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Decentralized Autonomous Organizations (DAOs) And What They Do

| November 17, 2023

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The concept of decentralization introduced to the world by blockchain is breeding ingenuity in several fields. By replacing centralized systems and processes, decentralization solves various pain points that have been prevalent in centralized operations. To most observers, blockchain technology might only seem like an alternate way to transact or indulge in finance. While this is far from the truth, the immense popularity of cryptocurrencies like Bitcoin can make it seem like the blockchain is just a facilitator for storing and moving value.

The Ethereum network, an innovative fintech advancement in its own right, is responsible for expanding the blockchain’s use case beyond simple finance. The network functions as a massive, decentralized computer for the world to use. The ability to automate processes on a decentralized network brings the possibility of creating several trailblazing applications and structures. While there exist plenty of blockchain-based creations creating waves out there, one is gaining large traction. Decentralized Autonomous Organizations are a popular by-product of blockchain ingenuity.

What Are Decentralized Autonomous Organizations?

Decentralized Autonomous Organizations, or DAOs for short, are organizations leveraging blockchain decentralization to bring democratic business practices, replacing the top-down corporate structures that exist today. In addition to decentralization, DAOs are present on programmable blockchains like Ethereum, making use of the smart contract capabilities.

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Smart contracts bring automation to the execution of processes, removing the need for excess human intervention. The Smart contract codes execute desired functions programmed into them when the necessary conditions are met. A simplistic understanding would be to picture them as “if-then” statements deployed on a programmable blockchain.

Together, decentralization and automation are the underlying factors allowing DAOs to exist and function. DAOs can be thought of as an alternative organizational structure that contains individuals who are aligned in achieving certain goals. Instead of functioning like a traditional organization or a corporate boardroom, DAOs lack hierarchical structures. There is an absence of leadership and, further, the absence of power concentrated in the hands of a few. Therefore, they operate in an autonomous fashion where nobody exhibits control over their functioning.

What DAOs Do Differently

An issue that traditional decision-making structures arouse is the lack of representation of the opinions of entire organizations or communities. Instead, a select few like the CXOs of organizations are fully entrusted with decision-making powers. This leads to an imbalance where the few with the ability to make decisions do so without considering how it could affect everyone else.

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DAOs eliminate power-centric structures, allowing all their members to become part of the decision-making process. Members are financially invested in the DAO projects they are a part of. They acquire the DAO’s governance token to be a part of the decision-making.

Token Implementation and Usage

The amount of governance tokens held by a member is proportional to the power their vote holds in the decision-making process. For instance, a member with fifty governance tokens could cast fifty votes, a member with twenty governance tokens could cast twenty votes, and so on.

The implementation of governance tokens serves a few purposes. The acquisition of the tokens needs the members to exchange it for value like fiat or other cryptocurrencies. Since the members buy into being a part of the DAO, they are highly likely to make decisions that help the DAO thrive. Obviously, the larger the sum on the line, the more inclined the members are toward making the right calls. Therefore, DAO members with larger amounts of tokens possess greater voting power than those with lesser numbers of tokens.

Additionally, the value of the DAO tokens incentivizes good behavior amongst the members. As the DAO succeeds in meeting its objectives, gains popularity, and attracts more members, the value of the governance token increases. Thus, the members holding the tokens profit because of the appreciated value. It then becomes logical to exhibit good behavior within the DAO’s governance structure.

DAOs are increasingly being implemented to manage all sorts of operations, leading to increased adoption by communities revolving around blockchain projects. Many DeFi projects are issuing governance tokens for its users to acquire and participate in critical decision-making processes that shape its future. In most cases, the governance token holders also get to enjoy additional benefits through participation in yield farming and staking protocols.

‘The DAO’ – Infamous Origin Of All DAOs

Although DeFi is propagating the popularity of DAOs, the original one was created for slightly different purposes. ‘The DAO’, for example, was the first ever DAO created and deployed on the Ethereum chain in 2016. It was to function as a decentralized venture fund, enabling those staked into the project’s growth to decide what kind of blockchain projects to fund and grow using the funds in reserve.

However, the plans fell through when an attack led to the attacker walking away with USD 60 million worth of Ether. The attacker took advantage of a vulnerability present in the application’s smart contracts, ultimately resulting in the forking of the Ethereum chain to mitigate the damage and recover lost funds.  However, let’s not dwell on that for now.

DAOs’ Reliance on Smart Contracts

DAOs establish reliance on smart contracts for all their functions, governance included. When proposals are brought to a DAO’s members, they cast their votes for what they find favorable out of the available scenarios. The smart contracts are set to execute based on what the majority votes for. While there are nuances to how different DAOs work, they follow a similar approach.

For instance, a DAO is created for users to collectively purchase NFTs. Of course, the intent is to buy the right NFTs so the community can profit together when the NFTs go up in value. While communication can take place off-chain on messaging applications, the proposals are brought on-chain at decided times. The members then vote through the DAO smart contract on whether a particular NFT should be purchased. If a majority is reached for it to be purchased, the contract executes the purchase with the funds in the DAO treasury. If the members collectively decide against purchasing it, the smart contract does not execute the purchase.

The use of smart contracts makes DAOs truly decentralized in their operations. It eliminates the corruption arising from human presence in the execution of tasks like tallying votes, storing and transferring DAO funds, and more. The open-source nature of smart contracts, further, allows members to audit and verify the legitimacy and claims of the DAO developers before they join it. Moreover, all the DAO’s governance proposals, because of smart contract execution, will be stored on the blockchain – making governance processes highly transparent.

Where DAOs Are Presently Lacking

Smart contracts come with downsides too. Blockchain immutability makes rolling out updates to DAO projects a severely complicated process. So, if the smart contract code gets deployed with bugs or vulnerabilities, it could mean disaster to the members. Since fixing the bugs may not be feasible, attackers can find ways to break into the treasury funds stored in the smart contracts and drain the treasury dry while the members look helplessly. ‘The DAO’ attack was executed the same way.

Moreover, DAOs also get criticized for not being able to make decisions in real-time. Since they aim to replace corporate boardrooms, their inefficiency and slow decision-making processes may prove to be a block to their adoption. It takes plenty of time to come up with proposals, inform members of them, and execute the voting process. CXOs of centralized companies can make decisions much faster, sometimes in a split-second. Such action cannot be executed by DAOs yet.

DAOs Are Making Decision-Making Democratic and Profitable

DAOs are a novel breed of blockchain use cases making their mark in the world of decentralization and beyond. They are revolutionizing the way businesses and organizations function by decentralizing an important component of all organizations – the decision-makers. DAOs can make their processes highly democratic and remove any corruption that is present in them today. With that, DAOs also allow users from all over the world to become stakeholders in organizations they find a calling towards, help with their objectives, and profit because of their participation – all thanks to blockchain technology.

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