DAO Money Management Series 1: How to build and design

Introduction:

In the current crypto ecosystem, many DAOs emerge every day, but most DAOs are not yet capable of coping with the challenges they face. There are some mature DAOs that have gone relatively far, providing regular reports for the community and shareholders for analysis and understanding, but this is not the norm. Most are still at the point where they have voting DAO tokens, potential developers, contributors, and members. The operation and payment mechanism of DAO is still quite rough.

In the next series of articles, we will delve into some basic knowledge of money management, why active money management is important, and some best practices, tools and benchmark tests to help existing DAOs to fund like professionals manage.

Just like any organization, we should always have a set of standards and practices that help manage finances—especially in cryptocurrencies. After all, cryptocurrency itself is a kind of currency or tokenized financial system. Therefore, it is not easy for the DAO to realize the financing of the general Ministry of Finance and corporate financing, but it is essential for the DAO to function normally and become a successful decentralized enterprise. essential.

Fundamentals of Corporate Finance/Accounting/Fund Management

Why does DAO need corporate finance, money management and accounting?

As mentioned earlier, DAO is a business! As it happens, the leader of this ship is not the CEO, but a group of scattered members, who together determine the direction of the company’s development. Even if DAO has no legal status as an entity in a particular country, it should still be regarded as an entity with core corporate needs. Like any business, DAO needs human capital (sometimes physical capital) to support its business and increase its revenue and profits. Human capital needs a cost-so a budget is needed because the DAO needs to allocate some assets (ie cash or tokens) to pay for human capital (contributors, employees, contractors, etc.). 

DAO may also have costs associated with other suppliers, such as website or running nodes, marketing, and other supplementary services but not the management of core income providers/contributors. All these costs also need a budget! Many DAOs currently use the Snapshot application to collect data about the ideas and budget of the proposal, which is a good way to start a temporary project. But like companies, DAOs and members should consider a regular budgeting process for allocating a portion of the funds and assets they own to cover a specific time frame. The DAO should not only consider the budget of a single proposal, but should consider it as a part of the whole and how this will affect other economic activities that the DAO can carry out. By allocating funds to one proposal, you reduce the amount available for other proposals. Therefore, the budget preparation should comprehensively consider human capital costs and management costs to avoid liquidity and capital problems. The DAO has different requirements for these costs at different stages of its life cycle, so it may be difficult for the DAO to know exactly where and how much to budget, so why it should be done on a regular basis, and be flexible enough to change the changing landscape of allocation. In a quarter, marketing can be very important due to the recent dApp release, so more budget can be allocated to this cost stream. Or, there may be a series of proposals to make more dApps to provide additional revenue, and then require a larger budget to build and pay contributors. These will have ebbs and flows, so flexibility is important, and regular reassessment is the best practice.

With the implementation of the overall budget strategy, now the DAO needs to consider how much resources it wants to allocate in the next 3 months, 6 months, and a year? This is where it’s crucial to have some basic holdings/balance sheet reports—understanding how much the DAO can actually afford! Without going into details, it is now obvious that knowing how much a DAO can afford is critical to knowing how to best use its resources. The resources of each DAO are limited, which is a universal economic principle; these resources should be allocated and spent on the most potential projects and proposals to increase the economic impact of the overall value of the DAO. This is where the diversification of the DAO’s treasury funds is critical to success. If the DAO approves the $50,000 budget for the quarter, it will need to spend $50,000. If DAO only owns native tokens, and contributors are willing to receive native tokens to pay for the service, then DAO can pay directly.

But what happens if the value of the token changes? DAO will spend more or less tokens on each contributor based on the spot price-huge foreign exchange risk! In addition, many contributors may simply liquidate the tokens they receive, assuming they have their own expenses. Diversifying investment portfolios before budgeting becomes a key component of financial management and general operations. This is undoubtedly a balance, which we will discuss later in this section, because the DAO should hope that a good combination of currency and native tokens will prepare for short-term liquidity and cash needs, and prepare for long-term success. currency.

