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The Hidden Power of Cooperatives

| Michael Shuman |

A $3 Trillion Gold Mine

A group of scholars at the University of Wisconsin recently counted nearly 30,000 cooperatives in the United States operating at 73,000 locations. The vast majority are consumer cooperatives, with 343 million memberships (many people belong to multiple co-ops, hence the number of memberships exceeds the U.S. population). Another 7 million memberships can be found in producer and purchasing cooperatives. Credit unions, which are essentially banking cooperatives, have 92 million members. Electrical utility co-ops reach 42 million Americans. Agricultural cooperatives have three million members.

The cooperative sector owns $3 trillion in assets, generates half a trillion dollars a year in revenue, and pays 856,000 people $25 billion in annual wages. Their multiplier impact on the economy supports more than two million jobs nationally. In Minnesota, which is not only the Land of 10,000 Lakes but also the state with 1,000 co-ops, another survey of just a third of them found they were contributing seventy-nine thousand jobs in the state and more than $600 million in state and local tax revenues.

Cooperatives can now be found in business services, child care, hardware, telecommunications, and insurance. In 2009, as Congress was debating whether to include a “public option” in health-care reform legislation, a compromise was seriously considered that would have prioritized the creation of state-based health-care cooperatives—underscoring the increasing importance and bipartisan appeal of these models. More recently Congress has been considering transforming the two home-mortgage giants, Fannie Mae and Freddie Mac, into a nationwide securitization cooperative owned by member banks and credit unions.

An underappreciated characteristic of co-ops is that nearly all of them fit our definition of locally owned—that is, probably 99.9 percent are connected to a particular place and owned by geographically proximate members. Even large co-ops that sprawl across the country have many of the characteristics of local businesses. National producers co-ops, like Land O’Lakes and Organic Valley, represent small farmers around the country who are eager to sell, process, and distribute their products regionally. Adam Schwartz, vice president for public affairs and member services for the National Cooperative Business Association (NCBA), says, “No matter how large a cooperative is, because it is owned by the individual farmers or individual consumers or small businesses, I feel very comfortable making a case that co-ops in any form support local business.”

David Thompson, a cooperative innovator based in Northern California, contends that cooperatives are critically important builders of community economies. “I’ve often thought about how my local Davis Food Co-op employs about 160 people. At the co-op they have their own accounting, marketing, membership, and personnel department, all of the management is local, buyers are local, the monthly newsletter is printed locally, we advertise in the local paper (Trader Joe’s doesn’t), the books are done by a regional accounting firm, the lawyers are a regional firm. The two Safeways in town each employ about fifty workers, have no buyers on the spot, the administration, advertising and accounting are all done from Oakland, and all of its money at the end of the day is funneled off to Oakland, where the administrative expenses occur. There’s another side of it, too, which is that cooperatives will never move to another town, state, or country because it’s cheaper. Their owners wouldn’t allow it.”

The structure of co-ops can vary widely. Most are built around consumers. But some are structured around purchasing and producer members (themselves typically local businesses), some around workers, and some around combinations of all these categories. What they have in common is adherence to principles enunciated in England in 1844 by the Rochdale Equitable Pioneers Society, which was put together by a group of unemployed weavers who had lost their jobs because of the industrialization of the textile industry. Among the key tenets: Anyone who wishes to join a consumer cooperative can. Profits must be split among members according to their “patronage,” which refers to their use of the cooperative, not the amount of their investment in it. Members elect a board that oversees the management. Unlike most U.S. companies, where voting power is based on the principle of “one dollar, one vote,” cooperatives are based on the principle of “one person, one vote.”

Co-ops are deeply democratic. And while many are committed to pleasing as many members as possible, few rigidly adhere to the consensus practices that made my experience in Stanford’s co-ops so exasperating. If anything, co-ops transcend political ideology. As Schwartz observes, “For conservatives, cooperatives mean self-help, people doing for themselves what needs to be done. For liberals and progressives, it’s social progress, people doing what the community needs.”

Even though most cooperatives start very modestly, some have grown spectacularly. Familiar co-op brands include Nationwide (a mutual insurance cooperative), AgriBank (a Minnesota-based farm-credit cooperative with $36.6 billion in assets), Recreational Equipment Inc. (better known as REI, the Seattle-based sporting goods company), and the Associated Press (a newspaper cooperative). Some cooperatives have scaled up to become significant engines of economic development within their communities. The Hanover Consumer Cooperative Society, based in New Hampshire and Vermont, has twenty-eight thousand members. According to its treasurer, Donald Kreis: “We have a vibrant local ag sector, and one of the reasons is that it’s anchored by our big co-op. Our co-op is a $70-million-a-year business, and it buys a ton of locally produced products. Our co-op offers these vendors favorable payment terms. In doing that, the co-op makes sacrifices, which make it less profitable. The theory is that we can go to the twenty-eight thousand households that own the business and say, you know what, we are going to return a little less to you, because we know we all want to have a vibrant local ag sector.”

