DAOs: What Are They Good For?

“Like all great things on the internet, it started as a meme.”

That’s how Jonah Erlich, a software engineer, described how he and 17,000 digital strangers ended up crashing a Sotheby’s auction in December.¹ Erlich was one of the founders of ConstitutionDAO, a decentralized autonomous organization that raised $47 million in less than a week in order to buy a first edition copy of the U.S. Constitution. While its effort came up short, the episode encapsulated the froth and intrigue that surrounds DAOs.

DAOs have received a lot of press in recent months, but when you strip away the obfuscating language used to describe them, you’re left with something that’s both mundane and novel. DAOs are digital-native organizations that are owned and run by their users. From an organizational standpoint, DAOs are not a new concept—cooperatives owned and run by their members have existed for hundreds of years. What’s novel is DAO’s use of blockchain technology, smart contracts, and tokenization to create, manage, and scale a collective. This digitization of collective governance, including the use of tokens to vote and to compensate and reward participation, enables new types of online communities to quickly form. These organizations are fully transparent and have balance sheets in the form of digital wallets that hold funds contributed by members.

DAOs are still very much in an experimental phase. As of the end of February, there were fewer than 5,000 in existence, according to DeepDAO, and they collectively held less than $10 billion in their treasuries. But a few major categories of DAOs are already emerging, including:

Protocol DAOs. The largest DAOs—and the ones managing the most assets in their treasuries—are decentralized finance (DeFi) applications like Aave, Compound, MakerDAO, and Uniswap whose creators decided to organize as collectives. These DAOs issue governance tokens to users who can vote on proposals such as accepting new asset types as collateral or adjusting the parameters used to determine interest rates. Members also vote on proposals submitted by outside companies offering services like treasury management and dispute resolution. One such company we spoke with, Gauntlet, which makes risk modeling software that can simulate how protocol changes may affect a DAO’s treasury, has developed a process for writing and targeting pitches to win votes.

Investment DAOs. DAOs are often described as a group chat, subreddit, or internet community with a bank account. This reflects the fact that many of them have been created simply to pool capital and collectively invest in certain types of assets or projects. Investment DAOs like PleasrDAO and Flamingo focus on collecting NFTs and other digital art while MetaCartel and BitDAO operate more like crypto incubators, funding promising blockchain projects. Some investment DAOs focus on real-world assets. SneakerDAO acquires lines of shoes its members believe will become collector’s items while CityDAO bought 40 acres in Wyoming to build a city that will operate on the Ethereum blockchain.

Social DAOs. Some DAOs focus mainly on community building. The Komerebi Collective and Meta Gamma Delta both aim to support and fund women founders in crypto. PlannerDAO was built to be a networking group for financial advisors where they can learn about digital assets from other members who are already familiar with the space. The Bright Moments DAO is a kind of global NFT roadshow focused on onboarding new people into crypto in each city where it stops. CabinDAO manages a retreat outside Austin, with its more than 280 token holders voting on which tech creators should be granted residencies in the cabins. One visitor helped launch ConstitutionDAO while living on the retreat.²

Philanthropic DAOs. Nonprofits are also experimenting with DAOs. For example, Diatom Dao’s mission is to protect the oceans by halting plastic pollution while KlimaDAO aims to accelerate the price appreciation of carbon assets. Last year Kimbal Musk, Elon’s brother and fellow billionaire, created the Big Green DAO. The organization is an offshoot of Big Green, Kimbal’s decade-old nonprofit that tries to help communities better grow their own food. Kimbal, who launched Big Green DAO with $1 million of his own money, structured the organization so that all donors and grant recipients receive a token and vote on who should get funds. “Money will be trackable, votes will be transparent, in a way that doesn’t happen with the traditional philanthropic system,” says Mat Markman, who along with Kimbal helped design the Big Green DAO’s structure.³

DAOs Need Better, More Secure Tech and Legal Clarity

DAOs are buzzy and have some early momentum, but their continued growth will depend largely on some critical challenges being addressed, including:

