You know those people you hear and see but have yet to learn what they do. Well, a Decentralized Autonomous Organization (DAO) has that mystery. And the Boston Blockchain Association (BBA) aimed to demystify DAOs by sharing everything you always wanted to know but were afraid to ask.
DAOs have been on the fringes of a fringe space – the blockchain – and even the few who know about DAOs are challenged to understand them. DAO participants may not even comprehend their uses, risks, and capabilities.
Enter the BBA’s excellent panel hosted at the elegant Boston office of Layer-1 (L1) protocol Algorand, which tackled the topic from critical perspectives: research, technical and systems, governance, founding and operating, and legal and lawfulness.
The panel consisted of:
- Barry Scudder-Davis, Ph.D. Candidate at Bentley studying DAOs;
- Ryan Munn, Chair, VT Blockchain Chamber of Commerce;
- Jake Lynch, Organizer, Boston DAO, Investment Research, L1 Digital AG;
- Sam Nathans, BBA Vice Chair;
- Heather Lowe, Moderator, BBA Secretary, Attorney, Gravis Law.
What is a DAO?
A DAO is a decentralized organization. To say it another way, it’s a community aligned on a mutual goal with a transparent treasury managed collectively.
DAOs benefit from digital governance, and there are discreet benefits from blockchain, especially stored procedures in smart contracts, consensus mechanisms on decision-making, cryptographic proofs of various actions, and the stability, security, and, therefore, reliability of the data.
DAOs create transparency around transactions and voting.
The core question is what can be accomplished with digital-first governance principles for the governance of people.
Technology has created groups that are no longer defined by geography but by common interests. That common objective may be money, ecosystem protection, or other similar goals.
For the most part, DAOs are not autonomous. There are a few where AI or software operate the organization, but most have a few key decision-makers, and thus far, it is uncommon to have a north star across them.
That’s where governance comes in. That’s governance, as in thinking about solutions and voting mechanisms that provide solutions to problems. Blockchains allow for digital governance.
There can be some degree of centralization with that governance. Fully decentralized can be too decentralized, which causes a loss of expertise or experts to get drowned out. It’s critical to have the right degree of decentralized.
DAOs are a new experiment for democracy. They’re building a democratic republic on the technology of people. That’s made possible by the technology of the blockchain. Previous Web versions (Web1 & Web2) acted as digital paper. The blockchain (Web3) provides authenticity. It provides truth. That allows for an iteration of the democratic experiment.
The objective of decentralization is to make a more horizontal organization as far as how decision-making is happening. Existing systems are hierarchical or vertical, and decentralization aims to empower all members instead of favoring those at the top. So it’s essential to determine how to coordinate that consensus.
Decentralization is a good thought, but groups should build toward democratization. Democratization creates decentralization as a byproduct.
A core question for DAOs is what should leverage the blockchain and what is constrained by it. For example, communication may be better off-chain to facilitate rather than inhibit. Those items are better unrestricted by the blockchain.
Use Cases and Buckets of DAOs
Existing use cases can be categorized by mission:
- Protocol DAO. This is an organization that governs a protocol. It’s anything that uses on-chain voting to change smart contracts.
- Investment DAO. This provides more resources than one fund to source investments and do diligence. In addition, instead of multiple parties acting as angel investors, the DAO organizes as a group to be more efficient and effective.
- Social DAO. This acts like a country club. It was popularized by Friends With Benefits (FWB). They share a treasury using a multi-signature wallet instead of a bank account with 150 owners.
- Service DAO. This may be the most interesting and taps into the growing freelance and gig economy. Freelancers around the globe are talented; if they are online, they can use a DAO to manage the client-facing business and set up the back office. In addition, service DAO members can set criteria for clients and who they let into their organization. For example, Developer DAO enables folks previously limited by geography to be paid for their work worldwide.
Risk is critical in inhibiting growth in emerging technologies for each of these, particularly the Service DAO. So how is that risk addressed?
One existing example is captive insurance companies which do insurance without following insurance laws. Disney, for example, has an LLC that houses deductible money for insurance. This capitalizes on efficiencies and deductibles. However, it benefits the captive insurance company instead of the benefit accruing to insurers.
Cargo shipping is a marquee example of captive insurance. They had risk problems with their shipping, which led to the creation of liquidity pools to provide liquidity to shipping companies. This applies to DAOs to insure perceived risk in the field.
To note about DAOs, it’s not always clear what is and isn’t a DAO. For example, does Bitcoin meet the criteria of a DAO?
Regenerative finance (ReFi) is another use case for DAOs. This is a mission to reshape the financial system to create positive externalities. An example of this is carbon markets.
