- Smart contracts are basically code written in a way to execute automatically once the set conditions are met.
- Although written with caution, they may contain some bugs that should be reviewed using regular smart contract audits.
History has several examples to support the collapse of banks and other centralized financial institutions, including the Great Depression of 1929 and the Great Recession of 2008. As a result, the common people and investors lose not only their money but also their trust in them.
The term decentralized finance (DeFi) became common shortly after the release of Ethereum, which, through its features of smart contracts and decentralized apps (dApps), laid the foundation of DeFi. Here, no third party is needed to run the financial system, making it a trust-less system.
Smart contracts are codes that are written in such a way as to execute automatically when the preset conditions are fulfilled. Previously, parties depended on laws and lawyers, they signed legal contracts to enclose a deal. However, smart contracts replace them to ensure that parties are engaged in fair and honest deals.
Smart-Contract Audits In DAOs
Decentralized Autonomous Organizations (DAO) have become an important part of the DefI ecosystem. These bodies facilitate the operation of decentralized governance for any DeFi application through community-based decision and resource allocation. DAOs make use of smart contracts and consensus mechanisms to collectively make decisions agreed upon by the majority.
These are also considered a strategy by dApps to build loyal users, as by enabling the users to influence the decisions that will likely affect them too, users will be bound to take the right decisions. As it runs on blockchain technology, its workings are transparent and public. Also, as most tasks are executed through smart contracts, the operational costs, compared to traditional organizations, are reduced significantly.
As discussed, for DAOs, the smart contracts are lawyers and their code is the law. Thus, any malicious code or vulnerabilities can seriously impact their work and cause a loss of funds too. These audits identify code vulnerabilities on all levels and highlight any loopholes or critical issues.
Further, for data like the price of assets, these DeFi protocols depend on external sources like Oracle and any compromise in them can lead to financial losses. Any decision is made through community voting and if any malicious party, due to a code bug, gains majority control over voting power, they can easily influence the decisions in their favor.
Audits run a complete check of the code and ensure that it is running according to the initial vision of its developer. Identify and centralize risks like centralized admin keys, which can be exploited, as was the case with Iron Finance. They also look after the efficiency of code, logical issues, mathematical operations, access controls and compile errors.
Penetration testing, where ethical hackers are used to simulate the real-world scenario of hacking, can be used to check the strength of the code. This helps identify any underlying vulnerabilities and weaknesses. The code can be verified by providing mathematical proofs of the statements. Platforms can use specialized and dedicated tools like Ivy for this.
The vulnerabilities thus found can be eliminated by code fixing, where the part with the bug can be rewritten or eliminated, depending on the need. Access to smart contracts can be restricted by using methods of whitelisting and multi-factor authentication, allowing only authorized users to access them.
While the prospects of DAO and DeFi are growing and gathering attention from several users and developers, they are also being looked upon by hackers as honeypots. Due to the billions of dollars stored, these hackers turn to gaining them by attacking any smart contract vulnerability. Developers, before launch and regularly while running, should conduct smart contract audits to prevent future financial loss.