“Once we wrapped the globe in endless circles of wires crossing the deserts and beneath the oceans, decentralization was not only possible, but inevitable.” - Kevin Kelly
Bitcoin was the first decentralized P2P currency. The technology of Bitcoin also came with a paradigm shift of executing a large-scale project. Bitcoin has no CEO or formal organization but the protocol provides financial services to anyone and everyone. The participants in the ecosystem work with each other in isolation or camaraderie to achieve a shared objective. Bitcoin created a novel way of running a network on a continuous basis and it was the precursor of the DAOs of today’s era.
What is DAO?
DAO or Decentralized Autonomous Organization is an organization without any central leadership or hierarchy. A DAO comes with a structure where the stakeholders participate in decision-making and operating as per the code of conduct and internal law. The rules can be amended by the stakeholders through democratic voting. The world was learning to adopt digitalization some years back but the pandemic really changed everything. Now we prefer to do so many things digitally. A DAO is operated by digital method without any physical intervention. There is no physical address of a DAO. The involved technology is blockchain technology and a DAO generally exists as a smart contract on the blockchain (a light social DAO can be created by communities without on-chain governance).
The controversy with the first DAO
The first DAO in history is known for its famous failure. In 2016, a decentralized autonomous organization was created on the Ethereum blockchain with the objective to provide a new decentralized business model for organizing both commercial and non-profit enterprises. The code was open-source and the crypto enthusiasts participated in the crowdfunding via a token sale in May 2016. The collected ETH was supposed to be used to fund new projects as per the voting of DAO token holders. It was the largest crowdfunding in history at that time. In June 2016, a security issue was found in the contract and before the developers fixed the issue, an unknown attacker drained 3.6 million ETH from the contract to a ‘Child DAO’. The price of ETH tanked to $13 from $20. The Ethereum community led by Vitalik Buterin decided to hard fork the blockchain to restore all funds to the original contract. The controversial fork led to a chain split of the Ethereum blockchain. The original unforked blockchain is known as Ethereum Classic today.
The present state of DAOs
Although the first DAO was a great debacle, the developers and blockchain enthusiasts saw potential in the concept. The infrastructure to operate a DAO couldn’t be provided by Bitcoin due to the lack of smart contract functionality in the base layer. Ethereum became the favourite blockchain for the developers to create smart contracts and many DAOs were efficiently created on the Ethereum blockchain along with time. A DAO acts as a venture capitalist fund by having a fund-raising objective. A DAO, created with the objective of donation, acts as a charitable trust. The scope of a stateless DAO is really enormous. The majority of cryptocurrency project foundations (ex – Ethereum Foundation) operate as DAOs only. Billions of dollars are being controlled by several DeFi or decentralized finance DAOs. Compound Protocol, MakerDAO etc. are managing the users’ funds through automated smart contracts but they’re also having DAOs. The role of DAO in such protocols comes into play while taking important decisions like including any asset, deciding lending-borrowing APY of an asset or any other strategic step. COMP holders for Compound Protocol and MKR holders of MakerDAO take part in the on-chain voting process. The vote weightage is proportional to the governance token holding amount. The system is just like voting in the boardroom of a corporate decision-making meeting, but here, the process is participatory, permissionless, and transparent.
Image Source – DAO Landscape 2021
“The most important scarce resource is legitimacy” – Vitalik Buterin
DAOs are redefining the organizational operating process but what is the legitimacy of DAOs? The American CryptoFed DAO is the first DAO to be recognized as a legal entity in the US recently. CryptoFed DAO operates as a smart contract on the EOS blockchain. The Wyoming Secretary of State's office has created a separate form of limited liability company (LLC) category and the law is effective from July 1, 2021. It’s difficult to bring a DAO under legal purview when the anonymous members are known by their wallet public addresses but change is the only constant in this world. Law must evolve in accordance with the changing business situation. The sudden rise of DAOs in the field of NFTs and DeFi isn’t a discrete phenomenon. The world should be ready to embrace a new type of organization. The next generation business is going to be decentralized.
Note: This post was first published here for Cryptowriter.