Understanding On-chain Governance
Table of Contents
When voting carries real power
The fundamental shift that on-chain governance introduces is direct, executable power. When you vote on a Uniswap proposal to modify fee structures, you’re not merely advising management. You are also directly implementing changes to the protocol’s economics that will immediately affect millions of users and billions in transaction volume.
This creates what I call the “fiduciary paradox”: token holders have unprecedented direct control without the traditional corporate governance structures designed to balance various stakeholder interests. As a fiduciary, you now face broader responsibilities beyond maximising returns for your investors.
Assume as an investor you have to consider a governance proposal that would likely increase your token value initially, but potentially undermine the protocol’s long-term sustainability. Traditional frameworks for proxy voting do not provide guidance for such scenarios where investors effectively serve as both shareholder and board member simultaneously.
This requires developing a governance policy that explicitly addresses how your firm will balance three often competing interests:
- Investor returns: The traditional fiduciary focus on maximising value for your investors
- Protocol sustainability: Ensuring the long-term viability of the underlying technology
- Ecosystem health: Considering broader impacts on the digital asset ecosystem
These considerations must be explicitly documented in your governance policy, creating transparent guidelines for how your firm will approach these inherent conflicts. Without this framework, you risk inconsistent decision-making that could later be scrutinised by regulators or questioned by investors.
Operational security
Traditional proxy voting carries minimal operational risk. You submit your vote through established channels with straightforward verification. Blockchain governance, in contrast, introduces substantial security considerations that directly impact your fiduciary responsibility.
Voting requires cryptographic interaction with governance contracts using private keys controlling valuable assets. This creates a fundamental security challenge: how do you enable governance participation without exposing critical private keys to unnecessary risk?
Some of the most common institutional approaches I’ve seen include:
Dedicated governance infrastructure separating voting operations from primary custody systems. This typically involves purpose-specific wallets or segregated custody accounts exclusively authorised for governance activities.
Multi-signature approval workflows requiring multiple authorised signatories to approve voting transactions, preventing any single individual from unilaterally controlling governance decisions.
Technical validation procedures verifying that governance interactions execute exactly as intended. This includes testing transaction parameters on testnets before submitting to mainnet and verifying on-chain execution matches authorized instructions.
Emergency response protocols addressing scenarios like key compromise, failed transactions, or contentious fork situations that might arise during governance participation.
These operational controls directly impact your fiduciary duty, as inadequate safeguards could expose investor assets to unnecessary risk. Can your second line develop governance-specific security frameworks that they can defend as meeting fiduciary standards?
Managing competing interests
Conflict management typically focuses on avoiding self-dealing and ensuring decisions benefit investors. Blockchain governance introduces entirely new conflict dimensions requiring specialised identification and management frameworks.
The most challenging conflicts in my view include:
Cross-protocol conflicts arising when an institution holds governance tokens across multiple competing protocols. When voting on proposals affecting interoperability, fee structures, or competitive positioning, your vote in one protocol may directly impact your holdings in another. These situations require clarity on recusal, disclosure, or balanced voting approaches.
Strategy-level conflicts between different investment mandates within the same organisation. A firm might simultaneously run long-only token funds, market-neutral strategies, and yield farming operations, each with different economic interests in governance outcomes. Without effective conflicts policy, governance voting might inappropriately favour certain strategies at others’ expense.
Temporal conflicts between short and long-term interests. Performance-based compensation typically rewards near-term results, potentially creating incentives for portfolio managers to support governance proposals with immediate price impacts despite long-term sustainability concerns.
To address these conflicts, you need governance committees with appropriate independence, conflict identification procedures, and escalation paths for contentious decisions. I would advise managers to put in place guidelines for different conflict scenarios. These include:
- Materiality thresholds determining when conflicts require escalated review or recusal
- Independent validation requirements for votes involving identified conflicts
- Disclosure policies addressing when and how conflicts should be communicated to investors
- Escalation procedures for significant or novel conflict situations
Protocol-Specific Governance
A key challenge with governance fiduciary duty, I think is that protocols often require bespoke approaches. This requires understanding the specific governance model of each protocol you engage with:
Direct token-weighted voting systems like Uniswap or Compound allow straightforward proposal submission and voting based on token holdings. These require careful consideration of voting power concentration and quorum requirements when determining participation strategy.
Delegated governance models like Tezos implement representative approaches where token holders select validators who then participate in governance processes. These systems require delegation strategies that align representative voting with your fiduciary interests.
Hybrid systems combine on-chain execution with off-chain discussion, requiring engagement across multiple platforms to effectively represent investor interests. These frequently involve preliminary discussion and signalling before formal on-chain votes.
Multi-chain governance for protocols spanning multiple blockchains introduces additional complexity as governance activities may occur across different technical environments with varying security and operational requirements.
For institutional investors with diversified holdings, developing protocol-specific governance frameworks is essential. They should document each protocol’s unique governance parameters, required technical implementations, and any strategic considerations based on voting power.
The relative influence your holdings represent in each protocol directly impacts your fiduciary approach. In protocols where your position grants significant influence, your responsibility extends beyond simply voting to considering the broader impact of your decisions. For protocols where your voting power is minimal, the fiduciary focus shifts toward monitoring significant proposals and selectively participating when material issues arise.
Record keeping
Regulatory scrutiny of governance activities is intensifying, with authorities increasingly applying traditional fiduciary standards to on-chain voting. Institutional investors should think about:
Governance policy statements These high-level documents articulate how your organisation balances competing interests and approaches its governance responsibilities.
Proposal assessment templates capturing the analytical process for evaluating governance proposals. These ensure consistent consideration of technical feasibility, economic impact, security implications, and potential conflicts before determining voting positions.
Voting rationale recording the specific justification for each significant vote, demonstrating the analysis supporting the decision aligned with fiduciary duties. This creates a defensible record explaining how each vote served investor interests while considering appropriate protocol factors.
Conflict assessment specifically documenting conflict identification, management and resolution procedures for each governance decision.
Technical execution confirming that on-chain votes accurately implemented the authorised decision through transaction hashes, block confirmation records, and execution validation.
This can demonstrate you approached governance decisions with appropriate diligence, consideration of investor interests, and management of potential conflicts. While seemingly bureaucratic, such records can provide safeguads against future challenges to your governance decisions.
Putting it all together
If your organisation holds or plans to acquire governance tokens, then developing a structured approach to these fiduciary obligations is important. But I would recommend a phased approach as follows:
- Governance philosophy: First, establish your foundational principles for balancing investor interests, protocol sustainability, and ecosystem health. This high-level framework should guide all your subsequent governance activities.
- Protocol-specific guides: Second, you should document the governance mechanics, technical requirements, and strategic considerations for each protocol in your portfolio.
- Operational procedure: Third, develop the security controls, approval workflows, and execution procedures for safe and effective governance participation. This will support proper on-chain execution.
- Conflicts management: You should also establish procedures for identifying, managing, and documenting potential conflicts across your governance activities. This ensures transparent handling of competing interests that might affect governance decisions.
- Documentation: Finally, create templates, review processes, and ensure you maintain adequate records to withstand regulatory scrutiny.
This article is provided for general informational purposes only and doesn’t constitute legal, investment, or regulatory advice. I’ve shared these insights based on my experience navigating blockchain governance. Firms should develop frameworks that are aligned with their specific regulatory requirements, investment objectives, and governance philosophy.
Date: 14 April 2025
Written by: Asad Bukhory