Like many Web3 technologies, decentralized autonomous organizations have the potential to disrupt and transform the way that corporations, organizations, and nonprofits traditionally operate. But in the last year, decentralized autonomous organizations (DAOs) have made national headlines, garnering attention from investors, operators, and scientists alike.
But what makes DAOs so special? In this guide, we’ll walk you through the steps for DAO creation, important decisions to consider, and best practices for successful operation. However, first we need to talk about what a DAO really is.
Unpacking DAOs for a Web3 future
By definition, as listed in our nft dictionary:
“A DAO (a decentralized autonomous organization) is a type of organization that is run on the blockchain through the use of smart contracts. The smart contracts lay out the rules that govern the DAO and are used to execute decisions. Unlike traditional businesses and organizations, where decisions are governed by centralized primary shareholders, DAOs are operated by a community of token holders. All governance token holders in a DAO are able to vote and have a say in key decisions. If a proposal achieves a predefined level of consensus (like a certain number of votes), it is accepted and executed according to the rules within the smart contract.”
To date, DAOs have formed around a wide range of use cases, including financing projects, administering grants (Aave Protocol), building communities (Friends With Benefits), acquiring cultural collectibles (ConstitutionDAO), private investing (Krause House), media and content creation (Bankless), and more.
The pros and cons of DAOs
In theory, DAOs should act as a more ethical and transparent way to operate organizations. Not only do they eliminate the need for centralized, hierarchical decision-making, but they also successfully align incentives among all stakeholders. This upgrades users and contributors of the organization into genuine investors and owners. By opting for community ownership, DAOs allow those who are actively working in the organization to have a say in critical decisions regarding its future.
But, while successful DAOs do create a circular ecosystem that operates without a single individual having the final say, it’s important to note that all DAOs still contain orders of power. In most DAOs, an individual’s contribution level is often rewarded with governance tokens. Those who contribute the most also hold the most governance tokens, and therefore the highest reputational voting power.
DAOs are novel, which is why many are still working through operational roadblocks. Collaborative decision-making takes time, and requires full community buy-in for a DAO to run smoothly. Reaching a consensus can be challenging, and the act of even getting a proposal to the voting stage can be difficult if too many parties are involved at once in the early stages of a DAO’s formation. With this difficulty comes operational risk, according to Lauren Kacher, founder of Alterrage, the first DAO-led fashion label.
“It’s important to determine the amount of risk you are willing to take on from the start,”said Kacher, in an interview with nft now. “DAOs bring great opportunity for growth, but at the risk of losing control without proper fundamentals.”
Compared to corporations and formal organizations, DAOs also bring sizable security risks. Web3 is still very much a wild west, and we’ve seen even the most iron-clad smart contracts get hacked. So, before moving forward in your DAO formation, you must have a team of skilled developers and multiple risk mitigation plans in place.
When to start a DAO
Before forming or transitioning to a DAO structure, one must focus on two core areas: purpose and utility. It’s important to note that DAOs are neither practical nor favorable for all use cases, and many areas still need improvement.
To do so, ask yourself, “Is a DAO needed to achieve this goal?” If the answer is yes, then proceed to the next question. “How would our organization benefit from being able to coordinate trustlessly on the blockchain and align incentives through a complex tokenomics system?”
Only then, once you have answered both questions, should you consider the following areas of development.
How to start a DAO
Luckily, starting a DAO is easier than it was even a year ago. With the rise in acceptance of Web3 and blockchain technologies, the market now offers a handful of DAO creation tools and platforms, covering everything from all-in-one toolkits like Aragon to specific tools around treasury creation and governance. But while the barrier to entry is more manageable, there are still many vital decisions to consider.
Community and founding team
At the heart of every successful DAO lies a strong community. And at the heart of every strong community lies a core DAO formation team. When building this team, it’s essential to take the time to find the right partners. This group should go beyond being passionate about the mission you want to solve. They should also be dedicated to following through to the long-term horizon to bring about its greatest potential.
It’s best to select members with similar perspectives, but different and complementary skill sets. You’ll need someone with the technical Web3 know-how to serve as a key member, but conventional fields like economics, marketing, operations, and community management are also crucial to a DAO’s long-term success. We also highly recommend seeking advice from an attorney to ensure that you are compliant with all legal and financial requirements, especially if you plan to issue a native DAO token.
It’s hard to have a true DAO without community governance. That’s why it’s so important to find the right mechanism for members to connect their wallets, propose, review, and vote on treasury and protocol decisions is so important. With rising gas fees, on-chain voting can get expensive, so certain DAOs rely on customizable off-chain governance tools like Snapshot to facilitate governance proposals. Ultimately, choosing whether to conduct on- or off-chain voting is a decision made by the core DAO team.
Token creation and allocation
Once you’ve established a community, governance mechanism, and technical infrastructure, it’s time to get strategic about the tokenomics of your DAO. In many cases, tokenomics will serve as the underlying incentive structure. But be wary: when implemented incorrectly, tokenomics can harm the integrity of your community — and even the DAO’s overall longevity.
