DAOs are the future VCs

I was just reading an article in Techcrunch about Orange DAO, a decentralized autonomous organization founded by alumni from YCombinator that raised $80 million to invest in early-stage startups. The organization has roughly 1,300 members and in the last nine months has invested in 90 startups.

A DAO (“Decentralized Autonomous Organization”) is a blockchain-based structure that uses smart contracts, with each member owning a stake and voting on every decision the organization makes. DAOs effectively remove the need for centralized control, making decision-making decentralized and autonomous.

The Original DAO created in 2016 was the first decentralized autonomous organization, but it was hacked and millions were stolen because of a vulnerability in its code. After that exploit even until 2021, DAOs were sort of on the back burner.

In the last couple of years, a lot of people have been experimenting with DAOs and now we have thousands of DAOs that hold almost $10 billion in funds with 3,9 million governance token holders and 696,000 active voters and proposal makers. We are starting to see some implementations which are picking to get some traction.

Crypto communities have been springing up, as DAOs are pooling their funds in treasuries and enabling participants to vote and decide how the project should be managed.

The UkraineDAO raised over $3.3 million for the Ukrainian war effort by auctioning off a Non-Fungible Token (NFT) of the country’s flag. However, this is only a portion of the $53 million raised by AssangeDAO in the past months to finance legal attempts to liberate Wikileaks founder Julian Assange from a UK prison. Big Green DAO, a food-and-nutrition-focused nonprofit owned by Elon Musk’s brother, is also decentralizing how donations are allocated.

But, to understand things better, we need to go back a bit.

In web1, the internet was decentralized but without a native business model. In web2, value capture came through massive centralized companies and applications built on top of the internet. Now, web3 enables networks to create and capture value, and for the first time in centuries, using blockchain, we can move away from centralized structures that capture value to decentralized ones.

When you look at the internet over the last twenty years, where did all the value that was created go? Well, it went to founders, investors that got in early in these startups, and big public market investors.

With web2, wealth became extremely centralized, creating massive inequities. Web3 promises to put an end to these inequities, using blockchain technology, and let contributors and users of internet services become co-owners of these services and raise themselves to greater levels of prosperity.

Let me give you an example.

Uber created tremendous value and has changed the world. But that value was accumulated by very few people —founders, investors, etc. The people in the network, the drivers, the riders — a lot of these drivers with gas prices going up, sleep in their cars because they can’t afford to commute to where they live — do not participate in the value that was created. The same goes for other networks, Airbnb, Facebook, Instagram, TikTok, and the list goes on.

Is there a better model? Could these networks, if they were owned by the users, become more resilient and sustainable, and make society better?

In 2017, when I ran an ICO for a decentralized application, the notion that investment is changing was firmly planted in my mind and I’ve been pondering this idea ever since. As misguided as ICOs were in 2017, one of the things that were clear about ICOs was that it was a completely open and democratic model to invest in technology, in ways that we’ve never seen before. Even though from a regulatory perspective it was not the right approach, they opened Aeolus’ bag of winds and got a lot of people thinking if there is a more decentralized approach to venture capital.

If you look at venture capital over the last 20+ years, even before DAOs, web3, and crypto, the world of investing has been going through a transition, moving toward decentralization. Two decades ago, AngelList disrupted startup investing with syndicates and SPVs, ushering in the spread of angel investors around the world.

Today when you look at traditional investing, outside of web3, you’ll see that many angels band together, to form angel networks. The reason for this is to win deals and outcompete solo angels and early-stage VCs. The other thing is that the angel investing model doesn’t do a great job of supporting portfolio companies. To compete with traditional venture firms, that have more resources for business development, hiring, marketing, and other support for their startups, they are forming angel networks and bringing people together with different skills to recreate a venture capital fund in a more distributed way.

DAOs can take the trend we are seeing with angel networks to an extreme and synchronize financial and human capital, very quickly, very cheaply, and very efficiently.

Some of the successful DAOs that have emerged in the last couple of years are giving us a better idea about some of the things that work. They have shown us that very purposeful DAOs with explicit mandates, tend to do better. DAOs that are very generic and don’t have a clear purpose have a harder time sustaining themselves.

For example, the ConstitutionDAO — formed in November 2021 to purchase an original copy of the United States Constitution, raised $47 million in Ethereum, but lost to a bid of $43.2 million in the Sotheby’s auction — and a DAO that invests in female founders have had a lot of success because they had an explicit strategy and intent that made it easier to decide the implementation details —who can join, how many, and how should they be interacting with the DAO.

DAOs are going to lead to the creation of new organizational structures that don’t even exist today, but in the near term, they can transform and expand the definition of organizations like venture capital funds.

When you have a tech like web3 that is so different and so new, you need to build capabilities that are native to that technology. Most VC funds don’t have these capabilities and because of this reason, they are going to have a tough time keeping up with the pace of innovation that is coming out of web3.

From the founder’s perspective, when you’re building a startup, to be successful you need as much help as you can get. When you’re thinking about taking capital from various angels or VCs you tend to think about what capabilities they have and how they can support you with distribution, marketing, and hiring. But when you’re building a crypto/web3 startup there are new skills, on top of the existing ones, that are needed to make the company successful. Some of those things relate to the investor being able to help the founder operate the network when it becomes decentralized. There are many horror stories in which founders of crypto/web3 companies gave tokens to their investors and they immediately dumped them, crashing the price of that network and giving ownership of those tokens to people who were not long-term investors and were only looking for short-term gains.

Web3 blurs the line between investors and users. You can buy an NFT, but at the same time, you are also investing in that project. When you buy a governance token, if you are using the network, you are not only a user, you are also an investor. If users are becoming investors, then investors will have to become users.

Investors need to understand that they cannot take the same strategies from web2 and expect to win in web3. It’s a completely different ball game. This does not mean that investors need to go all into crypto/web3, as long as they have the right partners to work with at the beginning (co-invest, etc). But it’s not going to take 5 or 10 years before web3 is completely separate from web2. That means that VCs will need to develop network-native skills pretty quickly.

VCs certainly feel the heat and in June VC3 came out of stealth, in an effort to build a DAO for professional venture capital investment. VC3 taps into the networks and expertise of more than 150 members, all of whom are venture capital professionals, and Kauffman Fellows representing more than 600 firms across six continents.

DAOs are one of the most incredible concepts built, using blockchain technology, and they could eventually become the preferred funding method for all startups, not just crypto startups. As web3 and DAOs come together it’s clear that VCs will have to change how they operate, how they invest in startups, and what value, if any, they bring to the table, particularly as web3 grows.

I am very pragmatic and I know that change happens sequentially and incrementally. If you’re an investor there is still time, but if you believe what I believe now is the time to start preparing because down the road, investors who are active and have a participatory role in the networks they invest in are going to be the ones that win.

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