Another Rochdale principle is to assist other co-ops or groups who wish to start their own co-ops. Kreis tells the story of a small town north of Hanover called Littleton, an hour-plus drive away: “They came to us at one point and said, ‘We love your co-op, we’re members of it, and we’d like you to open a branch store in Littleton.’ Well, Littleton is really a little too far away for our co-op, but we said to them that we’ll help you start your own co-op. You guys can raise money in your community, and we’ll assist you. The people in Littleton didn’t get it at first that we were serious about totally cooperating with them and not treating them as a rival or competitor in any way. Every shred of expertise we had we were willing to share with them: Our merchandising people went up there and helped them start the store; we gave them one of our store managers who was retiring and he became their founding manager; we even subsidized his salary for a while. What was really cool was that we didn’t just help this community start a co-op, we helped educate and raise the consciousness of people in the community about what cooperation really means.”

The Littleton story illustrates that the capital that members put into a co-op not only supports that co-op itself but also the proliferation of other cooperatives and other local businesses. The National Cooperative Business Association is also facilitating the creation of a patient capital fund. (The term patient capital generally means that investors are expected to keep their money in the fund for a long time.) Co-ops like Kreis’s lend their surplus capital to NCBA, and NCBA in turn lends it out to new or expanding co-ops. The Cooperative Fund of New England, another lender to start-up co-ops, gets its capital from socially responsible institutions like the Episcopal Diocese of Hartford, Connecticut.

There’s a tendency for those unfamiliar with cooperatives to look down on them as the leftovers of the mainstream economy, implying that if these ideologically driven people simply reorganized themselves into “normal” private companies, they would be more efficient and productive. In fact, just the opposite is true: Cooperatives often enter into economic activities that private businesses will not take on. The most fertile period of cooperative growth was during the Great Depression. Rural electric cooperatives spread across the American plains when it became clear that other investor-owned and municipally owned utilities were uninterested in wiring up sparsely populated regions. Credit unions, as we’ll soon explore, have seen an upsurge during the recent financial crisis.

One economic argument, for consumer cooperatives especially, is that putting consumers in the driver’s seat helps to keep prices low. The information flow from consumers to producers is direct and immediate. Outrageous executive compensation, debt-inducing acquisitions, unjustifiable dividends to lure weary shareholders, irrational price inflation and discrimination—all the crazy behavior of conventional corporations—can effectively be banned by mindful consumers in co-ops. “Members naturally have trust and confidence in a co-op,” argues Kreis, “because they own it. And that has both social capital and real capital bound up in it. There’s real business value in being able to look your customers in the eye and say, You can trust us, because you own us, and we’re in business to do nothing other than act in your best interest.”

Funerals may seem like an odd place to see the competitive advantage of co-ops, but wherever there are stratospheric profits and monopolistic practices, consumer cooperatives can bring prices back to Earth. “Pomp and circumstance are for royalty,” jokes John Eric Rolfstad, executive director of the People’s Memorial funeral cooperative in Seattle, “[whereas] Baby Boomers want good value, simplicity, and convenience.” His cooperative has eighty thousand members and performs more than a thousand funerals per year. The cost of an open-casket burial is $3,299—less than half of what the average American pays. Mindful of the huge environmental footprint of cemeteries, People’s Memorial encourages members to choose cremation for $649. “Simple final arrangements focus more on the spiritual and existential aspects of life and death, rather than on ostentatious materialism,” says the co-op’s website. In 2009 it issued $164,000 in dividends to its members, partially through patronage payments and partially through price cuts.

A second economic argument for cooperatives is that worker participation in running the business (which is certainly the case for worker cooperatives but also is a common feature of consumer cooperatives) increases labor productivity. One study comparing plywood companies in the Pacific Northwest found that cooperatives were 13.5 percent more productive than equivalent unionized plants, noting that cooperative workers could have gone on vacation an extra seven weeks and produced as much as their private-sector counterparts. The efficiencies occurred because management, by involving workers, made smarter decisions about raw materials, machinery, and production methods. Another study of the Mondragon Cooperatives in Spain (elaborated below), by Henry Levin of Columbia University, showed that with only 25 percent of the capital per worker as the nation’s largest five hundred private firms, they were able to add 88 percent to the value of products per worker. That’s triple the productivity!

