Understanding Cooperatives
An overview of the "principles of cooperation" that have helped shape the GROWMARK System.

In 1844, a group of tradespeople in Rochdale, England formed a cooperative to supply themselves with household provisions. This cooperative has become famous in economic history, not because it was the first, since there were several types of cooperatives formed prior to it, but because of the principles on which it was based. The Rochdale Principles have been copied and followed by successful cooperative ventures for more than 150 years. The GROWMARK System is made up of cooperatives founded on these principles.

The Rochdale Principles responsible for the prestigious place that cooperatives have attained in our economic system include:

1. Voting by members on a democratic basis.

2. Open membership.

3. Equity provided by patrons.

4. Full weight and measure given.

5. Net savings distributed to patrons as a refund on purchases.

6. Limited return on equity capital.

7. Exchange of goods and services at market prices.

8. Cash trading only.

9. Duty to educate.

Strange as it may seem, as cooperatives and their members become successful because of these principles, some cooperative members and leaders have lost sight of their purpose and value. To assist you in communicating the "principles of cooperation," and their importance in a modern cooperative organization, a detailed discussion of each principle follows.

"Voting by members on a democratic basis"

One outstanding feature of a cooperative business is that decisions affecting its overall operations are made by those who actually use its products and services. In most modern cooperatives, this is accomplished by a process known as democratic representation. Members elect a board of directors from the membership to represent them in directing the activities of the cooperative. This board is responsible for setting policy and for safeguarding members' financial investment in the cooperative. In the past, most director positions would need to be voted on each year to assure that members were satisfied with each director's actions. As cooperatives grew and became more complex, many made the decision to allow directors to serve longer terms in order to gain the experience needed to direct multi-million dollar organizations.

The method of voting used by GROWMARK member cooperatives depends primarily on the state in which the cooperative is located. Most Iowa, Wisconsin, and Ontario cooperatives vote only their common stock, which essentially comes down to the "one person, one vote" principle that prevailed in most early cooperatives. In Illinois, most cooperatives fall under a 1950's court ruling which specified that each share of stock would carry one vote. In 1983, the Illinois Corporation Act was passed which allowed a corporation to specify which types of stock would have voting rights. However, most Illinois cooperatives continue to allow members to vote each share of stock. This method promotes the concept that the member doing the most business with the cooperative, as evidenced by patronage stock, should have the greater voting power.

The following should be considered to ensure that members are democratically represented:


1. Directors

• Are directors geographically located to fairly represent the members?

• Are directors encouraged to sponsor and/or take part in regularly scheduled focus groups?

• Do directors use as many of the cooperative's products and services as possible?

• Has consideration been given to programs that develop potential leaders from the member/patron base?

2. Finance

• Does the cooperative's financial plan consider patronage stock, stock redemption, and stock revolvement to keep control in the hands of those members who presently use the cooperative's products and services?
  

3. Board Selection Procedures

• If a nominating committee is used, are committee members aware of the qualifications of a director as specified by the cooperative's bylaws?

• Have the following items been considered in order to encourage maximum member/patron participation?

  • Voting by mail

  • Multiple voting locations

• What elements could increase annual meeting attendance by present member/patrons?

The more member/patrons feel involved in their cooperative, the more successful the cooperative will be. But, member/patrons and directors must realize the cooperative must stay financially healthy and benefit the entire membership, not just individuals or special interest groups.

"Open membership"

The majority of modern cooperatives practice open membership, which allows anyone to become a member of a given cooperative. This does not mean, however, cooperatives cannot set up legal requirements in their articles and by-laws that prospective members must meet. Here are several examples of membership requirements that exist in some local cooperatives:

• Purchase of membership stock.

• Residence in the geographic area covered by the cooperative.

• Specific business interests.

• Farm Bureau membership.

Membership requirements normally provide a positive effect for the members of a cooperative such as: economic fairness (requiring membership stock), similarity of interests (business or geographic requirements), or adherence to mutual philosophies (Farm Bureau membership).

