DAOs Explained

It can be hard to define DAOs because of how many different functions they serve. Some DAOs are created to enable a few friends to pool their money together and purchase an expensive NFT. Some DAOs are used as infrastructure to facilitate DeFi transactions. Some DAOs even act as a marketing agency to connect clients with a network of content creators. The common theme of all DAOs is that they bring together a group of people with a common goal.

 

In this post you'll learn:

  • What is a DAO?

  • Why are DAOs important?

  • What are DAOs used for?

  • How do DAOs work?

  • How to start a DAO

 

What are DAOs?

 

DAO stands for Decentralized Autonomous Organization. DAOs are a way of organizing groups of people in a decentralized way. The key difference between DAOs and centralized companies is that DAOs are built upon a token-based voting system.

 

Tokens represent ownership (shares) of a DAO and provide voting rights to their owners.

 

Centralized companies: Shares represent ownership

DAO: Tokens represent ownership

 

To paraphrase Coopahtroopa, think of DAOs like an internet community that shares the same bank account.

 

Why are DAOs important?

 

Problem: Centralized companies are inefficient and typically offer poorly aligned incentives to their employees.

  • Management hierarchy is bureaucratic & slow

  • Lack of employee loyalty due to unbalanced incentives

  • Geographically constrained

 

Aligned incentives between DAOs and their members

When the value of a DAO's token increases, it directly benefits all members. This makes DAO members financially incentivized to work together in the DAO's best interest.

 

Since there is no management hierarchy like a centralized company, any DAO member can create things to add value to the organization. This provides an advantage when compared to centralized companies because any member can demonstrate value without needing approval from management, C-level executives, etc.

 

DAOs can create value in a variety of different ways depending on their strategy and area of focus - more on this later.

 

Autonomous management

DAOs are coded through smart contracts on the Ethereum blockchain. Since Ethereum is a public blockchain, all DAO operations are transparent and autonomous. Smart contracts are coded to control the DAO's every function - such as payroll or fund management.

 

But Paper Ape, why is this important?

 

The decentralized nature of DAOs assures that no single person can compromise the funds it holds. (as long as there are no bugs in the code)

 

Another massive benefit - Code doesn't need to be paid. Having smart contracts manage your organization's processes lowers the overhead cost of running a business.

 

Some centralized companies have even willingly dissolved into a DAO over fear that their current business model will soon be replaced.

 

For example: ShapeShift recently transitioned from a centralized crypto exchange into a decentralized exchange (one of the many types of DAOs) and issued all their users FOX tokens which act as "shares" of the platform.

 

Advantages of DAOs

  • Organizations can be spun up instantly

  • Code manages money & operations

  • Changes to DAOs are voted on by their community

  • Tokens = Votes

  • Token holders are financially incentivized to act in the DAO's best interest

  • Censorship-resistant (Ethereum can't be shut down)

  • Accessible to anyone with internet connection

  • Each member has a voice through voting

  • Management hierarchy is flattened

Potential risks

  • Funds can be vulnerable to smart contract exploits

  • Legal grey area in some countries

 

What are DAOs used for?

There are a variety of use cases for DAOs that pose their own unique advantages/disadvantages compared to centralized organizations. Every DAO is created with a specific purpose or strategy in mind. The list below shows some of today's most common use cases for DAOs.

 

Venture Capital

  • "Investment clubs"

  • Members pool their money together (funds held by the DAO)

  • Members vote on which crypto projects to back

  • Returns are redistributed proportionally to members

  • Ex: MetaCartel

NFT purchasing

  • Members can pool together funds to purchase NFTs

  • Once the NFT is purchased members decide how to use it

  • Fractionalizing ownership among members

  • Using as collateral/lending

  • Creating content or leveraging IP rights

  • Display in gallery

  • Ex: PleasrDAO

Infrastructure

  • Used for facilitating DeFi transactions

  • Ex: Uniswap (decentralized exchange), Yearn Finance (yield farming), AAVE (lending/borrowing)

Charity/Philanthropy

  • DAO's can be set up to collect & distribute funds

  • Transparency + anonymity are very advantageous

  • Makes non-profit organizations more feasible due to lower overhead cost

Communities (Social DAOs)

  • Social DAOs can bring together communities of any niche and build their online presence and help members network with each other

 

How do DAOs work?