Budget and liquidity forecast

Budget is absolutely necessary for the normal operation of DAO. The budget can be very simple, nothing special, of course, DAO members need to vote and approve the budget. I would recommend a simple spreadsheet or pie chart, which summarizes the current total budget (may be part of the asset, the next quarter may be 15%), and then enumerate the expenditure budget for the categories related to the DAO. The budget should usually be only a small part of the total holdings, at least for the current and next three quarters. Once the budget for the next quarter/period is in place, DAO members can now properly forecast their liquidity needs. Liquidity forecasts can be very complicated or very simple. The most conservative liquidity forecast is to assume that 100% of the costs will be allocated on the first day of the period, and there will be $0 in revenue during the period to cover and reduce these costs. The opposite scope is that the revenue received will cover 100% of the budgeted cost, but unless members are very confident in this forecast, it is strongly recommended to assume that the cost will exceed the revenue. To give a simplest example, that is, 100% of the cost is paid at the beginning of the period, and there is no income coverage, then the DAO should plan to provide 110% of the liquidity in the form of stablecoin or ETH at the beginning of the period (in case the cost ends higher than expected). It is also strongly recommended to propose and analyze budgets not only for the upcoming period, but also for the next 3-4 periods, as well as liquidity forecasts for these periods.

Holding/Balance Sheet

The balance sheet may just be a simple summary of the current holdings of the DAO. If the only asset the DAO owns is its native tokens, then the balance sheet is just a row that converts these tokens to U.S. dollars on the day you submit the BS (usually the end of the quarter). If the DAO owns more tokens, it is recommended to separate each token in the report to achieve diversified visibility, but it is also only the dollar sum of these tokens/assets (if the NFT is also owned by the DAO). As the DAO becomes more mature and brings full-time employees or dedicated contributors with an arranged salary, I recommend these as a liability for the arrears at the end of the contract. This helps to understand the costs that have been accounted for so that the net assets (assets-liabilities) figures reflect an accurate summary of the resources available to the DAO. To the extent required, it is also advisable to separate any assets locked during the DAO vesting period: unlocked tokens are “usable tokens”, and locked tokens are denoted as “restricted vested tokens”. This also provides a better background for the actual liquidity and the number of assets/tokens that DAO can use for its liquidity and budget planning.

Fund management and portfolio diversification

After starting the budget, DAO members create liquidity forecasts and current holdings reports, we now need to actually formulate strategies how to adapt to these plans. The role of the Ministry of Finance here is not to make any decisions on budgets or forecasts. Ideally, the members of the DAO have agreed on these proposals, so the real job of the DAO Ministry of Finance is to ensure that it has enough funds to express the DAO in the necessary currency Perfectly execute its plan. When looking at the liquidity forecast, the Ministry of Finance needs to ensure that it has sufficient capital, whether it is stablecoins (preferred) or native tokens/other cryptocurrencies, it can allocate funds to meet liquidity requirements. In my previous company, I would conduct 1-week and 2-week liquidity forecasts every Monday to understand how much cash is needed to operate the business that week. We always take a conservative approach, assuming that the lower statistical limit of revenue offsets the cost (assuming the worst-case scenario-most expenses). In addition, since we manage entities in more than 20 currencies in more than 42 countries/regions, we need to consider the currency and liquidity requirements of each underlying subsidiary to ensure that our cash portfolio is appropriately diversified to cover these All outflows of assets. Currency, they are not enough to use foreign exchange tools to convert a surplus of one currency into a shortage of another currency. Therefore, I recommend holding enough stable and base currencies ( ETH /USD) to meet short-term funding needs, because these will be the most suitable for actual payment of fees. However, if the Ministry of Finance can only choose to issue native tokens to meet its needs, then the tokens will have the value that suppliers, contributors, and employees need when payment is due, which is a big risk. Tools such as the purchase of put options can be used to offset this risk to ensure that the price of the token is higher than the price required for cash, but it may be simpler to proactively ensure that there are enough stable tokens in the treasury before the cost increases. The Ministry of Finance can achieve diversification in many ways. We will explore many financial tools in the in-depth discussion of “Tools and Best Practices of the Ministry of Finance” (coming soon).

