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A comprehensive analysis of DAO investment: issues and risks under the new trend

W3.Hitchhiker

2022-04-20 10:06

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Original title: 《 Some thoughts on investing in DAOs 》

Original author: Marina, W3.Hitchhiker

At the end of July 2021, a decentralized autonomous organization called "PleasrDAO" came together and spent a whopping $4 million to buy the only existing copy of Wu-Tang Clan's album "Once Upon a Time in Shaolin". In fact, this is not the first time PleasrDAO has spent a lot of money to buy collectibles. As early as June, the organization purchased an NFT of the original Doge meme for $4 million. PleasrDAO has millions of dollars in funds dedicated to investing in rare collectibles. It looks like a regular investment company, but as we all know, its biggest difference is that it runs on blockchain technology, which is also known as a DAO (Decentralized Autonomous Organization).

Recently, some DAOs have begun to attract the attention of traditional investment markets and crypto KOLs, including billionaire Mark Cuban, who called DAO the ultimate combination of capitalism and progressivism. The well-known crypto investment institution A16Z also specifically led and laid out the investment amount for DAO, which was disclosed to be millions of dollars.

Driven by the bull market in the crypto market in 2021, various tracks have begun to invest and raise funds intensively, and DAO has also attracted the attention of market investors in the past two years. Different from the corporate entity operation mode of traditional crypto VC, Ventures DAO (which we usually call investment DAO) has also begun to shine, and the market has begun to predict that investment DAO will become the next trend. The main reason is that this method can liberate talents from the traditional corporate framework, and if the community performs well in governance, every member can get a share of the pie.

In addition to STEPN, a hot blockchain game, the recent market also has the FOMO sentiment caused by CULT.DAO, a decentralized venture capital institution. It is difficult for ordinary users to participate in primary market investment, especially when the market is overheated. CULT.DAO's vision is to become the VC venture capital of Web3. Obviously, the current market is very likely to rush CULT.DAO as a meme, which can also be easily seen in its coin price.

This article will start with the history and current situation of investment DAOs, and explain several representative investment DAOs in detail. Finally, we will summarize the possible problems and risks of investment DAOs. The investment of large institutions has been rolled up, and investment DAOs as another type of "investment subject" must also be rolled up.

I. History of Investment DAO

The concept of DAO originated from a blog in 2013, in which blockchain developer Dan Larimer coined the term DAC (decentralized autonomous company). He described DAC as an organization driven by interests, but with a charter defined by code, and the service of operation is obtained by paying for the shares of decentralized autonomous companies. A few months later, V God coined the term DAO as we know it today in an article he thought about.

In May 2016, the first real DAO was established - The DAO (a crowdfunded venture capital fund). It was built on smart contracts on the Ethereum blockchain, and the coding framework was developed by the Slock.It team as open source, but deployed by members of the Ethereum community under the name of "The DAO". The underlying logic of the DAO is to allow anyone who has a project to promote their good ideas and opinions, and have the opportunity to obtain financing in The DAO. Anyone who owns a DAO Token can vote on these plans, and if the project is profitable, they will be rewarded accordingly.

However, three months after the fund was launched, it was hacked, and a total of $50 million was lost in the incident. Unsurprisingly, the market also questioned the way DAO's investment operated, and the theft was the first stumbling block on the road to investment in DAO development. Then, in a ruling issued by the U.S. Securities and Exchange Commission (SEC) on July 25, 2017, it was described as follows: Tokens offered and sold by a "virtual" organization called "The DAO" are securities and are therefore subject to federal securities laws. The report confirms that, unless there is a valid exemption, issuers of distributed ledger or blockchain-based securities must provide documents to register the issuance and sale of such securities, and those who participate in unregistered issuances may also be held liable for violations of securities laws.

In other words, The DAO's issuance is subject to the same regulatory principles as companies going through the initial public offering process. According to the SEC, The DAO and all of its investors violated federal securities laws. Although the DAO project has ended, its impact continues. Current blockchain development teams should continue to look for ideas and methods from The DAO's example.

2. The current status of investment DAO

Now that DAO has grown to cover different businesses and needs, Coopahtroopa, a crypto person who has been deeply involved in DAO for many years, has drawn an overview of DAO in 2021.