In most DAOs, tokens are used to either reward members, vote on proposals, unlock access to other benefits, or a combination of the three. Before continuing, you should consider what purpose your tokens will serve in your DAO. Will they be used to vote on the direction of the organization? Will they hold inherent value? Can they be further staked for additional yield?
Not only will you need talent and knowledge from DAO members to create the token itself, but also to consider the impact of token supply and allocation. Given the undeniable psychological implications of supply and demand on cryptocurrency pricing, finding this sweet spot is one of the most challenging parts of starting a DAO, and has been documented as such by both ENS and Uniswap.
As for allocation, it’s imperative to find the right balance between incentivizing and rewarding your community, while also having enough funds in the community treasury to make progress towards larger goals. Again, we can’t overemphasize the importance of speaking to an attorney throughout the token creation process to ensure safety and legal compliance.
Perhaps the most crucial decision of your DAO is where to house your treasury. While a DAO treasury acts like any standard bank account, these funds will likely be the lifeblood of whatever purpose your DAO holds and should be safeguarded with the highest security. To limit the risk of bad actors and ensure that no one person has control over the DAO’s funds, most DAOs elect to create a multi-signature (multi-sig) wallet. Multi-signature wallets require multiple people to sign blockchain transactions before they are executed. For this, Gnosis Safe and SafeSnap, the process’ coinciding toolkit of governance tools, have become the industry standard. Gnosis also allows the storage of multiple tokens within the same wallet. For example, Gnosis can hold a mixture of both ETH and a DAO’s native governance or social token. Other examples of DAO Treasury management tools include Parcel and Llama.
Do’s and don’ts for your DAO
While it’s technically relatively easy to create a DAO, running one successfully is an entirely different story. So a handful of successful DAO creators and core members spoke with nft now, and explained their thoughts on the most important Do’s and Don’ts when approaching DAOs.
Do’s and don’ts for your DAO
Without a strong community, a DAO will never be able to get off the ground, said Commodore, co-creator of the Krause House, to nft now. Krause House is a DAO with the goal of owning and operating an NBA team.
“Getting a group of people together and acting with a DAO ethos is an incredibly powerful signal that building a DAO is worth the time,” Commodore told us. “I always recommend finding 100 people via Twitter, Discord, or a podcast to see if there’s momentum in the idea. If there is, then explore as a collective how to become a DAO.”
Cooper Turley, founder of Fire Eyes DAO, echoed a similar sentiment, arguing that without product market fit, your DAO will be short-lived. It’s crucial to find a differentiated niche that will want to make members come back every day.
Onboarding and documentation
It should be easy for people to learn more about how your DAO works and what it aims to do. This discovery and onboarding flow should be one of the first action items for the core team, since it’s essential for the growth of the DAO. All rules and standards should be clearly documented and linked to in numerous places. If this is a “serious” DAO with full-time paid contributors, it’s even more vital to outline highly precise membership requirements and establish documentation now to avoid disputes down the road. Standards and processes around conflict resolution should also be implemented, as no organization, DAO or otherwise, is conflict-free.
Make sure your community feels heard and understood at all times. This necessity stretches far beyond governance and voting proposals and should include in-person feedback, Discord conversations, Twitter discussions, and more.
As most DAOs are global communities, founders should invest in scalable, accessible, and manageable communication platforms to support various languages and content mediums.
Don’t overcomplicate things
When starting Fire Eyes, Turley made sure to take a simple, and realistic approach.
“Think practically and focus on a very small number of people,” he said.
The same thing applies when considering a tokenomics structure. While it can be fun to incorporate functions like staking, burning, and game theory, there is no reason to launch things that you don’t understand. It’s much better to take a slow and steady path to success rather than try to do everything at once.
Don’t tie your DAO to a single leader
Although hierarchy is still present in all DAOs, it’s important to eliminate the ability of a single voice or authority to dictate key decisions. Kacher credits the designing of thoughtful leadership infrastructure within Alterrage as a beacon of its success.
“At Alterrage we don’t have one single leader, but rather seven different spheres (ex: atelier, tech, web3 architecture, etc.) that focus on core areas of the business. Each sphere is led by one ‘guide’ with additional help from three support leaders that are all equally trained. Without training or a form of leadership, members of vague DAO communities are often lost and leave out of frustration.”
Only time will tell whether DAOs become mainstream organizations. But for now, the best method of action for aspiring DAO founders and the broader Web3 community is just to get started, Commodore said to nft now.
“Part of the beauty of innovation & disruption is that new tools are built, humans then use these tools for all sorts of different needs in their lives,” added Commodore. “We’re just in an early phase of exploring this powerful new tool, so it’s still too early to know which things make good or bad fits. I’m just excited to see so many people try it out because we’ll collectively make more progress quickly as we collect wins.”