Decentralized Autonomous Organizations as the Killer App of Blockchains

Now that Ethereum is starting to gain momentum, it is time to start talking about what types of applications that blockchains enable that the internet alone could not provide. Payments have always been touted as the killer app of Bitcoin and other cryptocurrencies, but it is clear with all of the fascinating apps that are being developed on the Ethereum platform that blockchains can do much more than payments. In this post, I will highlight one of the most interesting and controversial use cases of blockchains, decentralized autonomous organizations, or DAOs. Most of the DAOs I mention are on the Ethereum blockchain, but DAOs are can be implemented on other blockchains as well.

Note: In this post, I will use the word "blockchains" instead of "The Blockchain" to refer generally to the various blockchains in existence. Typically when I hear "The Blockchain", I think of a specific blockchain like the Bitcoin blockchain or the Ethereum blockchain. I am not a Bitcoin or Ethereum maximalist, and acknowledge that a DAO can be created on any blockchain that supports smart contracts.

Decentralized Autonomous Organizations as the Killer App of the Blockchain

There is much debate about what will be the killer app of blockchains. While many people point to payments as the killer app of blockchains, I do not think that that will be the case except for possibly in emerging economies where most people are unbanked. Consumer payments will not be the killer app of the blockchains for the rest of the world.

Blockchains Provide a Weak Value Proposition for Payments

While many Bitcoin proponents say that in the future, everyone will be using Bitcoin to buy coffee, there really is no compelling reason for everyday consumers to start paying for goods and services using cryptocurrencies. If I go into a coffee shop and buy a cup of coffee with my credit card, there are many advantages over using cash. I get 1.5% cash back on the purchase, I do not have to pay for the coffee until my next credit card statement, and I immediately receive a notification on my phone that the transaction went through that I can reference later. Of course behind the scenes, the coffee shop does not receive the funds immediately, but as the consumer, it's as if the transaction happens instantaneously. It may show up on my transaction history as pending for a day or two, but who cares? I am not going to pay for my transactions until next month anyway. From the consumer's perspective, what do cryptocurrency payments offer over credit cards that is so compelling that an everyday user will switch to using cryptocurrencies?

Venmo is another example of a peer to peer payment system that already works great. It is only peer to peer from the users' perspective because all of the payments go through Venmo, and it uses a centralized server, but the transactions between users are free of fees if you use a checking account, and happen instantaneously. The only significant downside of using Venmo is that it takes a few days to transfer money from the platform back to your bank account. For consumers, payments work great already. Blockchains do offer some benefits in payments, most notably security, privacy, and the ability to trust mathematics and algorithms instead of centralized entities. These advantages come with trade-offs in convenience that make consumer payments an unattractive use case for the majority of people. Consumer payments may gain traction as a blockchain use case eventually, but it will not be the killer app of blockchains as many hope.

Sure the use case of payments along with serving as a store of value has allowed blockchains to gain traction with users so far, but for cryptocurrencies to become mainstream there needs to be a more compelling use case for the average person. DAOs could potentially fill that gap.

What is a DAO?

One really promising use of cryptocurrencies is a DAO. The basic idea of a DAO is a company that is controlled by a community of people(or computers) rather than a small group of individuals. A DAO is decentralized in the sense that the shares of the DAO can be distributed among many people at the inception of the DAO, and the decisions of the DAO can be determined by the votes of all shareholders and bound by smart contracts. Traditionally companies are started by 1-4 founders who maintain control of the company for some time. Many founders give up some of that control to investors who provide capital in return for the ability to influence the company's decisions, and the hopes of future dividends or appreciation of shares. In contrast, a DAO could be founded by 1000 people who all contribute a small amount of capital to start the company which would be sent to a smart contract. The DAO could have a set of algorithms that let the founders vote on which work to prioritize and then vote on who to pay the funds to for completing the work.

A DAO is said to be autonomous for two reasons. It is autonomous in the sense that no government could shut down the DAO. It is also autonomous because, in theory, it could be run completely by algorithms. A DAO cannot be shut down by a government because there is no technical requirement for the DAO to be registered as a company in any country's legal system. A government can not seize a DAO's funds because they are held in a smart contract. A government can politely ask for a DAO to pay taxes, but a DAO does not exist in any one country but is instead distributed across the Blockchain in hundreds of countries. A DAO is also autonomous in the sense that humans are not required to be shareholders. It is entirely possible to program an algorithm to own shares in a DAO, and vote in proportion to the shares that it owns.

