What You Should Know Before Transitioning to Cooperatives
Cooperatives are effective, powerful tools for business owners. But just like any tool, you have to understand how to use cooperatives. It’s always best practice to research before you jump into something. For example, did you know that in the United States, each state has different cooperatives laws?
Linda Phillips joins us in Episode 140 of the Her CEO Journey™ podcast to discuss the cooperative model from the perspective of an attorney. She shares a lot of valuable information you need to have for transitioning to a cooperative model. Cooperatives are not for everyone, so you should know what you're getting into before setting one up.
Make sure to tune in to Steward Ownership: The Basics of Cooperatives: Types, Financial Models, Funding Options, and Legal Formations – The Journey of Linda Phillips to learn more.
Here Are Three Reasons Why Need to Consider Cooperatives:
Discover the different types of cooperatives and identify what will work best for your business.
Understand the steps to transition to a cooperative model successfully.
Learn how to choose the correct financial model and financing strategy for your cooperative.
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Linda’s Journey as an Attorney
Linda did not plan to become a lawyer—it’s her fourth career. She became a lawyer when she was 50 years old.
She first took interest in Co-op Law when she worked as a paralegal with a sole proprietor.
Co-op models aim to help groups of people help each other by forming an organization that meets their needs.
"It combines a philosophy with a business structure that allows people to meet certain needs."
How Coops are Different from Social Enterprises
A co-op can be a social enterprise organization and vice versa. However, a social enterprise is not necessarily a business entity.
One of the earliest co-op types in the United States was the agricultural cooperative. Farmers would assist each other through services, group purchases, or market coordination.
Another is artist cooperatives, where artists share studios and help each other with marketing.
The Different Types of Cooperatives
The worker cooperatives are becoming more popular.
In a working cooperative, employees purchase the business from their old employer.
Purchasing cooperatives are also common among franchisees to help avail better discounts through bulk purchasing.
Credit unions are also considered cooperatives.
Producer cooperatives are a group of people providing services to clients.
There are also marketing cooperatives that provide marketing services to their members.
Why Startups Should Consider Cooperatives
Founders that don’t want to do everything by themselves forever should consider the cooperative model.
Ownership expansion may include employees, customers, and even vendors.
A cooperative still provides value to its founders through preferred stocks and the right to vote.
When to Consider Transition to Cooperatives
You typically need three people at a minimum to start a cooperative.
The challenge of changing your business model is ensuring that you gather a group of like-minded people to form the steering committee.
"It's changing your mindset from do I want to do this all by myself? Or do I want to find other people, like-minded people, and share the burdens as well as the joys of co-ownership?"
Linda suggests that it’s better to make sure your business model works first before changing to a cooperative.
Many people have great ideas but no business experience. Focus on the product-market fit and business operations first before diversifying ownership.
Are Worker Cooperatives Your Only Option?
There are several models for you to consider.
For example, software company owners could consider a producer cooperative.
"Co-op members do not have to be individuals; they can be other business entities."
Not everyone wants to be employee-owners in a worker cooperative model. Only 5 to 10 out of 20 usually want to be owners.
Remember that cooperatives are built on volunteerism and open membership.
Cooperatives can also have different classes of membership. For example, Class 1 includes producers, and Class 2 is the packaging and sellers.
How to Create a Successful Cooperative Model
Linda recommends knowing what you’re doing for your members and what product or service you’re providing.
You need to know who has majority control over the cooperative, who runs the business, and who is on the board of directors.
The board of directors makes policy decisions and guides the direction of the cooperative.
You should know what qualifications to consider to become a member, such as fees or experience.
After identifying all the above details, you can approach a co-op attorney. Listen to the full episode to get an in-depth understanding of creating a cooperative model.
Cooperative Legal Formations
Many states still don’t have comprehensive co-op statutes.
Limited cooperative associations combine limited liability companies with cooperative guide rails.
While limited cooperative associations and cooperatives are similar, LCAs usually include investors as active and have voting rights.