A third economic argument is especially important for local living economies: Cooperatives can help local businesses compete more effectively. An inefficient small business can team up with others through a purchasing or producer cooperative to achieve economies of scale. To put it another way, there is no economy of scale local businesses cannot achieve as long as they are willing to work together through a cooperative. Sunkist, a co-op of citrus growers, enables member growers to deploy a common brand and undertake first-class, well-financed marketing campaigns. Furniture First, headquartered in Harrisburg, Pennsylvania, undertakes collective purchasing on behalf of the small furniture dealers it represents around the country, delivering bulk discounts and volume savings that would not be possible without the collaborative platform. In rural Wisconsin, a purchasing cooperative has boosted the local food movement.

“Local food is good medicine for everyone,” says Stephen Ronstrom, CEO of Sacred Heart Hospital in Eau Claire, Wisconsin. “It preserves and expands family farms, provides jobs in production and processing, and keeps money in our community.” To bring local food cost-effectively into the nonprofit hospital, Ronstrom’s staff teamed up with local farmers to create the Producers and Buyers Cooperative. No one farmer can provide the volume needed for the twenty-six hundred meals a day the hospital must serve. But by putting together dozens of farmers, processors, distributors, and institutional purchasers into a single cooperative, the entire system performs like an exquisite ballet. Other hospitals have since joined, and the cooperative anticipates attracting more institutions in the region like public schools, universities, nursing homes, and business commissaries.

The savings from collaboration are apparent in the bulk purchasing done by the Lakes Country Service Cooperative (LCSC) in Minnesota. In 1976, the state created eight regional purchasing cooperatives to provide affordable health insurance to its school districts. These have since expanded their memberships to include local governments and nonprofits and are now bulk-purchasing everything from paper to cars. Mark Sievert, city administrator for Fergus Falls, a fourteen-thousand-person town that belongs to the co-op, says the city’s $250 annual membership has led to hundreds of thousands of dollars of savings. In 2009 the co-op purchased $25 million of goods and services for its members, saving them $3.5 million.

For communities struggling to create jobs, cooperatives offer an affordable way to pool capital and to start up new businesses. In most states, co-op memberships are exempt from securities registration requirements. And under federal law, cooperative memberships generally are not considered securities. Therefore, all the expensive federal and state registration requirements necessary for unaccredited investors to launch, say, a private grocery store can often be dispensed with if the store is a consumer cooperative soliciting members.

But how exactly can a cooperative become an investment vehicle? In a typical consumer cooperative, a new member invests in, say, a $100 share, and then gets discounts on goods and services, and perhaps a patronage refund at the end of the year. If you become a member of dozens of co-ops, covering each of your basic needs like banking, insurance, energy, food, and health care, your capital investment may add up to several thousand dollars. Usually when members leave a cooperative, they can get back their member capital. If that $100 invested in the co-op allows a member to enjoy $10 of discounts or patronage benefits each year, the rate of return is 10 percent—more than double what a typical stock fund will deliver.

In the 1975 case of United Housing Foundation v. Forman, the U.S. Supreme Court established that memberships in a co-op, when purchased primarily for the benefits of membership and not primarily for a financial return, are not securities under federal law. Moreover, patronage distributions from co-ops that provide personal, living, or family items are exempt from federal taxation. But state law is more complicated. Whether your specific cooperative membership is or isn’t a security, whether it’s exempt from state blue-sky filings, how it is taxed, how much of a financial return members can realize—everything turns on your state’s exact co-op statutes and tax and other securities laws. And the rules are inconsistent across the country. Every state has at least one co-op statute, and many states have different statutes governing different types of co-ops. Minnesota has seven!

But if a cooperative keeps its members and business within a state, then at least all it needs to worry about is state law. Jenny Kassan, my colleague in Cutting Edge Capital, explains: “The minute you cross state lines, if you solicit investors in more than one state, federal law comes into play . . . In Colorado, Washington, Massachusetts, and several other states, cooperative memberships are exempt from the state securities law registration requirements. They can go out, solicit the public to buy memberships in their co-op, and not have to worry about the usual requirement to file a registration with the state regulators.” Cooperative memberships then can open a spigot to other local-investment opportunities.

 

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Michael H. Shuman is an economist, attorney, author, and entrepreneur, and Director of Research and Marketing for Cutting Edge Capital. He has authored, coauthored, or edited eight books. He helped co-found BALLE, which represents 22,000 local businesses in North America in 80 communities, and is now a Fellow there.

This excerpt is from the book Local Dollars, Local Sense: How to Move Your Money from Wall Street to Main Street and Achieve Real Prosperity. It is reprinted here with permission by Chelsea Green Publishing. For more information about this book, visit www.chelseagreen.com.