How Do Investment DAOs Work?
Investment DAOs are decentralized organizations that pool funds and make collective investment decisions. Participants in the decision-making process must possess the investment DAO's governance token. The larger the amount of the token held, the greater the voting power. Investment DAOs generate revenue by conducting token sales, offering revenue-generating services, and issuing NFTs. The legal status of investment DAOs varies depending on the laws of the relevant jurisdiction.
Basics
The fundraising industry has been altered significantly by blockchain's decentralized capabilities. The traditional models of fundraising, such as seed rounds and venture capital firms, have been replaced. Entrepreneurs can now create their own tokens and use on-chain methods to sell them.
Not only have fundraising options expanded, but investing has also been transformed. Investment DAOs offer a new method of funding projects that even small investors can easily access.
What Is an Investment DAOs?
Investment DAOs democratize investment decisions by allowing all token holders to participate in the decision-making process. Members can choose to invest in a variety of assets such as real estate, DeFi investment vehicles, and other assets. Investment DAOs follow the Decentralized Autonomous Organization (DAO) model to decentralize the investment process. Unlike traditional models where a small group of money managers has the investment power, investment DAOs allow anyone holding the governance token to make decisions. The investment decisions are based on the wisdom of the crowd rather than the expertise of a select few individuals.
What Is a DAO?
DAOs are self-governing organizations managed by smart contracts that run on a blockchain, enabling DAO members to decide on and execute decisions. The framework of a DAO is self-sustaining and continuous, even if its members lose interest or leave the project, thanks to its immutable nature. DAOs commonly employ voting mechanisms based on governance tokens to make decisions. Members who hold more of the governance token have greater voting power. DAOs are often used in managing DeFi projects, blockchains, and other protocols in the crypto world. While some DAOs may allow any member to propose, others may limit this right to a specific group.
How Do Investment DAOs Work?
Investment DAOs have specific principles or goals they follow when making investment decisions. These principles often focus on specific industry segments such as GameFi or DeFi protocols. To propose an investment decision, token holders of the investment DAO submit proposals, which may be limited to specific token holders based on their amount or group affiliation.
Once the proposal is submitted, users can stake their tokens or use a snapshot mechanism to vote. The snapshot mechanism distributes voting rights based on the number of governance tokens held in each wallet, preventing vote manipulation. After voting, the decision is implemented according to the results.
Investment DAOs distribute profits through airdrops to governance token holders or staking mechanisms, allowing token holders to withdraw a share of rewards from the smart contract.
To facilitate proposals, Investment DAOs often run active community channels on Discord and Telegram. A healthy and active membership is crucial for the success of the DAO.
Where Does Its Money Come From?
To build up its treasury, an investment DAO can use several methods. One common approach is conducting a governance token sale. A new DAO creates and offers its token to investors, who may purchase it for speculation or voting rights.
Experienced investors with a solid investment strategy are likely to attract a large community of potential DAO members. The DAO then sells the governance token for popular cryptocurrencies such as BTC, ETH, or stablecoins, generating funds in its treasury. The DAO may also hold some governance tokens for future sales.
Another way is to issue and sell NFTs that can be purely collectible or provide additional governance rights. Investment DAOs may also have treasury funds and digital assets from previous successes, such as a DeFi project that generates revenue from its services. The DAO can then decide to invest the money. However, investment DAOs typically specialize in investments only.
Is It Legal?
Determining the regulatory status of investment DAOs can vary depending on the jurisdiction. Some countries may not have specific regulations for investment DAOs, which can make it challenging to classify them. One way to get an idea is to check if the DAO's governance token is regulated and may require specific licensing. It is also possible that the DAO may fall under other crypto regulations.
Investment clubs, which are similar in concept to investment DAOs, are not a new idea, and many countries have already established regulations for them. For instance, the IRS has set specific requirements for groups that pool their investments to share profits. Whether investment DAOs would fall under similar regulations depends on the local regulator and should be clarified.
Investment DAO’s Risks
Investment DAOs may decentralize power according to token ownership, but risks still exist. Owning any cryptocurrency is not without risks, and investment DAOs come with specific risks that need to be considered, such as:
- Smart contract failure - DAOs run on smart contracts that may fail due to a hack, exploit, or faulty code. This could lead to a breakdown in the mechanisms required to manage the DAO's funds.
- Poor investment decisions - Investment DAOs may invest in projects that provide a negative return on investment. Decisions made by a majority vote are not always the best ones.
- Mismanagement of funds - Investment DAOs need to manage their treasury correctly. Failure to diversify their portfolio or manage it properly could result in high risks for the DAO's investment funds.
Traditional VCs vs. Investment DAOs
Comparing VC firms and investment DAOs reveals various advantages and disadvantages. While investment DAOs have disrupted a typically exclusive industry, their uncertain status makes it difficult for investors and fundraising projects to work with. The strict criteria of traditional investments also limit most investment DAOs from partnering with other crypto projects.
However, investment DAOs have significant advantages when it comes to Web3. Traditional VC firms are interested in the potential of Web3 but usually demand a lot for their investment and expertise. Investment DAOs, on the other hand, often possess more knowledge about blockchain and Web3 technology than traditional VCs, offering expertise and a more equitable deal.
For more conventional industries, VC firms provide valuable networking opportunities and a range of supportive services. They also have the legal and regulatory backing to operate with confidence.
Conclusion
The emergence of investment DAOs as a popular topic can be traced back to the crypto boom of 2020/2021. The appeal of disrupting the established VC model has attracted blockchain enthusiasts and small-scale investors alike. As the concept is still in its early stages, it remains to be seen how the relationship between these two players will evolve. It is essential to understand the risks associated with investment DAOs and ensure they align with your portfolio strategy before diving in.