their commitment level, members are incentivised to go above and beyond because they benefit directly when the DAO’s goals are achieved.

Getting Involved

• Any group of people can create a DAO to achieve a common goal. Colony and Aragon are two popular tools for creating DAOs. You can find a comprehensive list of tools for building your DAO here.
• You could also join or contribute to an existing DAO. Here’s a list of popular DAOs to explore.
• Learn-to-earn platform, Rabbithole has a quest to help you join and contribute to a DAO here.

Thanks to Tomiwa Lasbikan, Jackson Dame and Leigh Cuen for their valuable contributions to this article.