A common trope in capitalism is to vote with your dollar. However, a consumer can’t change a multinational conglomerate. DAOs can create a real impact by voting with your dollars. They make a collective representing the interests of stakeholders. This changes the unchecked power balance companies have had to create improved social and objective outcomes. It does that with improved coordination.
What do you do or want to do with DAOs?
Legal
The legality of DAOs is being explored and discovered as crypto laws evolve. But, for now, do you incorporate the DAO?
Specific statutes allow the DAO itself to be a legal entity. However, you can also have a company with a DAO without the DAO itself as a legal entity.
If the DAO itself should incorporate, one benefit is that it protects DAO members.
When a DAO is created, it is not a registered legal entity. That means it cannot contract in a fully enforceable way. For example, to hire a consultant, that consultant may be concerned about entering into a contract with a DAO. And individual members of a DAO are generally personally liable for the actions of the DAO. States are trying to make laws to protect individuals, which is why people form corporations in the first place – it provides civil and criminal liability protections.
If a DAO is seeking investment, investors want to invest in a legal entity. Therefore, incorporating a DAO may be essential to achieve investment.
There are several countries and states where a DAO can be created as a legal entity. States include Vermont, Wyoming, Tennesee, and Utah. Some countries include Gibraltar, Singapore, The Bahamas, The Caymans, and Switzerland. Each of these jurisdictions has different requirements, such as what is required for governance.
For any legal entity which exists today, a DAO can be designed to fit that legal structure.
The Boston DAO, social, investment, and service DAOs operate in a murky area. Often there are conflicting rules between states and countries. For example, the US government says that if any member is a US citizen, it is a US problem.
It’s vital first to determine what you want the DAO to do.
There are often two classes within DAOs, contributors (workers) and investors/shareholders. It’s assumed nobody will contribute unless they are also an owner. However, active contributors may run into problems being shut down by passive shareholders. So it’s essential to structure the organization to reward people who actively participate.
Securities laws are strict, and an LCC in a traditional fund is limited to 99 people. However, most DAOs have more than 99 members. That rules out anything that looks like a security. In addition, security regulations are expensive and have limitations about who may be a member of that organization. Also, a security is not easily transferable.
A bright line is that a security is anything that pays dividends. So if you don’t do anything and get money for it, that’s a security. Anyways, you don’t want to incentivize passive holders.
Also, updating the membership of a central registry every time membership is transferred won’t work because it restricts and inhibits members from coming and going.
So DAOs must find a structure that rewards active participation without paying dividends or having a stringent registry of members.
Board of Directors
A DAO must prove the treasury is controlled by a board of directors – president, treasurer, and secretary. The board directors must be registered, and the board has to control the treasury.
A DAO’s board may play a role. Some organizations are best served by throwing away the keys after completing their objective and thus don’t need a board or entity (DAO) at all. However, if you need an entity because you interact with the physical world, a board is required by law in every state and country.
What does that board look like, and how does it align with crypto’s ethos?
One option is to give the board negating power but not proactive power. The board must control the treasury. That doesn’t mean the board must be given the right to run away with the treasury. Instead, provide the Board one right: to prevent the treasury from doing a transaction. This gives the board veto power but not unilateral power. That ensures that what the board spends money on is fiduciary.
If there is international ownership, it makes things more complex because US law doesn’t like the lack of accountability around international agents.
Takeaways
DAOs are an experiment in digital democracy that leverages the power of blockchain to create an organization aligned with a mutual goal.
The degree of centralization within governance is essential to find the right balance, and DAOs have several use cases, including protocol, investment, social, and service DAOs. The legal aspect of DAOs is complex, and it is unclear whether and how DAOs should be incorporated. Still, DAOs provide the potential for collective representation and improved coordination of stakeholder interests.
The BBA’s panel set the foundation for what DAOs are, why DAOs provide a better system for organizing and democratization, what they’re being used for, and the applicable legal frameworks.
It’s hard to educate yourself about what’s happening on the edge of innovation, so here are things you can do:
- Join the BBA or similar organizations promoting hubs for blockchain innovation, supporting, educating, promoting, and advancing blockchain technology, and supporting and connecting entrepreneurs with valuable resources.
- Think about your interests and passions and how DAOs could advance them. Research DAOs that are aligned with your values.
- Sign up for the BBA’s newsletter and connect with the crypto community.
What did you learn about DAOs, and what do you still want to understand? Let us know by commenting or reaching out!
That mysterious person may be onto an exciting opportunity. And the best part is that you’re welcome and encouraged to explore it yourself.
