What role should the DAO treasury play in the governance of token value?

Now let’s talk about the DAO vault.

A short description of a treasury for the layman: A DAO’s treasury is its capital, in other words, it is all of the DAO’s resources (in the form of fungible and non-fungible tokens) that can be used to pay and do things. When DAOs want to pay contributors in token exchange, issue grants to advisors, or solidify partnerships, they use the funds to do so. Since treasury balances are often used as a currency for transactions, they are discussed as simply cash-like assets. Usually not, the purpose of this post is to discuss why this is and, more importantly, why it matters.

On the one hand, you can forgive people the aforementioned misunderstandings to some extent. From this point of view, the DAO treasury really looks like a cash-like balance sheet. You have a bunch of tokens in your vault, and you can easily go to any crypto exchange to determine the value of those tokens. On the other hand, a large portion (usually the majority) of almost all DAO coffers consists of a particular DAO’s governance token. This creates some paradoxes and thus confusion. How exactly should we think about the size of the DAO vault? How does the treasury affect the total value of the DAO stake? More specifically: how does the composition and use of a DAO’s treasury affect the final transaction value of its governance token?

Definition of “Value”

To get this conversation right, we first need to talk about value. In traditional markets, there are two basic ways to think about the value of a company’s equity (i.e., ownership).

One is the book value of equity. Quite simply, this is the assets the company controls minus the liabilities it holds. If Evan Spiegel (the founder of Snapchat) decides to tear up Snap today, pay off all debts and other liabilities, and then sell all remaining assets (stock of Snap glasses, computers, desks, coffee machines, etc.) The earnings are distributed to all shareholders. For the company, the book value of the equity is – at least in theory – the total value they will receive as a result of him doing so.

The second is the equity market value. Literally, this is how the market values ​​a company’s total share capital: a company’s outstanding shares multiplied by its share price[1] Footnote at the bottom of the article.

These two equity values ​​are rarely equal to each other, but given that they are different calculations of the same thing, they are clearly very related. The market value of equity believes that a company is greater than the sum of its assets—more simply, market value is a reflection of expected future company performance, rather than simply presenting the value of net assets and liabilities. To put it more simply: If it is widely believed that a company is good and will use the assets it currently has to generate more future assets (especially cash or something like cash), its market value will be greater than its book value. If it is widely believed that the company is terrible and more likely to waste the assets it has now than to generate cash, the market value will be lower than the book value[2]. The easiest way to think about the market value of a stock is: today’s net asset value (also called book value) + future asset generation probability [3].

The purpose of this finance talk is to highlight a few very important points that should be considered when trying to understand the value of the DAO and the role the DAO treasury plays in that value:

1. The basic level of equity value for any organization is its asset value today, the value of any liabilities, also known as book value.

2. The total market value of equity is determined by how the asset base today is expected to generate cash in the future (i.e. a larger asset base than today).

3. A company has high operating costs to generate cash. The higher market value than book value comes with an implicit assumption that shareholders necessarily believe that companies will choose to use their assets efficiently today and earn more tomorrow.

Let’s apply these points in turn to the DAO, noting that the following assumes that the DAO’s governance token has ownership of its treasury and any future asset flows (net of fees, rewards, and other fees). (If you can’t say that about your DAO’s governance token, I would… reconsider your position, personally.)

Item 1: Asset Value Today

The equity value of any protocol is first determined by the DAO’s net asset value, and the actual price of its Token is this number plus the assumed future asset generation divided by the Token supply in the market. Both items are important, but calculations always start from today’s book value [4].

The problem with the DAO vault is that the book value of the DAO cannot include its own governance tokens, since the price of those tokens is determined at least in part by its liquid assets. Obvious statement: Token itself cannot be used in an equation to determine its own value. Not only that, but if a DAO were to liquidate, then those tokens would collapse and DAO assets would be distributed among the outstanding token holders, as they each had equal treasury rights. You wouldn’t think about Vault Tokens, how could you even if you wanted to? The treasury assets themselves cannot have claims, and the claims and rights held by these Tokens are actually redistributed to non-treasury Token holders in proportion.

In addition to value, the utility of a highly liquid asset needs to be considered – if a huge debt comes due, or a DAO just wants to invest a significant amount of capital in a new growth initiative, the DAO’s governance hallmarks are How much liquidity to pay for it all? Ether and stablecoins can be used at any time to pay for, say, compensation for losses caused by a hack. In theory, the DAO’s governance token could be mass liquidated to cover this fee, but it’s obviously not as liquid as fiat crypto, let alone the cost of diluting token holders, especially when you’re always When it is not possible to choose the price of the token you are trading (more on this later). In the end, any token mass liquidation will obviously come at the cost of token selling pressure that, in addition to the aforementioned dilution, will depress the total equity market capitalization.

