This white paper is available through CHS Center for Cooperative Growth, www.chscenterforcooperativegrowth.com, an initiative that gathers and shares diverse viewpoints from agribusinesses, independent agricultural producers, academia and other leaders to foster greater success among America’s cooperatives. DEFINING THE VALUE OF THE COOPERATIVE BUSINESS MODEL: AN INTRODUCTION By: Anne Reynolds, Assistant Director, University of Wisconsin Center for Cooperatives, Madison, Wis. Introduction People who are unfamiliar with the value by successfully translating and In the following discussion, we will cooperative business model often define aggregating information about their discuss how the value of cooperatives cooperatives in relation to the dominant members’ needs into valued products is expressed and defined. We will model of a firm: investor ownership. and services. Successful cooperatives begin by considering cooperatives’ There is a rich body of knowledge and must find a balance between complex economic value, which is the shared understanding regarding the maximizing the current well-being of value of cooperatives as an influence value of investor-owned firms. Although the owners and maintaining the long- on prices and/or services within the stock prices and financial metrics term economic sustainability of the firm. economy, the value of cooperative don’t reflect the entire value of a firm, business assets at the enterprise level, they are readily available and easily The standard definition of the term and members’ assessment of value. comparable across firms. They can be value combines two concepts: This will be followed by a discussion used by a wide variety of factors in the monetary worth and importance to the of the value of cooperatives’ distinctive economy, including investors, potential possessor. This definition is consistent ability to aggregate and align member merger partners, customers and analysts. with a discussion of the value of the needs while generating trust, loyalty cooperative business model. Important and mutual commitment. In an Lacking transferable shares and strands of thought regarding cooperative increasingly complex and globalized other standard indicators of firm valuation include the economic value business environment, cooperatives are value, cooperatives require a more of the firm, the value of cooperative’s positioned to gain significantly from complex assessment. The source presence in the marketplace, and their special relationship with their of the complexity is embedded in the value of the firm to its owners, member-owners. the cooperative ownership model. which may include both concrete and Cooperatives are owned by their intangible benefits. patrons, and cooperatives create Value of Cooperatives in the Economy Cooperatives are often formed in beneficial influence may fade from of 200–1000%. A statute establishing response to a problem in the market, memory (Hueth, 2011). Credit unions, credit unions was passed in 1931, and usually due to an imbalance of power which are consumer owned financial by 1939 there were over 500 credit between a supplier of goods and cooperatives, provide a good example unions operating in Wisconsin, meeting the customer. By pooling members’ of this phenomenon. Credit unions the market demand for fair consumer purchasing power, a cooperative may began offering savings and lending loans. In 2013, almost 75 years later, serve as a force to lower prices or raise services to consumers in the 1920s, at banks and credit unions offer fairly the quality of service, or influence the a time when many banks did not offer standard consumer credit products. market in other significant ways. these services to ordinary working In order to compete, credit unions people. In Wisconsin, for example, must differentiate themselves through The cooperative’s positive impact on 85% of the citizens did not qualify for qualities like price, access and service. prices or services will eventually be met bank credit. An early version of today’s by competitors, and the cooperative’s payday lenders offered credit at rates >>> © 2013 CHS Inc. • For more information, contact us at [email protected] or call 1-800-232-3639, ext. 4502. 1 Value of Cooperative Business Assets Cooperative firms are evaluated based on value; and replacement value (what Cooperatives have adopted industry their business assets, with the same tools would a willing buyer have to pay to expectations for return on investments, used to value other firms. As with other replace assets at current prices?). EBITDA using the same benchmarking tools. closely-held businesses, where there is is a financial metric used to value and For example, value creation is defined no public market for stock, analysts use assess the performance of companies by the return on invested capital minus financial metrics and estimated revenue across industries. It focuses on how much the cost of capital times the amount of projections to assess cooperatives. profit is made on the products that a firm invested capital. This financial metric buys and sells, under present operations shifts attention from revenues to return Business valuation tools include the and assets. The goal of estimating future on investment, providing a critical balance sheet method, EBITDA (earnings cash flows is to accurately understand tool for analyzing use of capital. Like before interest, taxes, depreciation and the projected value of an investment, their competitors, cooperatives have amortization) and estimated future cash based on future costs of money and increased profits by focusing on strongly flows. The balance sheet method of revenue projections. performing sections of their business and valuation looks at net book value (total maximizing their strengths. assets less total liabilities); liquidation Member Assessment of Value In order to fully understand the value make the connection between present prices were high, this allocation of their cooperative to their life or investments and future gains, with both system rewarded fertilizer patrons, business, cooperative members must short- and long-term advantages. who might otherwise have left the estimate several things: the economic cooperative for the competition. The value of the prices and services Cooperatives price their products and additional cash patronage contributed offered by the cooperative; the future services competitively, and then use significantly to members’ perception value of the investments made by the patronage refunds (and occasionally of the cooperative’s value. Cooperative cooperative, the value of annual cash dividends) to return a portion of Group UK uses a similar system to patronage distributions, and the value the profits to members after the encourage members to patronize its of their investment in the cooperative. completion of the financial year. When various retail locations. With 4,800 The cooperative model depends on the cooperative is competitive within retail outlets offering members banking, collective investment in a firm that a market, patronage and equity may grocery, insurance and utility services, delivers most of its value through use of differentiate it from competitors. the Cooperative Group offers one the cooperative. Members may view cash patronage membership card, which tracks patron distributions as a significant incentive usage. The card allows the Cooperative This means that cooperative firms to patronize the cooperative. Group to distribute patronage refunds must anticipate the needs of their based on a strategic formula. Members Cooperatives also have the option members, in order to be relevant to are encouraged to patronize the various of using patronage distributions current and future demands. As they retail outlets through a system of strategically, to reward members assess strategic decisions, they should rewards and “bonus” points, all related for patronizing profitable business have a long-term time horizon. This is to annual patronage distributions. where cooperatives have an important units, or to increase loyalty by easing advantage over public companies, difficult conditions for their members. Except for the membership share, the which are increasingly challenged Badgerland Financial, a Wisconsin-based other equity owned by cooperative by their focus on quarterly reports. farm credit association, used a special members does not require an upfront On the other hand, cooperatives, as patronage distribution to help members investment. As Michael Boland writes member-driven organizations, must with post-drought financial burdens in in another section of this website, consider members’ differing time October 2012. Producers Cooperative cooperatives are continuously horizons for active participation in of Bryan, Texas, offers differential cash innovating in the way that they handle the cooperative. Cooperatives may patronage allocations to encourage member equity and capital. Several be pressured to return high cash use of profitable divisions. After an cooperatives, including West Central patronage refunds, preserve under- annual analysis of each unit’s financial and Organic Valley, convert member utilized services or revolve equity, results, the cooperative gives patrons equity into preferred stock, which rather than investing in valuable future. of top performing areas higher cash is not tradable but earns an annual allocations. In 2008, when fertilizer Leadership must educate members to >>> © 2013 CHS Inc. • For more information,