Finally, a DAO is an organization meaning that is simply a collection of people(or algorithms) that are aligned with a single purpose. While most DAOs so far have been for profit, a DAO could also be a nonprofit organization or a government.

Advantages of a DAO Over a Traditional Company

When talking about the advantages of a DAO over a traditional company, it is useful to talk about the advantages to each of the stakeholders - founders, investors, customers, and employees.

Founders

Why would a founder start a DAO, instead of an LLC, S Corp, or other traditional corporation structure? One advantage is ease of fundraising. With DAO platforms like Aragon, fundraising is extremely easy. Founders can raise money from family and friends and everyone will know exactly how many shares they have by checking their wallet or the software that the DAO is running on. The rules that govern how shares are distributed and vested are explicit and enforceable through smart contracts. When the founders want to raise more capital they can set up a crowdfunding round, and raise money similar to Kickstarter, but without the exorbitant fees. Investors can receive shares of the DAO instead of preorders of the product or T-Shirts and other small gifts. Raising money with a DAO is similar to having an IPO but without the need to go through an investment bank. The technology enables people to crowdfund without legal restrictions, but in theory, a DAO platform could be created that is 100% compliant with SEC rules related to crowdfunding, which would make all of this legal in the US.

Investors

For investors, investing in a DAO is a unique opportunity to acquire an asset that has a different profile than traditional asset classes. Shares in a DAO will have a much greater risk profile and potential reward than traditional securities offered by public companies. This allows investors the ability to further diversify their portfolios.

Customers / Investors

Customers who choose to become investors will have the ability to influence the direction of the product by voting using their shares in the DAO. This also creates a feedback loop where customers have a vested interest in the company, so are more likely to help market the product through word of mouth, which in turn attracts more investors and customers.

Employees

Employees can be given shares of the DAO that they work for. In comparison to stock options that many startups offer, shares of a DAO will have a known value (as long as they are traded on any of the cryptocurrency exchanges) and be liquid (as soon as they are vested). These are huge advantages because many startup employees do not know the value of their stock options and how that value is affected by dilution in subsequent rounds of funding. The options are also worthless unless there is a liquidity event in the case of the company going public or an acquisition.

Interesting DAO Projects

Some interesting projects related to DAOs:

The DAO

The DAO was a decentralized autonomous venture capital fund created to raise money and then invest it in various Ethereum projects. It raised 150 million USD worth of ETH before the funds were stolen by an anonymous hacker or group of hackers. Today the ETH held in The DAO's smart contract would be worth about 575 million USD. The DAO taught the Ethereum community how important security is when writing smart contracts. Even though the smart contracts written for the DAO were audited by security professionals, a critical bug slipped through. Amazingly the Ethereum community was able to hard fork Ethereum to return the stolen funds to investors.

Dash

The Dash blockchain has its own DAO to promote and pay others to support the network. You can check out proposals that people have submitted to this DAO here. I only heard about this blockchain recently, so don't know too much about it, but it seems to be a functional DAO that provides a useful purpose.

Aragon

Aragon is a platform for anyone to create a DAO using a friendly UI. Previously to create a DAO you had to write smart contracts directly. Aragon has an alpha release of their software that I have tried out, and I am very impressed with the functionality and user experience of their software. Currently, the software runs on an Ethereum test network, so the organizations created do not have real value yet. It appears that there are only two people working on the project at the moment, but they are launching a crowdsale on May 17th, so the project has the potential to accelerate in the near future.

Colony

Colony is similar to Aragon but is focused more on task management than governance. It is hard to say too much about it because their beta software is not publicly available. They are also going to be crowdfunding, but are using SAFE financing instead of a token sale.

Conclusion

DAOs are a really interesting use case of Ethereum, and I am excited to see how the movement towards decentralized organizations progresses. At the same time, I think as a community we have to be cautious about sending too much money to newly created DAOs. It is still very early in development of blockchain technology and there is a high probability that bugs will be found which will enable hackers to steal millions of dollars. There are many layers in the tech stack where bugs can hide. Even if Ethereum itself is safe, there can be bugs in smart contracts, and the platforms and APIs that are written on top of the Ethereum platform. In addition, the ability for anyone to raise money with an ICO without any middleman is a powerful technological development, but it also removes any protections to the investor. Investors need to be more diligent in deciding where to invest their money than they would with traditional stocks. Overall I think that DAOs are going to be the use case that really allows blockchains to take off, and am excited about the future of this technology.

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