What Are DAOs? Explaining Organizations with No Borders, Hierarchies, or CEOs

Learn all about DAOs, and how they are giving a voice to everyday investors.

Robot sitting under a tree on a digital land.
Created by Kornelija Poderskytฤ— from DailyCoin

DAO, DeFi, and DEX are just a few terms that curious crypto investors will encounter along their journey. 

You probably have noticed the โ€˜Dโ€™ that connects all of them. This stands for decentralization, and in the case of DAO, it specifically refers to a decentralized autonomous organization. 

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Just because an organization is decentralized though, does that make it any different from their real life counterparts? And how exactly do they relate to crypto? 

What Is a DAO?

A DAO (Decentralised Autonomous Organisation) is a community of users who agree on key decisions concerning a service or platform. These members come together on a blockchain, which acts as a cryptocurrency network’s central hub and public ledger. 

A group of people talking to each other as part of a community with a big DAO symbol in the middle of them.
Source: mpost.io

Letโ€™s break down each part of the abbreviation to fully understand what a DAO is.

  • Decentralized: DAOs donโ€™t feature any leaders or central authorities, meaning every member can have their voices heard equally. 
  • Autonomous: This democratized model allows communities to steer a project in a particular direction without the need for a third party. 
  • Organization: DAOs, like traditional organizations, are designed for specific purposes, but they always involve the community in decision-making. 

In a real-world firm, for example, higher-ups make integral decisions that dictate the organization’s future, which the employees must accept. DAOs are designed to remove this hierarchical system and make governance a more equal and democratic process. 

History of DAOs

Some mistakenly claim Bitcoin (BTC) was the first DAO, but this isnโ€™t technically true. 

DAOs entered cryptocurrency with the arrival of the Ethereum (ETH) and smart contracts in 2015. Smart contracts are self-automated pieces of code that essentially act as digital contracts – importantly, they are the underlying framework of DAOs that allows them to function. 

The very first DAO, simply called The DAO, was a venture capital fund where members voted on the moneyโ€™s allocation. It raised over $150 million in total. Unfortunately, a vulnerability in the smart contract resulted in The DAO being hacked, but it proved that these decentralized organizations could work in practice. 

How do DAOs Work?

From a technical standpoint, DAOs run off blockchain technology, meaning that transactions and votes are recorded on the blockchainโ€™s ledger for everyone to see for full transparency. Smart contracts also create parameters and rules for the DAO to have an underlying organizational structure. 

In practical terms, DAOs often use voting systems that rely on governance tokens. When a DAO is formed, newly minted tokens are created. Anyone who holds this token will gain โ€˜membershipโ€™ to the group and voting rights. 

The Decision-Making Process 

A group of small people running around to sign a proposal. On the left is a man piling a piece of paper into a VOTE box.
Source: Peaka.com

Letโ€™s see how voting works from the moment a proposal is made to its eventual implementation. 

  1. Members come together to publish a proposal on their respective community forum or chat service.
  2. Successful proposals will be put forward for a consensus vote.
  3. Token holders will then have a certain number of days to vote YES or NO.
  4. Some DAOs will also include an objection phase where anyone against the proposal can air their grievances.
  5. If more than 50% of the tokens used to vote are dedicated to the YES option, this will trigger the smart contract, and the proposal will be implemented soon after.

DAO Voting Mechanisms 

Though all DAOs share the common goal of giving all members a voice, they achieve this by using their own unique voting systems, each with its own benefits and drawbacks.

Quorum Voting

This is the most basic and widely used voting system, and it relies entirely on community participation. 

For a proposal to pass, a certain number of people must put forward their vote for it to go ahead. This exact number can vary, but itโ€™s often fairly high, so proposals take a lot of effort to push through rather than activating with only a handful of voters. 

On one hand, token quorum voting doesnโ€™t rely much on token value, meaning someone with a horde of tokens wonโ€™t have their vote matter more than others.

On the other hand, bad actors can ultimately use their tokens to influence or bribe others behind the scenes, making it a democratic system in all the best and worst ways. 

Quadratic Voting 

In stark contrast, quadratic voting emphasizes tokens, as they will dictate how many times a person can vote. 

