What can DAOs learn from corporate governance?

Author: Crypto Kailash

Source cryptokailash.substack.com

Recently, DeFi protocol MakerDAO was having an interesting discussion on how to improve the community decision-making process by creating a charter and establishing committees.

Source: Maker DAO Forum

This article will take MakerDAO as an example, summarize the experience that DAO can learn from corporate governance, and help define the role of each participant in the DAO system.

Source: Maker DAO Forum

Both corporations and DAOs face the principal-agent problem: the interests of the agent making the decision do not necessarily align with those of the principals affected. DAOs have similar problems to companies with decentralized ownership.

Before diving into corporate governance, I would like to highlight the three core challenges of DAO governance identified by Professor Andy Hall of Stanford University:

• Participation: Coin holders have low participation in governance
• Information and Expertise: Making informed, informed decisions about complex technical issues at a time when most token holders are unlikely to have the necessary time or expertise.
• Aligned Incentives: Align incentives for DAO stakeholders.

I think we need to test new models of voter empowerment, periodic elections, division of labor, representative compensation and incentives. We can get a glimpse of this from good corporate governance practices.

Corporate Governance and DAOs

The key fundamental principles of corporate governance that guide all practices are:

• Transparency: Desire to provide stakeholders with all the information that is of value to them
• Accountability: Governance bodies must be accountable for their actions in a clear, concise, understandable, and timely manner, and fully responsible for the consequences of their actions and inactions

A governance system can include the following structures designed to provide checks and balances:

Source: Code of Best Practices of Corporate Governance

In the sections that follow, I highlight excerpts from the Code of Best Practices of Corporate Governance (in italics below) and append my views following the corresponding text.

company policy

Complementing existing law, the Articles of Incorporation govern and define how the organization operates, including the organizational levels and responsibilities of each governance participant. It helps increase the transparency of an organization's governance system and fosters trust in its relationships with all relevant stakeholders.

In corporate governance, there is a supervisory and controlling body.

The Independent Audit Group should report directly to the Board of Directors. Supported by the work of the independent auditor, the executive is responsible for ensuring the integrity of the organization's financial statements prepared in accordance with current accounting practices.

The company's articles of association may provide that transactions between related parties are subject to approval by the board of directors (except for any members who may have a conflict of interest).

my point of view:

It is similar to the constitutional idea discussed in MakerDAO. This is an opportunity for the community to build alignment on purpose and principles. Establishing purpose and principles is not only a good practice of corporate governance, but also a good practice of network coordination. The charter should also specify the responsibilities of key stakeholders within the system.

Source: Converge

Something like a treasury committee might be good in a DAO like Lido or Maker, where the actions of token holders affect other parts not directly involved in governance, like stETH or DAI holders . They can have veto power over specific actions. Below, Sébastien explores an example of veto power in practice from MakerDAO, where stablecoin/bondholders can use their tokens to make changes to trustees/contracts (proposed by governance holders) that would result in Proposals for protocol bankruptcy are voted on.

Source: Twitter Sébastien Derivaux

The stablecoin project Gyroscope Protocol has also introduced the concept of vetoing specific actions. If the governing body tries to deviate from the shared vision of the protocol, Gyro holders will be able to exercise an optional veto during the time delay to stop it. Normally, Gyro holders do not need to do anything if the governance measures are sound. However, if a governance action is contested, Gyro holders can exercise a veto to block the action.

The creation of this additional committee could help improve coordination among veto holders, increase their participation in the system, and improve checks and balances.

Another important structural governance player is the independent auditor. Who reviews the financial statements and non-financial information provided by the DAO? Although most data in the blockchain is transparent, it can be difficult to summarize all the information and present it to stakeholders in a clear manner. Is it Time for Audit DAOs to Build a Reputation in the Space?

Board of Directors

The board of directors is the central body of the governance system. It is the guardian of the principles, values, purposes and systems of organizational governance and is its main component. Board members are elected by shareholders.

As stewards, directors have fiduciary responsibilities to the organization and must be accountable to shareholders. In a broader and regular fashion, they must also be accountable to shareholders and other stakeholders by filing financial statements.

Board members are accountable to the organization. The notion that board members represent any stakeholder is not enough. It must take into account the social purpose of the organization, its long-term viability and the impact of its activities, products and services on society and its stakeholders (externalities) in carrying out its responsibilities.