This is not to say that the governance tokens held by the treasury have no value, which is clearly not the case. It just redefines how the DAO community and leadership should view them, both in terms of the capital held by the DAO and how that capital interacts with the value of the tokens already distributed. Cash-like assets form the baseline of value that token holders claim today, have fixed and known costs when they are spent, and provide guaranteed liquidity when they need to be traded – DAO governance tokens held in vaults do not do these things.

Point 1: Governance Tokens held in the DAO treasury do not contribute to the underlying value of said Governance Tokens.

Point 2: Governance tokens held in the DAO treasury should not be considered liquid funds, and the actual cost of spending them cannot be immediately known.

Item 2: The value of future asset flows

The DAO’s governance token price (eg, its equity market capitalization divided by the number of outstanding tokens) starts from the current net asset value, but ultimately depends on future asset flows [5]. You might hope this wouldn’t be a controversial claim, but frankly, I sometimes wonder if even traditional tech investors fully understand this (especially those only during the longest bull market of a lifetime). are investors). The purpose of any organization that distributes equity is to produce more capital for governance and claims to equity. Growing user base and growing TVL (total value locked), but if you can’t make a profit from it, or the profit doesn’t match the reward dilution used to drive users/TVL, then over time your vault The total value of your token will shrink, your token price will drop, and your DAO will die.

That doesn’t mean you need to create a whole bunch of assets today – many successful legacy companies don’t end up being cash flow positive for a very long time, and I don’t think many DAOs either. However, this should be because a conscious decision is being made to either expand the protocol user base (i.e. additional S&M or R&D) or distribute the treasury income to token holders (i.e., dividends) through treasury distribution, Or make governance token purchases (ie, buybacks). You wouldn’t do these things if your vault didn’t grow? Might also be a good explanation why you might be trading below your PCV (i.e. your DAO is considered “bad”, you’re not making any money, NGMI we’re not going to make it.) .

Point 3: The key to value creation by token holders is positive asset flow, or at least the ability to combine proven positive asset flow with revenue growth.

Point 4: Relatedly, the fundamental health of any protocol should determine whether its asset flow is positive when you exclude growth-related fees, token holder dividends, and token buybacks.

Item 3: Cost of Capital

Costs are necessary to create value, but how much are your expenditures really costing you?

If I buy a computer with cash, how much will it cost me? What is the value of cash? I mean, I now have a computer worth more or less the cash I spend on transactions. What it actually cost me was the return I could have gotten from that cash (in the traditional world of finance, people usually put this down to the Treasury bond rate because that’s the best guarantee you can get return). This is my cash cost. People rarely talk about it that way, but at its core, the cost of capital is all about opportunity cost. Instead of putting my cash on US Treasuries and getting a guaranteed 2-3% annual yield, I put it in a computer and I don’t get any guaranteed yield. If you don’t think about costs that way, how can you possibly think of the ROI of any business decision?

What if instead of cash, I used debt to finance my computer purchases? The answer to this cost question is even simpler: What APR can I get from this debt? 5%, 10%? Whatever it is, that number is the cost of my debt. This is almost certainly more than my cash cost, because if it wasn’t, why the hell would anyone lend me money and not to the US government through the aforementioned national debt? Especially considering I’m taking out a loan to buy a computer.

My last option: what if I trade some stock in my company for this computer? Best Buy probably won’t accept my stock, so I’ll probably need to sell it to someone else before using the money to buy a computer. But from a “cost” perspective, the two behaviors are synonymous. However, figuring out how much this actually cost me would be difficult, especially in Defi. The way to think about this is the expected (or required) annual rate of return on that equity. The cost of equity for a traditional public company typically hovers between 8% and 12%, depending on the maturity of the company and the assumptions you use [6]. Considering the immaturity, volatility, relative illiquidity, and expected/requested returns of institutional investors, this number should be highly rewarding for any DAO.

