The advent of web3 brought about sets of technologies and principles such as blockchain and the concept of decentralization, providing a way for us to interact and transact without the need for centralized systems or third-party involvement.
What is a DAO?
To start with, a DAO is pronounced the same way you say “how” but with a “d.” It is sometimes referred to as Decentralized Autonomous Corporations (DEC) or as “trustless” systems.
A DAO is a blockchain-powered organization governed by rules encoded within smart contracts and the blockchain consensus mechanism. It is a decentralized system that does not require a centralized body or human involvement to operate.
The concept was developed in 2016 when a group of web3 developers wanted to create an alternative to the traditional method of running or managing an organization that involved a centralized body, human input, and intermediaries. This new system, like cryptocurrencies, was designed to eliminate human error, third-party involvement, decision-making bias, lack of trust in managers, and affiliation with or central body. The DAO ran on the Ethereum blockchain and was initially designed for venture capital funding, where people could invest digital assets into pools intended to fund new projects in exchange for "Governance tokens." These tokens can be traded on DEXs (decentralized exchanges) or used to vote on financed projects.
A DAO, like many web3 concepts, is not siloed; they range in size from small to large, span industries and professions, and are created for specific or multiple reasons. Stock.it, a German real estate company, was the first to launch a decentralized autonomous organization (DAO) in 2016, allowing users to buy, sell, or rent property without having to involve third parties. Within two months, the DAO had grown to 11,000 members and raised more than $150 million in ETH through crowdfunding.
Since 2016, other types of DAOs have emerged, adopting the concept and tailoring it to their respective sectors and goals. Protocols are a popular DAO used to provide community-based governance for DeFi and lending platforms like MakerDao (platform responsible for DAI stablecoin), Uniswap, Aave, and even new projects like Moonwell. There are also Social DAOs that provide members with exclusive social services and voting rights in exchange for their membership in the community. A good example would be the APE DAO, owned by the famous Bored Apes Yacht Club (BAYC) NFT community. Members can vote on future partnerships, fund allocations, and other community decisions. Another popular type of DAO is emerging to fund and govern dApps startups in a manner comparable to venture capital investment. Global Coin Research (GCR)—investor in a new blockchain interoperability protocol called Aurora, The LAO, and MetaCartel DAO are notable examples.
How does a DAO work?
A decentralized autonomous organization functions similarly to a class group project with no project leader. The professor outlines the steps to take and the rules to follow in order to receive full credit. Each student contributes to the project, has the right to attend any project-related gathering, and is part of the decision-making process determining the project's success or failure.
The first and perhaps most crucial stage of a DAO is when the creators define and encode the organization's rules and regulations into smart contracts. Details on the operational system, the creation and distribution of organizational assets, the reward system, and the governance structure must be written into the contracts with little or no error because the organization members will make those decisions after the DAO is deployed. The use of smart contracts contributes to the operation of a "trustless" system in which strangers from all over the world can connect on the blockchain, transact, and share interests and goals.
To be fully operational, the DAO will require funding after it is created using smart contracts. Because this is a decentralized method, crowdfunding is typically the primary source of finance, with investors becoming members of the community through monetary contributions that are rewarded by the DAOs issued native token (Otherwise called governance token). The native token becomes the DAO's unit of value, and it can be traded, used to access DAO services, and rewarded for specific activity performance. The native token also serves as the foundation for a governing consensus, allowing members to agree via voting on a course of action for the DAO.
The entire community makes decisions on changes to be completed and the organization's future using the issued tokens. The rules embedded in the smart contracts prevent unscrupulous practices and carry out necessary actions with automated responses independent of its creators or any central body. This process is efficient and transparent, with each member having access to all operational and financial activities and being stakeholders in the organization's decision-making process.
Benefits of Decentralized Autonomous Organizations
DAOs have a lot of merits, some of which include:
The use of blockchain technology and smart contracts have restored trust in members who can transact and interact without the fear of being sidelined or cheated. The open-source nature of DAOs allow members to view the code and assess all operational and financial activities carried out.
A DAO operates without labor, error, or the self-serving interests of human beings. It works entirely by rules and code of conduct embedded into smart contracts that run on the blockchain.
A fair system for the people and by the people, DAOs are community-driven organizations allowing their members to participate in their governance. Every member is entitled to vote on changes they want to see and things they want to be implemented without hierarchical limitations or a few delegates to decide the fate of many.
Shortcomings of Decentralized Autonomous Organizations
The concept is still evolving and, as such, is not without its limitations.
DAOs operating on the blockchain have layers of protection and security measures. It is, however, susceptible to hacks and cyber attacks. The DAO of Stock.it company lost $3.6 million ETH to a cyber hack that was valued at about $50 million at the time.
Most DAO decisions require a majority number of voters to effect an action. This can be a challenge because people may not turn up to vote for several reasons: apathy toward the project to be voted upon, internal factions, time difference, unavailability, inactive members, and so on. They are usually alternatives to bypass this limitation, but wasted time may result in losses and cost the organization many opportunities, especially in such a fast-moving space as web3.
Read Also: How's Web 3.0 different from Web 5.0
What is the future of DAOs?
As it grows in popularity, the industry has seen its fair share of ups and downs. It also holds a lot of promise for businesses and projects that want to explore a new way to finance and sustain their ideas and concepts through favorable and unfavorable market times, as we are currently experiencing. Many industries have yet to fully or partially adopt this intriguing community ownership and control system, and many use cases remain unseen or in the works.
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