LP (Liquidity Provider Token)
What is the LP token
The LP token is a token following the ERC-20 standard.
The role of the LP token in a DAO
The LP token has a special status in a DAO: it reflects a member's financial stake in the organization. Any treasury top-up is best carried out by minting LP tokens — through crowdfunding or a private offer.
To better understand their role, compare DAO LP tokens with the ones issued on DEXs. LP tokens make it possible to track individual contributions to the treasury: the amount of LP held is proportional to one's share of liquidity in the DAO treasury.
The price of one LP token is calculated using a simple formula:
Total funds in the DAO treasury / Number of LP tokens in circulation = Value of 1 LP token
Because LP tokens are tightly bound to the formula, be very careful and do NOT increase the liquidity providers' share by transferring funds directly to the DAO account without buying LP.
In terms of technical characteristics, LP tokens are almost no different from other tokens on the same network. Like any ERC-20 token, they can be transferred, exchanged, and paired with another token on a DEX.
But, unlike LP tokens on an exchange, holding LP in XDAO does NOT give the liquidity provider full control over it: only holders of governance tokens (GT) manage the funds. That said, you can burn all or part of your LP tokens — unless the DAO has disabled LP Burning.
The link between LP tokens and a proportional share of the DAO's AUM (assets under management) is most often needed in at least three cases:
- Determining a liquidity provider's share in this DAO;
- Determining how much liquidity is returned to liquidity providers from the DAO's AUM after LPs decide to burn their LP tokens;
- Determining how much a liquidity provider should receive during dividend distribution.
A DAO can list its LP token on an exchange or set up staking for it. It's important to understand: as long as the LP token is not traded on an exchange, it remains fully backed by the DAO treasury.
LP token use case
We cover how to use the LP token in detail in the "Use Cases" section. In short, LP tokens are needed to efficiently raise funds for the DAO — both from members and from external investors. LP tokens are tightly bound to the formula, so be very careful not to increase investors' share by transferring funds directly to the DAO account without buying LP.
You can sell LP tokens through a private sale, through crowdfunding, or through an exchange.
During an LP token sale — whether private or through DAO Crowdfunding — it is forbidden to generate profit or contribute additional funds by transferring them directly to the DAO address. Otherwise, LP holders' shares will be diluted, and some investors will be able to get back more money than they invested by burning LP tokens. Only after fundraising has ended and all private offers or crowdfunding sales are closed can the DAO begin generating profit.
Does your DAO need an LP token
If the DAO is going to raise funds, it is always recommended to create an LP token. But always be careful and be sure to follow the formula: Total funds in the DAO treasury / Number of LP tokens in circulation = Value of 1 LP token. If your treasury management arrangements differ, you can use the DAO simply as a multisig wallet.