All this being said, how you pay for things has a huge impact on the ROI (return on investment) of your fees and ultimately the value of your DAO. If you have any beliefs about the direction of your protocol and the value of your token (i.e. future value and cost of your equity), you should not use it as everyday currency or sell it cheaply, breaking the token structure . Honestly, anyone who owns your token has this belief, simply because they fully own the token. Careless selling/issuing of governance tokens will dilute your token holders, make you lose control over the true cost of spending, and signal that you don’t value your token ownership (intentionally or not).

Point 5: In general – the cost of using equity for a DAO is much higher than the cost of using stablecoins or debt to fund incentives/spends, and will significantly reduce the ROI of those incentives/spends.

Point 6: The cost of careless airdropping of tokens has multiple compounded negative impacts on the value of token holders – ownership dilution, market selling pressure, lack of cost control, and negative market signals.

bottom line 

Whether you want to talk about DAO treasury management in terms of risk diversification or capitalization, in the end it makes no difference – how you approach it strategically matters. In my banking career, we used to spend hours with CFOs of public companies simply talking about the company’s capitalization/cost of capital and what they could do to optimize it. I know it sounds bad and boring (it usually is), but it’s important, and in general most DAOs don’t seem to think much of it at all.

Spend a little time on DeepDao or OpenOrgs and you’ll see what I mean. These problems exist on both sides of the spectrum. Some DAOs are severely undercapitalized and simply cannot afford their day-to-day expenses (let alone handle a black swan event), and their ultimate cost and token holder dilution is entirely at the whim of the market (i.e. you better pray to God when Your Tokens trade well when your liabilities and fees are due). Others are massively “capitalized”[7] and own millions (in some cases hundreds of millions) of stablecoins and other tokens instead of using them for growth or distributing that value to tokens through dividends or token buybacks Holder *[8]*. In either case, I can assure you that due to unnecessary dilution, improper capitalization practices and financial mismanagement, millions of dollars in value are sitting on the table and will not be handled properly.

Bottom line: DAOs should start today to consider and manage their cost runway and optimize their capex and financial diversity. When spending (or, better yet, what it would take to hire someone) it is well worth a thoughtful analysis and forecasting of the direction of the agreement and paying particular attention to the following:

1. Token Economics and Token Holder Dilution

2. Capitalization Planning and Requirements

3. Funding strategy and optimization

All of this will have a huge impact on value today and in the future, and here’s how.

[1] Please note that if you want to be considered, a company’s outstanding stock must include issued but unvested stock such as employee RSUs (restricted stock, free float if restricted), employee options and convertible bonds (DeFi simulation is a token that is not vested by the investor/core team) The market value of the equity is appropriate. The market (read: share price) certainly affects this expected dilution, and so should we when considering the true total value of equity. Arguably, the market also receives some expected dilution from authorized but not yet issued shares held by entities, which creates an interesting nuance when considering DeFi valuations as they tend to dilute themselves and / or poor treasury management (both treasury and unissued tokens can simply be considered authorized, unissued shares for most uses). This footnote is already too long – let’s put it aside and I’ll write another article on the impact of token structure and financial management dilution on equity valuation someday.

[2] You don’t see this very often for the same reasons you never see a two-star restaurant on Yelp (review site). Something like this doesn’t have a long shelf life. Nature tends to take care of these things.

[3] There are some nuances in operating versus non-operating assets when determining market equity values, but for simplicity we can ignore that for now…and without further complicating things, any future asset value is clearly Need to be discounted to present value.

[4] One way to illustrate this relationship is to consider the market’s reaction to TradFi (traditional finance) dividends: stocks fall due to cash paid. This is because A. the previous stock price in future cash payments and B. dividend cash has left the entity, so the net asset value (i.e. book value of equity) is reduced by that amount (i.e. shareholders are no longer entitled to it).

[5] In this context, “asset flow” and “cash flow” are basically interchangeable – given that “cash” means fiat currency, asset flow may make more sense in DeFi. Maybe we’ll eventually come up with a more encrypted name for this, idk.

[6] This range is based on what I typically see while working in investment banking and what we often calculate as “cost of equity” when discounting cash flow, but is supported by the fact that S&P returns about 10.5% per year Since its establishment in 1957.

[7] I quote this because “overcapitalization” in the real financial world means something different than it sounds, and is not quite the opposite of undercapitalization, and I still don’t know why.

[8] Hopefully they’ll be able to make these balances work at least to some extent and properly optimize risk versus reward, but my guess is that this is rare.

Posted by:CoinYuppie,Reprinted with attribution to:https://coinyuppie.com/what-role-should-the-dao-treasury-play-in-the-governance-of-token-value/
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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