Board Responsibilities:

• Determine the strategic direction of the business
• Approve the annual budget
• Ensure executive management implements risk management policies by identifying, mitigating and monitoring risks faced by the organization
• Select the Chief Executive Officer (CEO) and approve the appointment of other members of the executive management
• Clear implementation of management's compensation and incentive policies
• Oversee the financial and operational performance of executive management

my point of view:

Overall, I like MakerDAO's committee proposal because it is in line with good corporate governance practices.

My suggestion is to add some of the above-mentioned responsibilities to the committee, such as: ensuring the risk management policy within the DAO, monitoring and evaluating the performance of core departments, ensuring that the remuneration policy is appropriate, selecting an independent auditor, etc. In this way, committees can help provide checks and balances to the governance system.

The problem with the current delegation system is that they have no incentive to specifically propose and check and balance the power of the core unit. The incentive is to participate in more proposals and speak in forums, since they are paid based on quantity, not quality. Another approach is to impose a floor until the representative is paid. Transparency about engagement and communication activities is interesting, but linking it directly to linear rewards seduces superficial engagement. This topic deserves a separate discussion.

Adding committee structures can improve this governance system. The committee will have appropriate incentives to encourage more active participation and improve the checks and balances of the system. This is similar to creating child DAOs, which is more of a division of labor than a hierarchy. In my opinion, the greater benefit is to establish an incentive mechanism to allow experts to elaborate on project proposals from the perspective of the long-term development of the project.

What makes MakerDAO different is the coexistence with delegates, where the committee has no formal decision-making power. To reduce the number of proposals that token holders need to vote for, it is possible to implement an optimistic governance model for certain types of actions.

composition:

Board composition must take into account diversity of knowledge, experience, behaviour, culture, age and gender.

An odd number of members between 5 and 11 is recommended.

Independence of Board Members:

Once elected, all board members are accountable to the organization, regardless of whether shareholders, shareholder groups, managers or stakeholders appointed them to the position.

Board members who disagree on a specific issue must refrain from participating in discussions and decisions on that specific issue.

In companies with dispersed ownership and no clear controlling shareholder, the role of independent directors is particularly important. In this case, the leading role of executive management must be balanced.

In order to promote the independent judgment of all board members and the integrity of the governance system, the appointment of internal members to the board should be avoided.

my point of view:

I think this independence is important and the committee should not have core unit members because the idea is to have a division of labor in governance and have checks and balances in the system.

term of office

The term of office of board members shall not exceed two years.

Third sector organizations may choose to renew their board members partially or in installments.

To form a productive and experienced Board, re-elected based on evaluation results.

Regardless of length of service on the board, the results of the annual evaluation must be considered when deciding whether to extend their term or to affirm their independence. The renewal criteria must be clearly set out in the company's articles of association or internal regulations of the board of directors. To avoid lifetime tenure, the company by-laws/articles may specify the maximum number of consecutive years of board office.

my point of view:

For DAO, I think the tenure should not exceed 1 year, and the committee can conduct evaluation every 6 months.

Compensation of board members

Board members must be adequately remunerated, taking into account market conditions, qualifications, value to the organization and risks associated with the activity. Appropriate compensation promotes alignment of goals and prevents conflicts of interest.

Board members should not be paid based on the number of meetings they attend. An equal, fixed monthly salary is recommended for all members.

Boards of directors should be compensated on a different scale (incentives, metrics and terms) than executive management because of the different nature and roles of these bodies within the organization.

my point of view:

I agree to an equal fixed monthly salary for all committee members. I'm not sure it's a good practice to offer committee members variable compensation.

Budget for board and external consultation

Boards can act independently and informedly when the organization may require assistance from third-party advisory services. Therefore, the board should have sufficient financial resources to achieve this purpose.

my point of view:

I believe this could be applied to the MakerDAO committee, empowering it to hire third-party advisory services when needed.

board committee

Committees have no decision-making power, and their recommendations are not binding on board decisions.

Board committees include: Audit, Finance, Human Resources, Risk, Sustainability.

my point of view:

This could be a way of promoting dedicated discussions in the strategic areas mentioned above.

DAO Ecosystem and Governance

In the chapters above, we discussed incentives, actors, and the structure of decisions. Another area that needs to move forward, following the simple framework below, is reducing the scope of governance-related decisions. Governance introduces costs and uncertainties. A good example of a protocol DAO with minimal governance is Uniswap.

Source: 30000feet

DAO is a flexible organizational model and there are many types. In this article, we mainly focus on the case of MakerDAO. For different DAOs, we may want to test different governance solutions.

Source: DAO Central