After spending the past few weeks dragging my feet about how quickly tech Twitter has turned its attention from one crypto fad to the next, I’ve decided to give in to the pressure. I regret to inform you that today I’m going to write about DAOs.
The DAO talk broke through my crypto-mute-shield because of the word “autonomous.” I’m a sucker for automation and the interest in DAOs highlights the tech industry's obsession with efficiency: "Imagine your favorite Internet business—but without the “inefficient” intermediaries who take a slice of the pie. That is to say: humans."
For the uninitiated, a DAO (decentralized autonomous organization) is
also described as
DAOs also fit squarely into another emerging trend on the Bird App. After a few years of obsessing over creators, VC Twitter has moved on to the next phase of the simulation: the Collaborator Economy. While I have a certain distaste for how VCs repackage and claim ownership of other people’s ideas, when Mario Gabriele and Packy McCormick write about the same topic in a single week, I have no choice but to listen.
I do genuinely think they’re on to something. After spending the past 10 months using co-writing this newsletter, I am more excited about writing online than ever. I’ve also benefited immensely from joining Foster, where Stew and Dan are building the true manifestation of Mario’s Multiplayer Media.
In early stage VC, an interest in collaboration is nothing new. Every other day I see a thread with an opportunity for fund managers to share deal flow or co-invest. Emerging managers, who almost never lead rounds, thrive through collaboration. It is not a zero-sum game.
Naturally, some VCs have shown interest in using DAOs to invest in startups. In addition to their purported collaborative nature, the DAO model seems to address a number of problems with the very broken system that is venture capital. DAOs are supposed to be more accessible and, since every bit of their activity occurs on-chain, they ought to be more transparent. There should be lower risk of collusion amongst the people at the top. It’s easy to imagine (idealize?) how DAOs might help eliminate some of the harmful practices of VC (such as pattern matching or warm intros). It’s aligned with the desire to find a new model of VC that makes the upsides of the asset class available to more people.
The DAO solves the principal-agent problem – which is the source of almost all mismanagement in traditional corporate and fund management structures. By removing delegated power from directors and placing it directly in the hands of owners, the DAO removes the ability of directors and fund managers to misdirect and waste investor funds. The people who dislike this are, of course, the directors and fund managers who greatly enjoy their current privilege of using the money raised from investors without having to fully account for it – power without responsibility.
As I read through Julia Lipton's thread about integrating a DAO into her fund, I grew increasingly excited about the possibility. I wasn’t alone -- emerging managers and blockchain experts chimed in to express their support or provide advice. It’s at the nexus of venture capital, crypto, and collaborative economics -- it seems like a no brainer. So why hasn't someone already done this?
Oh wait, they have.
Why does no one remember The DAO?
The DAO was, well, a DAO. It was formed in 2016 to invest in startups. It was the biggest crowdfunding project in history, raising over $150 million in $ETH. Investors were granted tokens that provided them certain voting rights and claims to a portion of returns from the organization's investments. It was, in theory, the automated VC fund of our dreams.
Until it wasn't. Hackers almost immediately exploited a bug in the smart contract to steal about half of The DAO's assets.
"The original theory underlying the DAO was that by removing delegated power from directors and placing it directly in the hands of owners the DAO removed the ability of directors and fund managers to misdirect and waste investor funds. As a blockchain-enabled organization, The DAO claimed to be completely transparent: everything was done by the code, which anyone could see and audit. However, the complexity of the code base and the rapid deployment of the DAO meant that the intended behavior of the organization and its actual behavior differed in serious ways that weren't apparent until after the attack occurred."
So they screwed up, right? They wrote bad code that cost everyone a whole lot of money (until the big players involved voted to roll back the changes, precipitating a hard fork of the entire Ethereum blockchain).
It was an experiment. The next one will work better. Right?
Should. Ought to. Supposed to be.
No. This was never going to work. Here’s why.
In theory: Every action or transfer of funds that occurs in a DAO is visible to “anyone with an internet connection.” This may be appealing to investors who feel as though the decision-making structure in a traditional fund is too opaque.
In practice: The smart contracts that dictate the actions of a DAO are written in code -- which means that they are only truly “transparent” to those who can read code (and complex code at that).
In theory: “On-chain” activities are considered to be secure because they are built on a foundation of decentralization and consensus. In a time (and a country) where large governing bodies are to be distrusted, it’s refreshing to think that our peers will enforce a system of checks and balances.
In practice: For anyone familiar with VC, a jury of our peers seems a little less enticing. The asset class is run by a tightly knit group of colluders (a cartel, some may say) who will do everything in their power to maintain their power, money, and status.
In theory: Unlike venture funds, “anyone” can participate in a DAO.
In practice: While there are no strict monetary barriers to participating in a DAO, most require quite a bit of operational legwork. In addition to setting up a crypto wallet, many require additional customization. Not to mention that DAOs issuing tokens without the requisite paperwork are issuing unregistered securities. “Accessibility” is supposed to come free with a reduction in overhead, but in this context, it is actually purchased by simply ignoring the SEC, which is guaranteed to end in tears.
In theory: The governing rules of a DAO are established upfront (similar to in an LPA) -- but, since the contracts are built on code, funds are deployed instantaneously once a decision has been made.
In practice: Most people aren’t accustomed to decentralized decision making, so we underestimate the difficulty of the adjustment. There are a number of different voting options that can be implemented in a DAO, all of which have varying complexity. In a very large organization, certain members may abstain from voting (due to apathy, lack of subject matter knowledge, or time constraints), which slows down the decision making process considerably. In practice, most folks just don’t want to be bothered with governance.
DAOs, like many other disruptive technologies before them, are believed to be inherently good because of the premise that they are disrupting the status quo. But, as I’ve previously discussed, new technology can just as easily perpetuate the powers that be.
I’m not saying unequivocally that there is no place for DAOs in venture capital. I’m just saying that the venture world needs to approach new technologies with skepticism, an awareness of the power dynamics at hand, and an understanding that these systems will need to be iterated upon many times over.
In the meantime, donate to mutual aid.