A Deep Dive Into DAOs

A Deep Dive Into DAOs

Decentralized autonomous organizations (DAOs) are open-sourced blockchain protocols governed by computer codes and programs. The open-source nature of DAOs makes them a suitable model for any organization striving to achieve immutability and trustlessness in decision-making processes.

Evolution of DAOs

Dan Larimer who founded Steemit and EOS was the first to propose the concept of decentralized autonomous organizations. The proposal was first made in 2015 and was later fine-tuned in 2016 by Vitalik Buterin, the founder of the famous Ethereum network. Today, DAOs are more popular than ever. A stat from Cointelegraph reveals that between 2019 and 2020, the number of active DAOs in the blockchain ecosystem rose by 660%.

How DAOs Work

A DAO is decentralized and the actions executed on the protocol are automated. Thus, there are no central bodies in control of upgrades and changes. Instead, elected members collectively vote for or against a proposed decision for the protocol. Since the blockchain can run autonomously without the need for a central body, the concept of DAOs are feasible solely in the blockchain ecosystem.

The rules of a DAO are inscribed in its code and these rules cannot be altered. A DAO executes decisions automatically when the specified conditions are met. Since the program rules are recorded on a blockchain ledger, transparency of transactions is assured. The immutable nature of the blockchain makes it impossible for fraudulent alterations to be made. Users who wish to participate in the decision-making process must hold the governance token.

Decentralized organizations were invented solely to reduce or eliminate corruption and eradicate the single decision-making process of central authorities. In traditional organizations where the decision-making process is centralized, usually, a CEO or manager can make decisions that will benefit him without considering the interest of other members of the organization.

However, decentralized organizations ensure that all members involved vote for or against decisions in the organization, and the coded instructions of the protocol automatically execute these decisions.

Decentralized autonomous organizations are trustless networks on the blockchain. A DAO helps to keep a network safe and optimized. Participants earn rewards or tokens from the network which serve as an incentive to maintain great performance.

Participants who attempt to manipulate the network will be penalized, and eventually, lose a stake which in most cases has a high monetary value. Due to the heavy penalty for defaulting, all participants put in earnest effort to abide by the rules of the protocol and maintain its security and functionality.

DAOs also help to minimize the cost of operation in organizations since there are no third parties involved. They also eliminate the need for comprehensive administrative processes and organization decisions can be speedily executed.

The Three Stages of a DAO Launch

There are three major stages for the launch of a DAO. The smart contract creation stage, the funding stage, and the deployment stage.

Before a DAO can be launched, a smart contract must be developed by programmers. The programmers set the rules of this smart contract. Once the smart contract has been unfolded, its rules can only be changed by the token's governance system.

It is vital that the programmers setting up the smart contract test the contract before it is deployed. If important details are overlooked, that may create loopholes in the smart contract. These loopholes may be severe as in the case of "The DAO" in 2016.

The funding stage is the next vital stage before the launch of the smart contract. In many cases, tokens are sold to raise funds for the project and allocate governance positions to individuals. Finally, after the smart contract has been developed and funding has been raised, the DAO needs to be deployed on the blockchain.

At this point, the developers of the smart contract no longer make solitary decisions for the project. All decisions made are from the stakeholders or governance positions and are unanimous.

Ethereum and The DAO

In 2016, when the concept of decentralization was still new, a decentralized project was launched with the name “The DAO”. The smart contract was built on the Ethereum blockchain and was developed to act as an autonomous venture fund.

The DAO tokens were sold in an ICO and the project successfully raised a huge sum of $150 million worth of ETH. Unfortunately, some developers examined the open-source code and discovered that the smart contract had some bugs that could drain the funds. In no time, attackers took advantage of this and drained over a third of the total sum of ETH tokens in the DAO’s wallet.

This weighty malicious attack affected the then early ETH network, and the governance system eventually settled for a hard fork of Ethereum. The hard work led to the birth of modern-day Ethereum, which has its record clean of the DAO hack. However, those who disagreed with the fork and decided to abide by the “code is law” principle, got stuck with Ethereum Classic.

The Limitations of DAOs

DAOs have a lot of benefits, but they also have their limitations. These include legal limitations, traces of a centralized system, and security vulnerabilities.

One of the major concerns that may limit the growth of DAOs in the future is their regulatory status. Different countries will have different laws governing the operation of DAOs. Since there is no certain regulatory landscape for these organizations, mass adoption of this model may be delayed.

Points of Centralization

Realistically, it is impossible to have a decentralized working finance model. The power the governance system has to set rules for a protocol still mimics the concept of centralization and the fact that every smart contract was coordinated by central bodies before being launched as an open-source code still leaves a tint of centralization in the DAO model.

Security Concerns

The attack of ‘The DAO’ in 2016 has raised a lot of questions related to security in the structure of DAOs. Although transactions executed through DAOs are transparent, they still carry a huge measure of risk that is absent in traditional or centralized organizations. Despite DAOs having desirable features like immutability and trustlessness, security drawbacks still exist and this may hinder the adoption of decentralized organizations.

Conclusion

Like many other innovations, the concept of DAOs still has its flaws that can be worked on as time passes. In the meantime, it is practically impossible for organizations to be decentralized. However, we cannot rule out the possibility of DAOs having a more secure framework to be immune from attackers.