Decentralized Autonomous Organizations from a legal perspective.

Smart contracts are an idea that date back to the 1990’s [1]. Until very recently and practically speaking even now smart contracts are difficult if not impossible to create in practice. The implementation of a decentralized, trustless public ledger provided an important component for smart contracts to become practically viable. Some thinkers have taken the idea further and envisioned corporations or non-profit organizations structured as smart contracts. In 2014 a project called Ethereum [3][4] set out to create a platform devoted to smart contracts bringing smart contracts a step closer to reality. Ethereum went live on July 30 2015 [5]. It is now possible to create in code (or with visual tools) a Decentralized Autonomous Organization (DAO) [8] on the Ethereum platform. How well a DAO fits in the real world, and the practical issues involved with creating a DAO is the focus of this report.

Virtual vs. Real World
A DAO can be created on a smart contract platform (Ethereum is the most popular one, but there are others). We will now list the key issues surrounding using a DAO to conduct business.

LEGAL

  • DAOs have not been recognized yet by the legal system, and as such they may simply be treated as a piece of software belonging to the creators or parties who commissioned the creation of the DAO
  • There are outstanding issues with liability of a DAO, if it has no defined legal structure, who is liable in the case of a lawsuit [11]
  • A DAO should have a clear legal owner (otherwise the courts will ascribe one to it when needed), or perhaps be its own owner if the legal system allows corporations to be operated without human intervention.
  • One way to utilize a DAO is to form a corporation where each director assigns agency to a common DAO. That way the directors are protected by the corporation, and the DAO has legal ability to conduct business as an agent of the directors.
  • In a more complex scheme each director could be represented by a smart contract. These are then combined and a DAO is formed out of a combination of the individual smart contracts. Here of course care must be taken to design the smart contracts and the ‘combination’ DAO so that it does not go against the original purpose of the DAO. This approach is complex, but perhaps more desirable.
  • We need to consider Agency Law? It has never been tested with respect to a DAO. So it is unclear, legally speaking, whether a DAO can act as an agent of a traditional corporate structure, or even a director of such a structure.

REGULATION RELATED

  • A DAO’s rules are meant to be encoded for the duration of its existence; as such a DAO would have a hard time evolving to the ever changing regulation. A change in regulatory regime may deem the DAO obsolete.

PRACTICAL

  • Interaction with the real world. The DAO has no ability to deal with fiat currencies, no ability to open and operate a traditional bank account, and no well-defined legal means to own property (other than property tied to a blockchain)
  • Input of real world information is still an unsolved issue. There will be third party services providing information called oracles [6][7], but the trust associated with these services is unproven. Regardless, providing information from the outside world to DAOs is an issue.

Benefits of DAO

  • Strict adherence to the coded set of rules.
  • Minimizes (or eliminates entirely) corruption. A DAO cannot be bribed – it simply does what its code is written to do.
  • Governance is fair and decentralized [10]
  • Improved transparency and audit compliance

Summary
While DAOs will undoubtedly enjoy a bright future, they are currently not ready yet for mainstream businesses. It will take a few trailblazers to compel the the legal systems to deal with DAOs. Until such time this author would not advise the board to consider using a DAO as a corporate structure. It is perhaps worth trying out on a project basis under the umbrella of an incorporated company. While DAOs have many benefits, they also face an uncertain legal definition and treatment. Perhaps the biggest issue concerning a DAO is that of liability. Furthermore there are practical limitations in deploying a DAO. The blockchain ecosystem is not fully ready or able to interface with the rest of the world.

References

[1] http://szabo.best.vwh.net/smart_contracts_idea.html
[2] Nakamoto, Satoshi. “Bitcoin: A peer-to-peer electronic cash system.” (2008).
[3] Wood, Gavin. “Ethereum: A secure decentralised generalised transaction ledger.” Ethereum Project Yellow Paper (2014).
[4] https://github.com/ethereum/wiki/wiki/White-Paper
[5] https://en.wikipedia.org/wiki/Ethereum
[6] https://github.com/codius/codius/wiki/Smart-Oracles:-A-Simple,-Powerful-Approach-to-Smart-Contracts
[7] https://blog.ethereum.org/2014/07/22/ethereum-and-oracles/
[8] https://en.wikipedia.org/wiki/Decentralized_autonomous_organization
[9] http://www.coindesk.com/succeed-as-decentralized-autonomous-organization/
[10] https://slock.it/dao.html
[11] http://www.coindesk.com/how-to-sue-a-decentralized-autonomous-organization/
[12] http://www.ofnumbers.com/the-guide/

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