Glitchy, slow tech. Like DeFi, the DAO landscape can be difficult to navigate particularly for those not well-versed in crypto. Users often have to shift between browser windows to use different tools and may get error messages or delays when they try to vote. But the tools are improving, with some companies offering hosting platforms that can make it easier to spin up, manage, and integrate different functionality into a DAO. Colony claims it takes as little as 90 seconds to create a DAO using its platform and Aragon now offers different DAO templates based on the most common use cases.⁴

Security concerns. The first DAO ever created, The DAO, was infamously hacked in 2016 when a person stole $50 million from its treasury. Today some DAOs remain just as vulnerable to hacks as other sectors of the crypto economy. Most DAOs, for example, operate on Discord servers that require a membership token to access. In January, someone stole $95,000 from CityDAO after hacking one of that project’s Discord accounts.⁵ But better smart contracts and wallets have the potential to make DAOs safer and easier to audit. Gnosis Safe’s multi-signature wallets now hold more than $86 billion in digital assets, including significant DAO-owned assets.⁶ And Consensys offers an audit service that helps DAOs ensure that the smart contracts they use are secure.

Legal uncertainty. DAOs are typically not formal legal entities and, as with DeFi, existing laws provide little clarity about their regulatory and tax standing. Last year Wyoming became the first state to recognize DAOs as a legal structure, giving them the same rights as an LLC. But the SEC still halted attempts by American CryptoFed DAO, which was recognized under the Wyoming law, to register two digital tokens as securities.⁷ So DAOs will operate in a gray area until regulators clarify matters. However, new tools are emerging attempting to allay concerns about DAO’s legal status by wrapping them in recognized corporate structures. Syndicate and Doola guide users through the process of registering DAOs as LLCs. Tribute Labs makes legal agreements that work with Ethereum. In the nonprofit sector, Endaoment, a 501(c)(3) public charity, sets up donor-advised funds and community field-of-interest funds that are run via smart contracts and are not traditional registered funds. If ConstitutionDAO had won the Sotheby’s auction, it planned to have Endaoment hold its copy of the constitution until members voted on what to do with it.

Until technological, legal, and security risks are addressed DAOs are unlikely to disrupt traditional corporations. But there are fundamentally interesting things they can do which is why DAOs deserve some attention.

The evolution of the DAO. As more individuals are provided greater access to digital assets, DAOs may prove to be a tool that might attract interest from a range of groups, from small investment clubs to large financial institutions. We’re already seeing glimpses of what these interactions might look like. In September of 2021, the French bank Société Générale submitted a proposal to MakerDAO, which manages the stablecoin DAI, asking the protocol’s token holders to accept crypto bonds issued by the bank as collateral for a DAI loan.⁸

FCAT is actively engaged in DAO experiments. Associates across several FCAT teams have created a DAO to understand their structure and process. While not everything is better run as a collective, there are places inside corporations where experimenting with DAOs and DAO tools could make sense. DAOs are good at bringing talented people together around a shared passion. The tools make it easy to vote on issues and reward people for their contributions. Incubators, affinity groups, and corporate clubs may benefit from adding elements of DAOs to their structure. For example, DAOs might be an effective organization tool for new business experiments that need to quickly identity employees with talent and passion in a specific area.

A DAO makes a splashy real-world purchase. ConstitutionDAO received an enormous amount of media attention for its failed bid to buy a piece of U.S. history. Other DAOs have since formed with ambitious real-world ambitions, with the serious ones creating an LLC or C Corporation to make the actual purchase. If one of these is successful it will further increase interest and scrutiny of DAOs. It may also be a dog-who-caught-the-car moment as the winning DAO deals with all the unexpected governance issues that come with collectively owning something like a sports team or a golf course.

Corporate uses for DAOs emerge. Creating a DAO within a traditional corporation may be anathema to DAO purists, but if companies start experimenting with DAOs and DAO tools, it could signal that there’s real innovation and creativity being unlocked by these organizations. “There are so many features and processes in any given company that can be more efficient and productive using a decentralized, trustless approach,” investor Mark Cuban tweeted last year. “As companies are built on this approach, we will see some incredibly disruptive businesses built.”