November 2, 2022

The Metaverse: Decentralized Autonomous Organizations (DAOs)

Holland & Knight IP/Decode Blog
Jacob W. S. Schneider
IP/Decode Blog

In recent years, constructs that were traditionally the domain of governments have found analogues in the metaverse. Bitcoin and other cryptocurrencies are stand-ins for government-backed fiat currency. Non-fungible tokens (NFTs) are stand-ins for government-approved ownership titles. Smart contracts are stand-ins for traditional contracts (which, while usually entered into by private parties, are enforced by courts). The rise of decentralized autonomous organizations (DAO), which are roughly analogous to government-approved corporate entities, follow the same pattern. This post explores DAOs, including what they are and how they operate, as well as recent developments at the state level to recognize them as legal corporate forms.

I. What Is a DAO?

As with corporations, DAOs are collections of individuals and assets that are organized to accomplish goals. The DAO's individual constituents are typically owners of crypto coins (or NFTs). When decisions need to be made, the DAO's constituents vote in a democratic fashion. This governance is "decentralized" because there is no board of directors, no CEO. It is as if each shareholder of a company could vote on each and every of the entity's actions. In most DAOs, ownership of the crypto coin translates to voting power. For example, a DAO could be organized such that each crypto coin is worth one vote, so an individual with 100 coins would have twice the voting power as an individual with 50 coins. As with crypto coins, voting is tied to and recorded on a blockchain, and often the votes of each individual constituent are known to the public by simply reviewing activity on the blockchain. A DAO is "autonomous" because it is powered by smart contracts that automatically execute to move the organization toward its goals.

DAOs could have any number of goals. As an example, in 2021 a group called the ConstitutionDAO claimed to have pooled $40 million of (mostly) ethereum to buy a rare copy of the U.S. Constitution at auction. The effort came up short (the winning bid was $43.2 million), and the DAO is now in the process of providing refunds to constituents. (Bizarrely enough, the voting coin for this defunct DAO is still actively traded.)

As a second example, the Decentraland metaverse is organized as a DAO. Decentraland is a 3D virtual world where all assets and property are represented by tradable NFTs. Each constituent of Decentraland has a measure of Voting Power (VP) that is calculated based on their holdings of MANA, LAND and NAME within the metaverse, and all of these assets have associated crypto tokens. Decentraland's voting formula favors landholders: Each LAND parcel provides 2,000 VP, while each MANA provides only one VP. What the community votes on runs the gamut: requests for grants for property development, addition of new wearables for users' avatars, organizing land auctions and sales fees. (View a list of current open votes.) One recent closed vote asked whether a user's virtual clothing shop should be added to Decentraland's "Points of Interest List." (Four comments later, the community voted it down: 1,396,512 VP to 23 VP.)

A completely decentralized system of governance does have limitations, and many DAOs adopt a kind of hybrid model to account for them. Organizations need to make many small decisions on a daily basis, and it would be inefficient to hold a vote on everything. For example, should the DAO really ask the collective whether it should pay or push back on the server hosting bill? For this reason, Decentraland has adopted hybrid governance. The non-profit Decentraland Foundation handles the day-to-day tasks of keeping a metaverse running.

II. State Recognition of DAOs

Because DAOs organize individuals and capital, at least some states are formally recognizing DAOs as corporate entities. In early 2021, Wyoming amended its corporate code to specifically acknowledge a DAO as a "DAO LLC." Wyoming's amended law requires the that DAO LLC's Articles of Organization list the DAO's operating smart contracts and a statement of how the DAO will be managed by its constituents, as well as other items. Wyoming also requires the DAO to list a registered agent to identify whom should receive service of process (e.g., notification of a filed complaint in court).

Wyoming is not alone. Vermont has also established a corporate form to accommodate DAOs: "Blockchain-based Limited Liability Companies," or "BBLLCs." Most recently, Tennessee passed legislation to establish DAO LLCs.

In each of these jurisdictions, states are attempting to become the "Delaware of DAOs." By encouraging DAOs to register in their state, the states attract cutting-edge technologies and, of course, additional tax revenue.

As with crypto coins, NFTs and smart contracts, DAOs are just beginning to receive traction. Because they provide a general structure to accomplish goals and have already received states' acceptance, we should expect to see more DAO initiatives in the years to come.

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