The first priority of the DAO Ministry of Finance is to meet the short-term liquidity requirements discussed above, but in addition, they should also plan to generate additional liquidity for the future period (based on forecasts and budgets) to ensure that the DAO has sufficient funds. In the long-term plan (if there is no strategy for lending or additional investment activities), generate income from idle balances and manage crypto risk exposure. Future liquidity planning will usually involve generating additional stablecoins through revenue or other methods (such as the sale of guaranteed call options or limit orders)-but in a responsible manner consistent with the market.

The DAO Ministry of Finance should also establish a benchmark minimum capital and a minimum stable currency portfolio percentage to be maintained at all times. These goals help the DAO navigate the good and bad times. Remember, the DAO Ministry of Finance is not a hedge fund. Their main function is to ensure the financial life of the DAO-which means reducing risk in exchange for lower volatility. Lower volatility does mean that there is less upside for token appreciation, but it also means that there is less downside risk that may ruin the DAO overnight. Once the minimum capital amount has been determined, the Ministry of Finance can now determine whether there is a risk of falling below that minimum capital. If this is determined, then the DAO Ministry of Finance needs to develop a strategy for how to generate additional long-term capital—usually in the form of debt (borrowing) or investment (token sales/grants/equity). Capital market activities do not happen overnight, so the DAO should fully understand any financial risks a few months in advance in order to be ready to take action.

Generating revenue from idle balances is not a necessary activity, but the Ministry of Finance may consider it a useful activity that can generate revenue and bring in more assets without building new products or applications. This can be done through income farming, borrowing assets, selling guaranteed call/put options, and many other methods provided by DeFi. However, depending on the maturity of the DAO, it may be difficult to utilize idle native tokens. Call options covered by the selling price are a way to diversify the combination of upfront returns and additional returns (assuming price increases) because they directly use native tokens without market sales.

Finally, the Ministry of Finance should consistently manage its cryptocurrency balances. Once the DAO starts to generate revenue in non-native tokens, the Ministry of Finance needs to determine whether the revenue received will be used to pay fees (i.e. stablecoin revenue). However, if the income is other tokens, such as from liquidity pooling or mining fees, then the Ministry of Finance should consider how holding these cryptocurrency balances affects its overall risk exposure (or value at risk). The Ministry of Finance wants to limit its exposure and reduce its value-at-risk (defined as the value of the portfolio that may be lost based on specific adverse changes in a specific period of time, usually analyzed as 2 standard deviations or 90th percentile changes). This may mean selling currencies held but not core business, or it may mean holding these tokens because they are negatively correlated with the rest of the portfolio. This exercise can be very complicated. We will once again delve into some of the best portfolio management practices to understand how to identify and quantify risks, and what tools and methods the DAO Ministry of Finance can use to de-risk.

Notes on reporting and operating currencies

We should establish the currency of general business-the currency of all financial reports. This may not be obvious at first, but when considering the operation of the DAO, which cryptocurrency or fiat currency does it operate and conduct business in? If only native tokens are used now, how do members of the DAO actually consider the operation of the DAO, or does the DAO consider these tokens from the perspective of the value of ETH or stablecoins? Every DAO is different-but I suggest that general DAOs (unless they have a special reason to deviate) should use stablecoins or U.S. dollars as their operating currencies.

Why use stablecoins instead of native tokens:

A DAO is a business, and businesses need a consistent currency to pay their contributors, earn income, and pay for other management tasks. The native DAO tokens are not designed for operating budgets (even if participants want tokens instead of cash, Apple will not pay its glass suppliers in Apple stock!)

DAO tokens are used to vote-not to pay people, but can be used for some team compensation. Income is usually not based on DAO voting tokens, but based on other cryptocurrencies. The budgets and forecasts of stablecoins are much simpler, while native tokens must consider potential changes in future spot prices to predict (almost impossible).

Final thoughts

Fund management may be an important and full-time task. DAO should consider appointing a “fund manager” as a full-time individual team to manage DAO’s investment portfolio and holdings.

Posted by:CoinYuppie,Reprinted with attribution to:https://coinyuppie.com/dao-money-management-series-1-how-to-build-and-design/
Coinyuppie is an open information publishing platform, all information provided is not related to the views and positions of coinyuppie, and does not constitute any investment and financial advice. Users are expected to carefully screen and prevent risks.

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