Most supply and marketing cooperatives do not restrict sales and services to members only. They encourage non-member business which benefits the members. One caution is that a cooperative's non-member business cannot exceed its member business if it is to retain cooperative status. Two advantages of cooperative membership are control and sharing of patronage refunds. However, membership also carries the responsibility of maintaining the financial health and growth of the cooperative by patronizing, financing, and supporting it.

"Equity provided by patrons"

The capital needed to start a cooperative must, in most cases, be provided by the member/patrons of the cooperative for two reasons. First, outside investors are reluctant to invest in a business where the primary purpose is not to maximize the return on investment but rather to satisfy a mutual need of the members. Second, since capital normally goes hand-in-hand with control, by providing the capital, member patrons will be able to control the cooperative's operation.

As the cooperative progresses and grows, member/patrons must continue to provide equity for the same reasons. Equity is normally provided in the following ways:

• Direct investment, which includes membership fees or the purchase of stock.

• Indirect investment, which includes patronage refund in the form of investment stock or allocated earnings.

Because of the tremendous growth in present day local cooperatives, maintenance of member equity is critical. It provides the base for the seasonal and long-term borrowing that must occur if the cooperative is to continue meeting the growing needs of the member/patrons. The benefit to patrons is that most of the added equity can be provided simply by doing business with their cooperative.

The proper balance of equity is the responsibility of the cooperative's board of directors. To accomplish this, they need:

• Long range planning.

• A reasonable equity redemption policy.

• Profitable operation of the cooperative.

• Serious consideration of retained earnings and patronage refunds.

• Communication of all of the above to the member/patrons.

Member understanding and provisions for the adequate financing of their local cooperative are key to a successful cooperative system.

"Full weight and measure given"

Dishonesty in business happens. For years, we joked about "paying for the butcher's thumb," or heard about the new broom sitting at the checkout counter that was added to each customer's bill. In any case, dishonesty against the customer "benefits" the owner or owners of the business. Cooperatives add a new perspective to honesty in business. Since patrons of a cooperative are also the owners, there is little incentive for dishonesty. In today's cooperative, individual dishonesty is about the only type that may occur. Most cooperatives guard against this by using monthly financial statements and precise annual audits. Also, the elected board of directors may institute controls necessary to maintain the confidence of the members. Therefore, the cooperative member, because he/she is doing business with himself/herself, can be confident of receiving "full weight and measure."

"Net savings distributed to patrons as a refund on purchases."

The original Rochdale cooperative had a very simple basis for creation of this principle. The primary intent was to keep the cost of household provisions down by buying in volume and passing the savings on to members.

In today's more complicated economic arena, cooperative businesses have many things in common with non-cooperative businesses. They handle the same products, offer the same services, are subject to the same laws and regulations, and pay the same taxes. Most importantly, if they are to survive, they must have earnings just like their independent competitors.

There are also some very important differences between a cooperative and a non-cooperative business. The purpose of a non-cooperative business is to maximize returns to its owners/investors, while the purpose of a cooperative is to satisfy the mutual needs of its members. Because of this significant difference in purpose, there is a major variation in the method of distributing the profits or earnings from the business. A non-cooperative business simply distributes its after-tax profits to its owners based on their amount of ownership. A cooperative distributes earnings back to its members based on their patronage with the cooperative, not on their investment.

A cooperative board of directors has three important considerations when deciding how to distribute the cooperative's earnings/savings. The board must provide for the continued health and growth of the cooperative by deciding the amount of the earnings to keep as retained earnings. (The minimum they must keep is the amount generated by non-member business.) Directors must consider the payment of dividends to those members holding dividend bearing stock. They must keep enough earnings to pay income taxes. Once these considerations are made, the remainder of a cooperative's earnings is available to be returned to its members, either as cash or as equity, based on purchases from the cooperative.

Because of patronage refunds, the cooperative member receives the products purchased from the cooperative at cost. However, he/she must be aware of the costs involved. There are not only product and normal operating costs, but also retained earnings (the cost of doing business tomorrow) and dividends (a cost for capital). A final cost is income tax that cannot be calculated until all the costs are considered.

