DAOs Have a Treasury Management Problem
Buy the rumor, sell the news
Everyone says DAOs are the next hot thing. But a lot of them do a poor job managing their treasury. Their treasuries are stuffed full of volatile Layer 1 cryptocurrencies and/or protocol tokens.
There’s a very simple solution here for any DAO, and that is to swap volatile Layer 1 cryptocurrencies and/or protocol tokens for stablecoins. Of course, not all stablecoins are created equal. And, I’m not interested in shilling any particular stablecoin here.
But I do want to focus on why this is important, how mismanaging treasuries can ruin an organization, and what opportunities there are for building tools which will solve this issue.
For a bit of context, take a look at any large, publicly traded company’s Annual Report, and you will find information about how the company manages cash and cash equivalents on its balance sheet.
Here, for example, is Apple’s presentation:
Screenshot via Apple, page 41.
I’m not going to take the time to define all of the line items we see above, but all of these balances represent either cash or highly liquid, very low risk “cash equivalents”. If it makes it easier for you, think of “cash equivalent” as “something that I can sell immediately for cash.”
Why is this a problem?
DAOs are collectives of people, and people have varying perspectives on DAO management, interest in DAO management, commitment to DAO management, and ability to participate in DAO management.
DAOs, in other words, have a governance problem. Current tools for governing DAOs are primitive or non-existent. These tools will improve over time. Many of the governance problems that currently plague DAOs will be solved with technology or legal innovation or both. The market is interesting that way.
But given all of these governance issues, the most pressing problem today is that volatile assets and slow decision-making don’t make for a good combination. If an organization cannot react in real time to, say, ETH dropping sharply, then a DAO may suddenly find itself unable to fund its operations because its principal has declined.
If you think DAOs are currently ungovernable, just wait until there is a sustained and significant drop in one of the volatile cryptocurrencies or protocol tokens that the DAO holds in its treasury.
How can mismanaging a treasury ruin an organization?
Every organization that uses money has to manage that money. The US government has a treasury, corporations have treasuries, non-profits have treasuries, and, now, DAOs, too, have treasuries. Treasuries are everywhere you look, they’re vitally important, and not a lot of people think about them.
But if you stop and do think about it, you realize: a company’s ability to pay all of its expenses has to come from somewhere. Sure, Coca-Cola sells billions of gallons of syrup to bottlers, but how does Coca-Cola (or Apple or…) actually pay its bills due next month? That cash comes out of its treasury.
Corporations solve for their cash needs by having a sufficient amount of cash and cash equivalents on hand for short-term liabilities. Accountants will create quarterly budgets and corporate treasury departments will manage cash holdings according to those budgets.
See the screenshot for Apple, above: it carries about $17 billion in cash to finance its near term financing needs. And the remaining balance is held in highly liquid cash equivalents. Apple is husbanding its resources wisely. If a meteor were to hit Apple Park, Apple could come up with the cash to continue its operations and rebuild its headquarters.
DAOs are of course distributed, so they will never suffer a catastrophic property loss. But they still have expenses to pay.
So, the fundamental issue here is that if a company (or DAO) doesn’t have enough cash on its balance sheet to pay its near term liabilities, it is screwed. It has to scramble to raise more capital, and to do so quickly. If you’re a large corp like Apple, you probably can do this pretty easily through the public markets. If you’re a DAO? Who knows? Will people buy your token? Will they deposit ETH or BTC or other Layer 1 crypto into your treasury in order to shore up your finances? Is that a bet you really want to take?
What tools can be built to solve this problem?
I get it. You want solutions, not a disquisition on arcane accounting. Fortunately, the solution is fairly easy.
Look at the capital structure of your favorite DAO. (“Capital structure” is just a fancy way of determining how a DAO’s treasury is apportioned among various cryptocurrencies, protocol tokens, etc.)
Determine which of its treasury holdings are Layer 1 or protocol tokens.
Sum up the values of these volatile holdings and compare that value to the overall value of the treasury.
If the volatile holdings comprise, say, 50% or more of the treasury holdings, swap them out for less volatile stablecoins.
Consider staking stablecoins with DeFi protocols if you want to generate some yield.
See? I told you this was easy. Stablecoins are a hedge against volatility, and you don’t even have to trade tokenized volatility to do it! No fancy financial engineering needed here. Merely common sense.
Now, though this is simple, it hides a bunch of complexity. The DAO has to make sure that whatever stablecoin it buys is a reliable one, and if the DAO decides to stake some of its stablecoins in a DeFi protocol, it has to ensure that the protocol is legitimate, etc. All of these are vital issues, and are beyond the scope of this short post.
So, the tooling to be built is: a tool which automates steps 1:5 above. That’s it. That’s the solution. Hold less volatile stuff and hold more stable stuff. Pare volatile holdings as needed in order to ensure adequate funds for whatever expenses are expected in the next few quarters.
Note that nothing here says you can’t hold any volatile Layer 1 cryptocurrencies or protocol tokens in a DAOs treasury. Rather the point is to reduce the DAO’s exposure to volatility.