 

Before jumping into what's required to start a DAO, it's important to note that there is no minimum size requirement. DAOs can range anywhere from 3 to +10,000 members as long as everybody has a shared goal, group chat, and voting system in place.

 

DAOs have 3 main requirements:

  1. A set of rules to operate under

  2. Tokens for the DAO to spend or reward members with

  3. Voting rights with tokens

In other words:

  1. Strategy / Code

  2. Treasury (bank account)

  3. Voting method

 

Strategy / Code

We've already discussed how DAOs are coded through smart contracts and are created with a specific goal in mind so it would be redundant to explain this again.

 

DAO Treasury

There must be a treasury to hold the DAO's native governance tokens and all the crowdfunded money. This is the "bank account" that all DAO members share and vote on how it's money should be used. The treasury's funds can only be spent after group approval due to rules embedded in the DAO's smart contracts.

 

Voting method

Most organizational discussions for DAOs currently take place on Discord or a forum. Because of this, it's convenient to set up a voting method on whichever platform hosts the majority of the DAO's discussions.

 

How to start a DAO

 

There are 4 main steps in creating a DAO:

  1. Launch a token

  2. Store funds in a multi-sig wallet

  3. Set up a Snapshot space for governance

  4. Create a Discord with token-gated access

 

Step 1 - Launching a token

DAOs are started by launching and selling tokens in order to receive their initial funding.

 

There are two types of tokens that can be launched for a DAO:

  1. Crypto tokens (coins)

  2. NFTs

Think of each DAO token as membership that provides ownership of the DAO, just like shares of a company. Investors receive a proportional amount of shares to the amount of money they deposit.

 

Mirror.xyz has a great platform and guide you can use for crowdfunding a crypto project which can be found here.

 

Crypto tokens

If your DAO launches a coin this means your memberships are essentially denominated in "shares". Some DAOs that denominate in coins require members to hold a minimum amount of tokens in order to become a member. This ensures the members of their community are invested in the DAO's success.

 

For example: A social DAO, FWB, requires members to hold at least 75 $FWB tokens to maintain membership status.

 

Initial coin offering (ICO) is the standard way to release a token. In this method, investors exchange their crypto (typically ETH) for a stake in the DAO. These funds then become the DAO's initial liquidity.

 

NFTs

NFTs can be created as the membership token of your DAO and even have some advantages over coins.

 

For example: If a generative avatar collection is used, it gives each member a unique identity which can increase their emotional connection to the DAO.

 

NFTs are typically launched 1 of 2 ways:

  • Investors generate NFT memberships through minting

  • NFTs are premade and sold on an NFT marketplace

 

Step 2 - Set up a Multi-sig wallet

After deciding which token to use for your DAO, it will then need a decentralized bank account. Gnosis Safe is one of the most highly regarded platforms for setting up a multi-signature wallet.

 

Multi-sig wallet: Requires multiple people to sign a transaction before it's approved.

 

The major benefit of multi-sig wallets are that they assure no single person can compromise the funds in the wallet. This eliminates the chances of any team members acting independently to sabotage the DAO.

 

For example: A multi-sig wallet can be set up so that 3 specified people are required to approve a transaction before the DAO is able to send it out.

 

Step 3 - Creating a Snapshot space

Creating a Snapshot space is where decentralized voting comes into play. Snapshot is a decentralized voting tool that many DeFi companies use to poll their users.

 

A step-by-step guide that walks you through how to create a Snapshot space can be found here.

 

The only requirement for creating a space is that you must have an ENS domain. I made this post explaining what ENS domains are, how to get one, and how to set it up.

 

Step 4 - Token-gated Discord

Creating a token-gated Discord is the final step in the DAO creation process.

 

Within the Discord, private channels are used as members-only spaces where most of the group discussions take place. It's important to still leave public channels available so that DAO members can communicate with non-members who may be interested in learning more about the organization. This also allows the ability to control what information is shared with each respective group.

 

A step-by-step guide on setting up token-gated channels can be found here. It involves using a bot called Collab.Land which assigns roles to users once they verify ownership of your DAO's token.

 

If there are any lingering questions about anything in this article I encourage you to consider joining the Apewell Discord or hitting me up on Twitter.

  • whitediscord1
  • Twitter
  • YouTube