The cooperative board of directors is given the responsibility to see that the business is operated as efficiently as possible and that earnings are handled so that members' needs are fulfilled and the maximum amount of savings can be returned to them.

"Limited return of equity capital"

This principle is still in practice in most cooperatives today. Its intent was fairly simple. Members were asked to invest in their cooperative to fulfill a mutual need -- not for maximizing returns on their investment. In early cooperatives when initial capital investment was the same for all members, there was no return on this equity. In cooperatives where financial circumstances dictated differences in initial individual investments, a limited return was established to assure fairness.

The Capper-Volstead Act of 1922 further strengthened this principle. It recognized the need for cooperatives operated for the mutual benefit of all members by requiring cooperatives to conform to one or both of the following:

• "First, that no member of the association is allowed more than one vote because of the amount of stock or membership capital he/she may own therein or,

• Second, that the association does not pay dividends on stock or membership capital in excess of eight percent per annum."

As previously noted, some states require all shares of stock to vote. Cooperatives in these states conform to the Capper-Volstead Act by maintaining their dividend rate on invested capital at or below eight percent.

Because cooperatives must pay income tax on dividends on invested capital, many have elected to keep their dividend rate much lower than the Capper-Volstead limit or have initiated non-dividend equity. In doing so, they reduce their tax liability and increase the amount available for patronage distribution.

"Exchange of goods and services at market prices."

This principle causes the cooperative to conform to normal business practices by charging competitive prices for its products and then passing any savings back to its members as patronage refunds. In today's intensely competitive environment, a successful cooperative must be run in an efficient, businesslike manner. This means it must receive a price equal to the value of goods and services provided. In many cases, cooperative members expect their cooperative to provide a high level of product quality and service, but at a lower cost than local competitors.

The value of a cooperative is that members, through their elected board of directors, can determine the quality level of products and/or services they desire. They must then be willing to pay for that level, knowing that the true cost will be determined at year's end and any surplus earnings will be returned to them as patronage refunds in cash or continued investments in their cooperative.

An efficient cooperative sets the standard for product quality, service, and price in its market area. The cooperative's members determine what products and services they want -- and what they are willing to pay for them. Competitors must meet the standards set by the cooperative in order to compete.

"Cash trading only"

The Rochdale pioneers recognized that they had to provide the equity to start their cooperative, and they were responsible for maintaining the cash needed for the day to day operations. In order to do this fairly for all members, they established the "cash trading" principle.

As local cooperatives were created in the first half of the 20th century, they took a less drastic view at issuing credit. During that period, suppliers to agricultural businesses offered fairly liberal credit terms. The normal credit policy in those days for most local farm suppliers was, "pay it off at harvest."

During the 1950s, changes began taking place in agriculture which made local cooperatives take a different look at this policy. Unprecedented growth of individual farmers and the financial demands of new technology made capital a premium commodity. Suppliers began tightening their terms, individual accounts became large enough that one credit loss could jeopardize the cooperative's financial condition. Product and service demands from members required larger and larger amounts of working capital. Cooperatives were forced to develop credit policies that were fair to all members and would keep the cooperative financially sound. These included finance charges, credit limits, and financing programs. Cooperative members need to be reminded occasionally that credit costs and credit losses are shared by all members.

"Duty to educate"

The Rochdale founders recognized they were initiating a unique form of business. They also realized members would need to completely understand the concepts and functions of a cooperative in order to receive the maximum benefits from its operation. Therefore, the duty to educate present and future members was established as one of the principles necessary for the success of the cooperative.

Many modern cooperatives have placed a low priority on promoting cooperative understanding. Today, many members see their cooperative as just another place to do business. Many of the strengths of a cooperative system, such as limited return on investment, member financing, and patronage refunds are often severely criticized by members who do not understand their significance in maintaining a successful cooperative.

If our cooperative system is to remain healthy and viable, and continue to meet the needs of its members, more attention must be paid to this principle. Cooperative leaders need to plan and budget for systematic cooperative education of employees, present and potential members, and the general public. When the value of the unique features of the cooperative way of doing business are recognized, members will more fully receive the benefits of their cooperative.