Unit IV. Co-op Finance

Co-op Balance Sheet = a financial statement that lists the value of what the co-op owns (assets), what it owes to others or creditors (liabiilties), and what the owners have invested in the business (net worth or equity)

Unique Co-op Balance Sheet Items Assets Investments in other co-ops Liabilities Cash patronage refunds payable Accounts payable to patrons Loans payable to bank for cooperatives Net Worth Allocated credits Retained patronage refunds Certificates of investment Revolving equity Surplus Unallocated reserves (= retained earnings)

Allocated Equity Capital = Money invested in a business that can be assigned or attributed to and, therefore, claimed by an individual owner

Co-op Sources of Funds 1.Equity Capital 2.Debt Capital 3.Operations: Earnings, Depreciation 4.Sale of Assets

Co-op Equity Capital Characteristics FeatureCo-opIOF 1.Supplied by owners - owners are customers - mainly thru ret pat refs - for unspecified time XXXXXXXX XXXX 2.Rate of return variable - dividends not > 8% - limited stock P gains - return on use emphasis XXXXXXXX X 3.Voting/mgmt rights - one vote per person - one vote per stock share XXXX XXXX 4. No priority over debtXX 5.Reclaimable by owners - easy (sell stock usually) - hard (up to board of dir) XXXX XXXX

Co-op Needs for Equity 1.To provide services 2.To survive adversity (risk capital) 3.To obtain credit

Equity Capital of 100 Largest Ag Co-ops % of Total Capital Typically, 35-40% of total  co-ops have difficulty obtaining sufficient funding from members. Type of Equity Capital% of Total Equity 1.Allocated85-86 a. Direct investment (stocks, mbshps)28 b. Retained patronage refunds56 c. Per unit capital retains1-2 2.Unallocated14-15

Per-Unit Capital Retains =investments in a co-op made by patrons through check-offs or deductions that are based on the dollar value or physical quantity of products marketed/purchased through the co-op. Purpose: For capital investments, not for operating expenses. Example Co-ops: Swiss Valley, Sunkist

+s and –s of Alternative Co-op Equity Types 1.Direct Investments +May provide required start-up capital + Indication of prospective member interest - Difficult to collect

2.Retained Patronage Refunds + Easy to collect + May encourage nonmembers to become members +Equity provided in proportion to use -Fluctuate with earnings -Often considered debt or temporary capital by members -May lead to over expansion

3.Per Unit Retains +Same as patronage refunds plus independent of earnings -Same as patronage refunds plus often viewed as a price increase instead of an investment

4.Unallocated Equity +reserve against losses +helps relationships w/creditors +mbrs less likely to ask for it back +may be some tax advtgs -not consistent w/operation at cost -ownership by mbrs not as clear

Co-op Uses of Funds Pay cash patronage refunds Pay dividends Redeem certificates of equity Redeem capital stock Pay taxes Redeem bonds Repay loans Increase working capital Asset investment

Co-op Cash Patronage Refunds Avg. =38-40% Most Common=20-24%

Equity Redemption The payment to members (in cash or other property) of previously retained patronage refunds or capital retains

The authority and responsibility for administering a co-op’s program for acquiring and redeeming equity belong to the board of directors.

General Co-op Equity Redemption Methods SYSTEMATIC: A definite plan carried out with a fair degree of predictability and regularity SPECIAL EVENT: Carried out in response to special events occurring which do not happen very predictably or regularly

Special Event Methods 1.Death (most common spec. event = 95%) 2.Quit farming 3.Reach certain age (2 nd most common spec. event = 33%) 4.Retire 5.Patron demand or hardship 6.Patron no longer active

Why Co-ops Need to Redeem Equity? To insure ownership by those who use the business. To encourage patronage by producers. To counteract negative image co-ops may have on this matter. To force improved financial planning on management. To reduce legislative pressures for mandatory equity retirement. To reduce possible conflicts between active members and inactive members.

Systematic Methods 1.Revolving Fund 2.Base Capital 3.Percent of Total Equities

Equity Redemption Practices TYPE% of Co-ops Systematic only16 Special only34 Systematic and special26 No program10 Equity not redeemable14

Systematic Plan% of Co-ops Revolving Fund91.9 Base Capital2.4 % of Equities4.5 Other1.2

Equity Collection and Redemption Evaluation Criteria 1.Adequacy of capital provided. 2.Extent to which it results in members supplying equity in proportion to use. 3.Flexibility. 4.Ease of understanding it. 5.Ease of administering it.

Revolving Fund Method Oldest equities redeemed first. Equities redeemed on a first-in, first-out basis

Co-op Revolving Fund Example Yr Beginning Equity Retained Pat. Refunds Equity Redeemed Yrs Redeemed

Revolving Fund +s and -s +Easy to understand +Easy to administer + Flexibility +/-Results in user ownership -Erratic source of funds -Unrealistic member expectations

Length of Revolving Fund% of Co-ops 1-5 years

Base Capital Method 1.Determine co-ops equity need (goal) 2.Determine each member’s share 3.Determine how to adjust (#2 above) from actual to desired Example co-ops: CHS, CF Industries

Co-op Base Capital Plan Example Assumptions: 1)5-year base period 2)desired equity = $18.5 mil. MemberShare of co-op business 1 Beg. EquityEquity Obligation 2 Over or Under A B C ___________________ 1 Over past 5 years. 2 Share of business x desired equity.

Base Capital +s and -s +Direct link between use and investment +Flexible +Proper member expectations -Hard to understand -Hard to administer

% of Total Equities =same % of all equities redeemed (regardless of age)

Co-op % of Equity Redemption Example Mbr Beg Equity % Redemption Amt Redeemed A7, B2, C5,

% of Equities +s and -s +Easy to understand +Easy to administer +Attractive to new (young?) members +Flexible -User ownership

Sources and Uses of Funds $ Sources = $ Uses To  Use X  1.  Sources 2.  Other Uses

Alternative Ways of Increasing Equity Redemption 1.Increase earnings 2.Decrease other uses of funds (e.g. cash patronage refunds, dividends) 3.Increase debt 4.Redemption earlier but at a discount 5.Allow for member exchange of equity 6.Use more unallocated equity (if it increases cash flow) 7.Convert to debt or preferred stock 8.Increase assistance from regionals

Increasing Cash Patronage Refunds May - Reduce capital investments Reduce equity retirement efforts Delay loan paybacks Have short-run and long-run effects on co-op revenues and costs Impact member satisfaction Impact co-op’s ability to meet service/product needs of members Increase need to borrow or obtain money from other sources

A Potential Source of Conflict: Capital Needs of Co-op Vs. Redemption Expectations of Members