Learn more about legal formations in the full episode!
The Right States with the Right Statutes for Cooperatives
Do your research and know the co-op statutes in prospective states.
Many C corporations and LLCs are incorporated in Delaware because of Delaware's corporate laws and statutes.
Meanwhile, Colorado has good co-op laws.
You can be incorporated in a state but based elsewhere.
Learn more about the taxes and sales involved when transferring locations in the full episode.
Choosing the Right Financial Model
Under the Internal Revenue Code, there is a subchapter for cooperatives.
For a 100% worker cooperative, worker-owners create revenue. Their profits are distributed based on their use of the co-op.
Employers receive a 1099 PATR dividend statement, and they need to report these on their personal income tax returns.
Cooperatives are allowed to retain a portion of net margins but need to pay corporate taxes for it.
If your cooperative includes non-owners, the calculations are different. Find out more in the full episode.
Funding and Financing Options
Most of the time, employees will need to get financing to purchase ownership.
A common funding option is ownership financing. The owner is eventually paid by the employee-owners or preferred stock.
There are also capital fundraising companies available.
The cooperative can also consider crowdfunding and a public offering.
Cooperatives may not be investment vehicles, but their preferred stock can be structured to attract investors.
"A co-op is not intended, nor was it ever intended to be an investment vehicle."
Choosing the Right Financing Option
Figure out the value first. This doesn’t have to be a formal valuation.
The valuation process should also assess whether you will stay with the company or leave.
Know who would want to buy the company.
The Importance of Financial Models
Understanding your financial model is helpful and can guide your financial strategy.
There is no specific recommendation for profit margin when considering a transition to a cooperative model.
However, some people prefer having higher profit levels first.
Remember that cooperatives are both business and financial models that involve democratic ownership.
"The thing about cooperatives it's not just a business model or a financial model. It's also a philosophy."
Linda’s Tips on Cooperatives
If cooperatives do not work for you, you can convert back. Cooperatives are not for everyone.
Cooperatives can be both exciting and taxing for employee-owners.
Remember that cooperatives are based on a sharing economy business model.
"Co-ops are formed to help groups of people help themselves."
"It's not just every shareholder for himself. It's a group of people helping each other and helping themselves by forming an organization that meets their needs."
"A business plan allows you to put on paper, in concrete form, what your ideas are, and where they're going."
"One of the principles of cooperation is voluntary and open membership."
"When it's a workers cooperative, you become a founder, essentially. You own a business. So you really need to have that entrepreneurial spirit in you."
Linda Phillips is the Senior of Counsel at Jason Wiener, P.C. Before practising law, Linda worked in advertising/marketing, banking and commercial properties. She then worked as a paralegal under James B. Dean Esq.
Her practice areas include business organizations, cooperatives, general business law, employment law, rural telecommunications, and real estate. She is also a resource for cooperative know-how.
She has also published several articles on the topic, including Colorado is Fertile Ground for Co-Op Development and Conversions under the USDA Rural Cooperatives Magazine and Chapter 15 (on Cooperatives) of Practitioner's Guide to CO Business Organizations.
Want to learn more about her work? Check out Jason Wiener P.C.
Enjoy this blog?
Transitioning to a cooperative requires more than just the desire and basic understanding of what the cooperative model is. You also have to be aware of various legal and financial considerations.
With Linda's explanation of these concepts, you're on a much better track towards shifting your business model to a cooperative. If you enjoyed this blog, tune in to the Her CEO Journey™ Podcast, subscribe, and share it!
Write us a review and share it! If you enjoyed tuning into the show, then do not hesitate to leave us a review. You can also share this episode with your network, especially women in business, so they will know the importance of having a financing strategy and planning for financial leverage.
Have any questions about business finance? You can contact me through LinkedIn or schedule a chat with me at any time. You can also suggest topics you're curious about for future episodes to help your business grow. Thanks for listening!
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