A report by Dovemetrics pointed out that among the 84 investment DAOs included in the website, 561 investments have been made since the establishment of these investment DAOs. The most active in 2021 were CSP DAO, DuckDAO, The LAO and Metacartel Ventures. On average, an investment DAO completed 25 investments.

The 94 financing activities announced in 2021 involved at least one investment DAO, raising a total of US$584 million. Judging from the following ratio, in 2021, it is still mainly large institutions that are investing, and the proportion of investment in DAO is only about 11%, but this proportion also shows that investment in DAO is gradually gaining public recognition and attention.

In terms of investment amount, the average investment amount of traditional crypto VC (excluding investment in DAO) in 2021 was US$20.5 million, while investment in DAO was US$6.2 million.

In the investment track, DeFi is still the favorite track for investment in DAO. In addition to the investment enthusiasm of the entire crypto market for DeFi, a large part of the reason is that some investment DAOs tend to provide additional services to their members by providing funds to some DeFi lending protocols and DEXs.

Investment in DAO has become a way for the community to invest in early blockchain projects, but in order to circumvent the supervision of the US SEC, today's investment DAO usually has an on-chain component that manages the operation of the DAO in the form of smart contracts and an off-chain component that provides some legal liability protection for its members, that is, the legal structure of the DAO.

Three, several representative investment DAOs in the current market

There are dozens of investment DAOs on the market. This article selects several representative ones as examples to explore the development of investment DAOs today.

1. MetaCartel Ventures DAO

Official website: https://metacartel.xyz/

MetaCartel Ventures was founded in 2019 by Gabriel Shapiro, Peter Pan and Ameen Soleimani. Metacartel is made up of a large group of native crypto founders, builders, engineers, KOLs and investors, and provides open source tools and applications to help the development of the DAO ecosystem. MetaCartel Ventures is currently closed to new members.

It has become one of the most popular and authoritative investment DAOs in the field, dedicated to investing in early decentralized applications. They have invested in more than 40 dApps in total, and recently invested in Float Capital, Ceramic and KnownOrigin.

The DAO is based on the Moloch v2 smart contract standard. Members of the DAO must be investors or employees approved by MetaCartel Ventures, and the legal part will be composed of a member-managed Delaware limited liability company, which is mainly governed by the Grimoire ("Limited Liability Company Agreement") and the corporate law of the Delaware limited liability statutes.

2. The LAO

The LAO is the first for-profit investment DAO launched by OpenLaw in 2019. It is composed of Ethereum enthusiasts and investors who recognize cryptocurrencies. The DAO does not have a clear investment direction and track. In particular, OpenLaw can use tools to create binding legal agreements and bind them to the execution of one or more smart contracts (including smart contracts that create and manage tokens). In this way, any token and smart contract running on Ethereum has legal effect.

The LAO's legal structure is a Delaware Limited Liability Company and uses Moloch v2 for its on-chain smart contracts. Membership in the LAO will be available on a first-come, first-served basis. In order to comply with US law, LAO membership benefits will be limited and only open to certified qualified investors.

3. Flamingo DAO

Founded in 2020 by members of The LAO, NFT enthusiasts dedicated to investing and managing NFT assets, Flamingo DAO enables its members to develop and deploy NFT-focused investment strategies. According to the Collection on the official website, Flamingo has purchased 140 series of NFT works, including well-known blue-chip NFTs such as Cryptopunk/BAYC, and NFTs released by luxury brand LV, etc., which cover a wide range of areas.

Flamingo DAO is organized in the form of a Delaware LLC and uses OpenLaw as its DAO management service provider. DAO uses Moloch v2 smart contracts, and members must be qualified investors as required by US law.

4. DuckDAO

DuckDAO was officially launched on July 14, 2020. DuckDAO promotes the rapid development of projects by establishing long-term partnerships with supported crypto projects. Not only that, DuckDAO also frequently interacts and cooperates with crypto KOLs and celebrities. After obtaining high returns by incubating and supporting excellent projects in the early stage, it further cooperates with well-known Youtube celebrities IvanOnTech and Boxmining to expand its influence. After all, they have more than 400,000 fans.

