What if an organization like Youtube is not run by a central organization but is run by code? This is called DAO, also known as the decentralized autonomous organization. To illustrate what a DAO is, I'll use the example of a vending machine.
I will discuss what a DAO is, how it works and what the advantages and disadvantages of a DAO are.
Analogy: the vending machine
A vending machine has several components that are managed by people. Think about paying the electric bill, stocking the vending machine when it is empty, and taking coins out of the vending machine. If there is trouble with the vending machine, a repairman fixes the machine. Despite the fact that a vending machine is meant to be able to operate without people, we see that even with a vending machine, a lot of human work is involved. When this vending machine operates as a DAO, all human components are replaced by code (a robot).
If the vending machine is empty, the vending machine automatically orders new products, the electricity bill is paid automatically, the products are delivered by a ''robot'' and not a human, etc. All components are replaced by code.
What is a DAO?
DAO stands for Decentralized Autonomous Organizations. DAO is considered to be the future of organizations. In an organization, you have different individuals and departments that run an organization. You have employees, managers and the board. A DAO does not have these persons and departments. Programming code, so to speak, controls the organization. An example is Youtube. At the moment Youtube is run by an organization with persons and departments. There are people responsible for the videos, ads, payments, security, etc. These parts can all be taken care of automatically by means of a DAO.
It is not that there are no people involved at all. A group of people who have created a DAO can change and modify the code of the underlying DAO. But the execution of various components such as payments, advertisements, etc. are done automatically through smart contracts.
Simply put, “a DAO is an internet community with a shared bank account,” Cooper Turley, an investor and builder of several popular DAOs, tells CNBC Make It.
One of the characteristics of blockchain is decentralization and the trust that participants have among themselves through the transparency of transactions. Combined with smart contracts, the DAO seems to be an ideal solution for crowdfunding projects.
How do DAO work?
The core of a DAO is smart contracts. Smart contracts are code that execute automatically when certain criteria are met (if X, then Y). Ethereum was the first to introduce a smart contract. There are now numerous projects that also use smart contracts on their blockchain.
These smart contracts contain rules of the DAO. Members who have a stake in a DAO have voting rights. These members can influence the DAO. These members can create board proposals and make decisions what to do with the DAO. The members who have an interest in a DAO govern the DAO.
Suppose that there are 100 members who have an interest in the DAO. All of these members may submit proposals. This can cause the DAO to be flooded with proposals. To keep the DAO (in fact, the code) from becoming overloaded, the members must vote on a proposal-by-proposal basis. If the majority agrees on a particular proposal, that proposal is implemented in the DAO's smart contracts. How the majority is determined is defined in the smart contracts and varies by DAO.
What is not a DAO, but does show the power of smart contract is that, for example, refrigerators can run on smart contracts. In the smart contract code, it can be specified that if the milk is run out, the refrigerator orders milk automatically.
Pros and cons of DAO
Pros
- Processes are organized more efficiently and this allows people to focus on tasks that really matter instead of completing everyday routine tasks.
- There is no hierarchical structure in the organization. Everyone can come up with innovative ideas, allowing the company to grow and remain innovative. Innovative ideas can be implemented fairly quickly.
- DAOs are completely transparent because the transactions are visible via the blockchain.
- Investors/members will be rewarded through governance tokens. This is similar to the dividends shareholders receive with their stake in a company.
Cons
- The programming code cannot be changed without substantial approval of the members.
- Every organization has to comply with certain legal rules and since there are no regulations regarding crypto and blockchains yet, DAOs can expect a lot of obstacles at the beginning.
- The smart contract code has to be robust. The DAO is as safe as its underlying smart contracts. If the smart contracts have flaws, hacks can occur.
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