Usually, the number of votes is the square of the number of tokens put down. So if a single token represented one vote, for example, then four tokens would equal two votes, and three would equal nine. 

One major benefit is how this model facilitates user passion. If someone desperately wants a proposal to go through, they can put down a hefty amount of tokens, but if they donโ€™t feel too strongly, they can place one and reserve the rest for another time. 

Itโ€™s a good way to gauge just how enthusiastic people are about an idea on a more personal level. However, this does come with the downside of allowing people who can afford plenty of tokens to have a bigger say than others, and whether theyโ€™re serious or not can be hard to identify. 

Holographic Consensus 

Considering how easy it is to create proposals, you can probably imagine the sheer number of suggestions DAO members come up against regularly. 

The holographic consensus voting mechanism attempts to remedy this by deducing which proposals are most likely to succeed. Proposals are first sent to a โ€˜prediction market,โ€™ where DAO members can stake tokens on whether or not they will work out. 

If their hunch is correct, the member will be compensated with extra tokens, but they will lose tokens if their prediction is wrong. Therefore, you donโ€™t get people predicting randomly just for the chance of earning tokens – these predictions need to be carefully considered to represent the wider community. 

Multi-Sig Voting

Multi-Sig voting is designed as a compromise between a decentralized and centralized voting system, though it is often only used as a last resort for DAOs in critical situations.

In this model, DAO members will still have the power to signal proposals, but a centralized committee will then execute the vote on the suggested proposal. 

This model is quick and efficient but also features the looming risk of the committee acting in their best interests, so a lot of trust is involved to ensure they donโ€™t act out of line. 

Different Types of DAOs

Now that weโ€™ve seen how DAOs work practically letโ€™s uncover what sorts of projects they can be related to and their exact use cases. There are four main types of DAOs to know about. 

Protocol DAOs

As the name implies, these types of DAOs are built to provide the community with a decentralized administration to support their respective protocols.

But what exactly are protocols? They usually take the form of DeFi (decentralized finance) appsโ€”applications that grant investors several financial services, such as enabling them to borrow money (Aave) or trade on a decentralized exchange (Uniswap). 

DAO token holders can, therefore, agree on how their protocol can be improved, such as incorporating new upgrades or security measures. 

Popular examples:

  • MakerDAO
  • Uniswap DAO
  • Aave

Collector DAOs

Collector DAOs can be compared to NFT fan clubs. These communities collect funds to gain ownership over specific NFT collections. 

So, voters get to participate in decisions about what collections should be aimed at, alongside sharing partial ownership of the NFT themselves. These collectibles donโ€™t always need to be NFTs, though. For example, PleasrDAO is the sole owner of the Once Upon a Time in Shaolin Wu-Tang Clan album. 

Popular examples:

  • Flamingo DAO
  • PleasrDAO
  • Jenny DAOย 
  • Unicorn DAO

Investment DAOs

Investment DAOs can be thought of as investment vehicles that multiple people take part in at once. They work similarly to traditional investment funds, but without a centralized entity directing the funds. 

Instead, itโ€™s up to the community votes to decide where the total pool of funds is placed in order to hopefully gain a profitable return. OrangeDAO, for example, can provide up to $100,000 in startups for Web3 projects, which can lead to more Dapps and, in turn, more ways for investors to use and manage their digital assets. 

Popular examples:

  • OrangeDAO
  • Alliance DAO
  • VitaDAOย 

Grant DAOs

This can essentially be seen as the opposite side of the coin from investment DAOs. Token holders in a grant DAO vote for independent developers and projects that they deem worthy of support. 

Sometimes, these grants go towards projects being built in-house within the network or platform, but they can also be for external platforms. For example, UniSwap DAO members decided to pledge over $46 million to the UniSwap foundation to support their development of the Uniswap DEX to make trading easier. 

Popular examples:

  • UniSwap DAO
  • Aave Grants DAO
  • Gitcoin DAO
  • The LAO

Pros and Cons of DAOs

DAOs have clearly proven that decentralized organizations can exist without the need for an intermediary, but considering their youth in terms of development, they can sometimes struggle to live up to their ideals. 