Through vigorous promotion of the community and participation in the project (incubation, social media strategic contributions, and general contributions), as of the date of writing, according to DuckDAO's official website, DuckDAO currently has 102 portfolios, of which the incubated project Base Protocol Token BASE has achieved an increase of more than 100 times, and GEEQ and DeFiPie have also achieved an increase of more than 20 times.

5. Angel DAO

AngelDAO was founded in 2020 and is operated and managed by a team of 4. It is a relatively lightweight DAO. AngelDAO is deployed on Aragon and Gnosis Safe. They invest in various blockchain projects, including blockchain protocols, DeFi applications, and DAOs, and have completed investments in 21 early projects.

Fourth, the advantages of investing in DAO

DAO is a major innovation in the crypto community. Compared with traditional crypto VC investment:

Investing in DAO allows more people to participate in the investment process of early crypto projects

For a long time, large venture capital institutions or investors have been able to buy Tokens at relatively low prices in the early seed rounds and private rounds of a project. After the project goes online, most VCs will sell for profit, which will cause certain damage to the long-term development of the project. However, the existence of investment DAO can impact the selling pressure of traditional VC investment by providing community users with the opportunity to invest in early projects, and can obtain the benefits of investing in early projects;

Investment DAO can use the wisdom of the group to make strategic investment decisions

The DAO community can gather people from different professions and backgrounds from all over the world. Distributed offices make their investment decisions more flexible, and diverse community members can bring added value to the investment portfolio. For example, software engineer members can provide interpretations and opinions from technical perspectives such as code; people with rich community operation and marketing experience can help incubated early projects quickly go viral; members with excellent graphic design can help provide a comfortable UI display interface, etc.

Investment DAOs move operating investment funds to the chain, improving the transparency of investment decisions

The DAO community must manage investment funds and decision-making and execution through communication and voting, rather than having a centralized leadership group determine the direction. Investment DAOs use multi-signature voting or tokenized voting mechanisms to provide funds for investment projects through the aggregation of smart contracts. All investment activities can be viewed on the chain, and many DAO tools have been born to improve governance.

Compared with traditional crypto VCs, investment DAO members have more flexible "entry and exit"

Depending on the smart contract deployment of different DAOs, any DAO member has the right to exit the DAO at any time, while traditional crypto VCs require investors to stay in the fund for a period of time.

V. Problems with Investing in DAO

Legal and Tax Restrictions

DAO’s laws and taxes are also a risk for DAO members. Whether DAO can be accepted by the government as a qualified “investment subject” is worth flexibility. Whether partners who are not regarded as “corporate entities” can become the subject of property registration is still a question; how to submit taxes after the investment gains, etc. Therefore, it is crucial to standardize DAO investment and improve its compatibility with the existing legal/tax system.

Security Issues

The DAO ecosystem is not yet perfect, and the possibility of hacker attacks is a greater risk. One of the largest crowdfunding projects, “TheDAO”, lost one-third of the 11.5 million ETH it raised due to hacker attacks. If this happens, the lack of an investor protection system may lead to huge losses for individual investors.

Investment authority and efficiency issues

Although DAO is called a decentralized autonomous organization, since every decision made by DAO requires voting on the chain, it is relatively easy for community members who hold a large number of DAO Tokens to decide whether to invest in a project or withdraw, which deviates from the so-called decentralization concept. In addition, large institutions may only need a group of people to sit down and hold a meeting to make decisions, without putting the investment decision-making process on the chain, which is relatively efficient; while DAO decisions generally require voting by community members, who may not know each other before and may have different levels of understanding of the project, so the decision-making efficiency will also be uneven.

Credit issues of investment projects

Although investing in DAOs can to some extent avoid the selling pressure of large institutions after the investment projects are launched, and the investment amount is relatively less than that of large institutions, the overall lack of endorsement from large institutions and the uncertainty of early projects are also worth considering.

Despite these limitations of investing in DAOs, there is no doubt that it is a way for ordinary people to access the primary investment market. However, due to the lack of relevant infrastructure and unclear legal status, it is too early to say that DAOs are a safe form of investment. Although the relevant legal system is not yet perfect, it cannot be said that there is no legal basis for DAOs to operate within the existing legal scope. The state of Wyoming in the United States has passed a law recognizing DAOs as limited liability companies (LLCs). Therefore, once a secure DAO ecosystem and relevant legal system are prepared, DAOs may become the new future of investment.