The DAO: ‘the Way’ — but to what?
Big news for ETH supporters as the DAO finally launched and have their token traded for the first time. After a day of trading, it seems the DAO tokens closed trading under par. (ETH value). What went wrong?
If you ask me, the DAO is an ambitious project. It makes Macbeth look like Ben Carson by comparison. In order to understand it to any degree, first you will need to gather some things:
- A bottle of Jack Daniels
- The DAO whitepaper
- 10 cans of Red Bull
- 12 hours of free time, preferably in the dark
- some psychedelics
- 1 towel
Lock yourself into that dark place, and let nature take its course. If you need to, use the towel. After the elapsed time, you may emerge understanding DAO well enough to maybe want to put some money into it, or pray to it. At which point you really should stop what you are doing, and go to sleep (because let’s be frank here, you are probably drunk and hallucinating) and pick up again in a couple days time.
Upon readdressing with a clear head after sufficient time for the psychedelics to wear off, if you still have an itching for DAO enlightenment, then you can continue reading this article.
The issue with the DAO, is that while it is a fascinating idea in crypto, it seems to me that nobody bothered to consider whether it was a ‘good’ idea. Let’s start with what the DAO, is. It stands for Decentralized Anonymous Organization. The choice of the word organization was made likely to avoid any legal association with a ‘company’ or ‘entity’ which are legal persons, and can be liable for damages. Don’t know how much that would hold up in a court, but nice move there. It basically acts as a leaderless venture capital fund, or a crowdsourcing pool of funds which are controlled by shareholders of the DAO, without a asset manager, advisors, or even an organizational structure. People bring a DAO to life by sending it funds (ETH) during its creation phase where they receive shareholder tokens in return. This is similar to a multi-signature wallet with a tradable coloured coin automatically issued to signify ownership. Once a DAO is created, its funding is closed and then it is able to invest these funds into projects in Ethereum which need funding. Projects can propose their business plan to the DAO and token owners can vote on whether or not to give them funding. If the projects are successful, some of the profits are sent back to the DAO in the form of a return on investment (which is hardcoded as part of the original funding contract) much like how it would work if the DAO was an investor in a startup company. Except that all payments and the initial agreement are smart contracts, and presumably if the startup makes it’s revenue in ETH, then all cashflows are automatically deducted and paid to the DAO without human intervention. Subsequently, DAO token holders can receive dividends from the DAO (which must be voted upon as well) and also be able to sell their ownership tokens to others if they want out. There is also a mechanism for the DAO to split, much like how a company can split up if some of the owners disagree on whether or not to fund a project. After whiche, all previous income streams remain intact, while all future income streams will be separate.
This all sounds good, until you think about whether or not a venture capital firm, without any sort of leadership structure or partners, with everyone as common shareholders is a good idea. Is the wisdom of the crowd really better than a good VC partner or industry analyst? Hmm. If it turns out to be so, then maybe I’ll be putting some money into the next DAO, but for now, it looks to be more of a grandiose punt for speculators on its own token appreciation.
This is the easiest way for shareholders of DAO to make money. Fund some big project, project looks promising, DAO tokens appreciate, sell tokens and capitalize on the buzz. Let the token buyers hold the bag for whether or not the crypto project really can become profitable. This is really high risk, as there has yet to be any profitable businesses built on top of Ethereum. At the end of the day, you have to realize that if you invested in the DAO, you actually just doubled up on your ETH risk. Not only were you betting that there would be something useful done in the ecosystem so that the ETH price would appreciate vs USD, but you just bet on top of that, that the crowdfunding of some potential project is going to be a successful pick. Sounds pretty much like a bad investing strategy. All you did in essence was give up control of your funds to the crowd, instead of trying to pick winners yourself. Worse still, as token holders are pseudo anonymous, large stakes may change hands and land into malicious parties, and you, as a common shareholder won’t be able to have a say in it. (Transfers of token ownership is one thing that doesn’t require DAO voting). Best to keep an eye on your DAO assets and split off your money at the first sign of trouble.
Hold on, if this is starting to sound more like investing in an index fund in the real world, then you would be right. (with the extra risk that this index doesn’t really track the best performers, but are driven by the stakeholders of with the biggest stakes, and crowd mentality)
This is the most likely way this story will end. There was a whole bunch of technical reasons why I thought that the DAO would have issues and was going to write about them, but some other folks beat me to the punch (and actually uncovered a few other ones that I hadn’t thought of). Basically the DAO could be something cool, it certainly is something new and hasn’t ever been tried before, it has essentially become the biggest crowdfunding project to date¹, but it could also end very badly as the biggest scam/swindle ever. This outcome although possible, I find rather unlikely (the same way I find that Hard Forks are unlikely to permanently split the chain.) but you know, computer science types are sticklers and like to fret about things with a very little practical probability of occurrence — just to be complete.
Not all of its problems are technical as well. What if, god forbid, the DAO was used to fund an assassination? Who would be culpable? Who would be responsible? Could you sue the token holders who vote ‘Yes’? Could you hold guilty someone who proposes a contract “Pay 1 million dollars to this address if XYZ were to be found dead in the next month”? This kind of murky waters is just a taste of what is in store for the DAO as it interfaces with meatspace. Some lawyers have already starting to delve into this uncharted territory. But nothing is certain at this point.
The many ways that the DAO could fail all revolve around malicious parties trying to exploit the rules of the DAO in order to siphon money away from the pool. In a way, a DAO just puts everyone at risk the same way the unsophisticated stock investor is at risk. Some fancy penny stock is pumped, grandpa is suckered into investing in it, and the sharks come in and clean him out. Except with the DAO, instead of pink sheet stocks, we have unproven startup projects, run by inexperienced teams, with nothing more than just an idea. What could possibly go wrong?
On the other hand, the computer science futurist in me thinks that the DAO is pretty cool and this could be the first small step in a long journey to evolving corporate governance and an economy that is completely on the blockchain. At the same time, the realist and skeptic in me tells me that this project is nothing but a pre-alpha prototype which has been overly hyped up with fancy Bootstrap themed designer webpages, boy geniuses, and crypto-marketers, and will likely end badly for the small time investor. But one thing is for certain, it will certainly make a great data point.
EOL
¹ Actually this crowdfunding of the DAO being more than 120million USD is hyped up much more that it deserves. Since the funds invested was in denominated in ETH, and ETH itself has appreciated a hundred fold since its inception and ICO, I would consider the amount raised in the DAO more close to being ~1.8 million USD. (~10% of initial 18.4m raised in ETH ICO). This is a much better gauge of the ‘real value’ of the DAO, because ETH markets are certainly not deep enough to sustain its current price levels if 120m USD of ETH were to be dumped. Giving them a generous appreciation due to ‘good will’ I still don’t see the DAO being worth more than 2.5m USD tops. This gives them about enough funds to fund 1–2 big ticket projects, or maybe 10 tiny ones.
Originally published at https://www.wallstreettechnologist.com on May 30, 2016.