Benefits of DAOs

  • Democratic Foundation: All that is needed to access a DAO is a governance token, and internet connection. DAOs are entirely based around community participation, negating the need for a central authority to make all on-chain decisions. 
  • Personal Contribution: Being able to have a say in the direction of a project or platform incentivises token holders to be more involved with the Web3 ecosystem. It encourages users to discover more opportunities rather than letting others do all the work. 
  • Transparency: As mentioned previously, DAO votes are logged onto a blockchain, making them visible to everyone. This ensures that there have been no alterations or tampering, clarifying the fairness of a decision. 
  • 24/7 Functionality: Being accessible internationally means that people are always engaging in an organization or group, increasing overall efficiency. 
  • Lack of fees: Since DAOs operate on smart contracts, they don’t have teams of people working behind the scenes who need compensation. This makes DAOs, in general, very cheap in terms of fees. 

Drawbacks of DAOs

  • Security Vulnerabilities: Smart contracts can sometimes contain specific vulnerabilities that hackers can exploit. Therefore, developers are trusted to ensure that their contracts are tight-knit and secure. 
  • Regulatory Compliance: DAOs occupy an unusual space in the regulatory landscape, primarily because regulators donโ€™t know how to deal with them. Therefore, they occupy a gray area where itโ€™s difficult to predict whether they could become altered or even clamped down on entirely in the future. 
  • Voting Speed: Encouraging a community of people to vote rather than a central group can take much longer, meaning upgrades and implementations arenโ€™t always activated immediately. 
  • Highly Technical: DAOs are highly technical, so having some prior experience with blockchain technology is highly advised. Familiarizing yourself with Dapps can be a good starting point for understanding how they work and how the DAO could improve them.

Are DAOs Truly Decentralized?

Some critics argue that DAOs cannot be considered truly decentralized, at least not some of them, due to their voting systems. The main target of this argument is multi-sig voting mechanisms, but it can also occur in others.

Letโ€™s take the example of a UniSwap vote in 2023 to choose a technical developer who would deploy UniSwap on another blockchain. One venture capital investment firm, a16z, held more than enough tokens to singlehandedly refute the vote if they wanted to. 

Luckily for the advocates, a16z had dedicated most of its tokens to other parties at the time. However, this just goes to show that, although DAOs strive to be decentralized, gaining control can still be possible in some cases. 

Thinking of Joining a DAO?

If all of this has got you curious about becoming a DAO member yourself, here are a few key considerations to take into account to know which will be best suited for you:

  1. Research community perception: Skim through the DAOโ€™s community forum and user reviews of the DAO on platforms like X to uncover how trustworthy and effective they are. 
  2. Identify the intent: Is a DAO aiming to invest in new NFT collections? Or maybe theyโ€™re dedicated to upgrading a new protocol? The important point is to ensure you are interested in the intent of the DAO and what it was built for. 
  3. Choose a voting system: DAOs can use one of many different voting systems, so pick one that gives you as much voting power as you would like. 
  4. Look for any extra requirements: Some DAOs will require extra requirements, such as owning a minimum amount of governance tokens or using a specific wallet

On the Flipside

  • The regulatory status of DAOs has long been unclear.
  • This creates uncertainty about their longevity and whether authorities will heavily modify or clamp down on them in the future until they decide how to interact with them. 

Why This Matters 

Though the crypto ecosystem has already gained considerable recognition and support, it can only evolve with community participation since there is no central leader to guide it forward. 

This is why DAOs are so important to know about and participate in, as they allow the community to support their projects as part of an equal and fair process. 

FAQs

What is ConstitutionDAO?

This was a DAO that attempted to raise over $40 million to purchase a copy of the U.S. Constitution, but it was eventually outbid.ย 

How Many DAOs Are on the Ethereum Blockchain?

As of 2024, 22 DAOs on Ethereum are accessible through the Alchemy Dapp store.

What is Dai?

Dai is the native token of the Maker DAO group. It is a stablecoin, meaning its value is pegged to the US dollar.

This article is for information purposes only and should not be considered trading or investment advice. Nothing herein shall be construed as financial, legal, or tax advice. Trading forex, cryptocurrencies, and CFDs pose a considerable risk of loss.

Author
Ewan Lewis

Ewan Lewis is a Blockchain Writer at DailyCoin who produces profile & educational articles. Ewan has minor holdings in Bitcoin and Ethereum.

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