The blockchain community has debated for years whether Decentralized Autonomous Organizations (DAOs) can or should be analogized to a corporate form and whether they operate to insulate DAO members from legal liabilities. Some states have passed statutes regarding how DAOs are classified, such as Wyoming’s “DAO LLCs” law and Utah’s DAO Act. In Sarcuni v. bZx DAO, a class action pending in the Southern District of California, the liability of DAO members is at the forefront, and the first round of the fight was not a good one for them. On March 27, the court denied a motion to dismiss filed by members of the DAO, finding that the bZx DAO and its successor Ooki DAO are plausibly alleged to be a general partnership in which the members of the DAO are the partners. This is a case of first impression where a DAO’s members (its token holders) could be jointly and severally liable for the actions of the DAO.
bZx DAO operates a blockchain-based software system called bZx Protocol. The bZx Protocol was hacked in 2021, and its users lost approximately $55 million in digital tokens. To compensate those impacted by the hack, the bZx DAO developed and approved a compensation plan, but recoupment would take many years. Plaintiffs, who are 19 bZx Protocol users who lost $1.7 million collectively in the hack, filed a lawsuit in June 2022 claiming that bZx DAO’s negligent security protocols led to the hack.
Plaintiffs’ theory of liability in Sarcuni is premised on the existence of a general partnership among all persons holding the DAO’s tokens (called BZRX). To plausibly allege the existence of a general partnership, Plaintiffs must plead sufficient facts to demonstrate that the bZx DAO is (1) an association of two or more persons (2) carrying on as co-owners of (3) a business for profit. See Cal. Corp. Code § 16202(a). The court held that the BZRX token holders met the first requirement. As for the second requirement, the court held that BZRX token holders have governance rights to exert sufficient control over the DAO’s actions to be classified as “co-owners.” Last, the third requirement was met because the bZx DAO generates profits through the bZx Protocol. This ruling has the result that anyone holding a BZRX token is a partner in the partnership, and the court accordingly held that Plaintiffs plausibly alleged a general partnership at least as to those Defendants that held BZRX tokens. To be clear, the general partnership is a highly disfavored form of entity structure, as it does the opposite of limiting liability to the owners. It makes all of the owners liable for all of the liabilities of the entity, regardless of their lack of control, and it makes all of their individual assets reachable for the entity’s liabilities.
The implications of this decision for the structure and organization of DAOs should be closely monitored by DAO founders and even individuals considering DAO membership.