USDA/co-op partnership aids
producer quest for market power


By James Baarda,Ag Economist
Cooperative Programs
USDA Rural Development
james.baarda@wdc.usda.gov


ighty years ago, farmer cooperatives were, as they are now, vital parts of American agriculture and rural communities. They were growing in size, number and sophistication. Cooperatives had received protection under the Capper- Volstead Act of 1922 against unanticipated antitrust challenges, had been recognized as unique organizations for federal income taxation from the very beginning of income taxation, and certain types of farmer cooperatives had been favorably treated in the Clayton Act of 1914. Almost all states had enacted special statutes under which cooperatives could be incorporated.

Cooperatives had also learned some hard lessons. Inadequate attention to principles of cooperation, failed attempts to force price increases through monopoly-type behavior and expansions beyond member control led to concerns about the role of cooperatives in agriculture and in their ability to consistently enhance farmers’ economic wellbeing.

Despite cooperatives’ early growth and importance, farmers who formed and used them needed support to fully capture the benefits of well-run, financially sound and strong cooperative businesses. USDA then stepped in. In 1925, after noting the dramatic growth of cooperatives, Secretary of Agricultural William M. Jardine said, “A movement of this magnitude, with its tremendous economic and social significance, must be analyzed and guided so that its highest possibilities may be realized.” With “analysis and guidance” as an objective, Congress acted quickly, and on July 2, 1926, President Calvin Coolidge signed into law the Cooperative Marketing Act of 1926.

Ever since then, USDA has been an active supporter of farmers who take upon themselves responsibility to collectively market their products, to purchase their supplies, to add value to commodities produced, to improve conditions of the market place, to engage in a great variety of activities to enhance individual farming operations, and to create new opportunities for farmers’ economic strength and for rural development.

Cooperative Marketing Act of 1926
The Act established an extensive set of tools USDA can use to analyze and understand cooperatives. The Act directs five ways of providing assistance to cooperatives. USDA is authorized to:
  1. Collect and analyze economic, statistical and historical information about cooperatives, including their progress, organization and business methods.
  2. Conduct research on economic, legal, financial, social and other characteristics of cooperatives. This is to include organization, operation, financial and marketing problems.
  3. Provide technical assistance to individual cooperatives upon request.
  4. Assist those who are considering cooperative formation.
  5. Conduct educational activities to enhance the general understanding of the cooperative method of conducting business.
The Act specified that the division charged with the mission was to be located in USDA. Over the 80 years of the mission, the organizational structure used to achieve the mandates has changed significantly. The original organization was transferred to the newly created Federal Farm Board in 1929. The work of the cooperative division was subsequently transferred in 1933 to the Farm Credit Administration (which at that time was an independent agency within USDA), where cooperative work continued until 1953. When the Farm Credit Administration became independent of USDA in 1953, USDA created the Farmer Cooperative Service to continue its partnership with cooperatives.

Farmer Cooperative Service existed for nearly 25 years as an independent agency. In 1977, the cooperative program became part of the Economics, Statistics and Cooperatives Service. Independent agency status was restored in 1980 with the creation of the Agricultural Cooperative Service. In 1994, the cooperative unit, now known as Cooperative Programs, was absorbed into the then newly created USDA Rural Development mission area.

Cooperative contributions
How have cooperatives contributed to American agricultural and rural America? It is not possible here to chronicle the trends and events that show the enormous contributions that cooperatives have made to agriculture and rural America in the past 80 years. A few general observations, however, will suggest the extent of cooperative influence.

Standard business performance criteria can be used in assessing the impact of cooperatives. These include job creation and skill development in their local employment base, additions to local and national income and the multiplier effects of the dollars they generate on the communities and region in which they operate. Benefits of a cooperative are realized by the members, so cooperative businesses tend to have a greater direct impact on the areas in which they operate.

There is no substitute for a vibrant economic system. However, cooperative businesses go a step beyond “business as usual.” They are unique organizations owned and controlled by farmers and operated solely for their benefit as users of the cooperative. The history of cooperatives in the past 80 years and earlier demonstrates unique contributions by cooperatives. Following are examples that focus on such special attributes of cooperation in the economy.

Changing under-performing market structures — Sellers, buyers, processors, retailers, consumers and producers are just some of the groups that make up a market in a particular commodity or group of commodities. Individual farmers who sell to buyers independently must take the price offered in the absence of an alternative buyer. In almost every commodity produced, the growth of cooperatives has resulted in a market structure in which the power of a limited number of buyers is reduced.

The pricing system — now including the cooperative acting as either an intermediary or as a complete substitute for a limited number of buyers — becomes more efficient. The final market price is conveyed to farmers more directly through their own cooperative, enhancing production responses to the changing demands of a market.

Improving market performance — When farmers form cooperatives, they usually improve the market’s performance even where non-cooperative competitors continue to thrive and serve farmers who are not cooperative members. This impact was described many years ago as cooperatives’ “competitive yardstick” role. If a non-cooperative buyer pays a low price to farmers and makes excessive profit from the practice, farmers may form a cooperative through which they market their product. The price paid to farmer members plus the patronage refund they receive establishes a market price. If the competitor refuses to pay better prices to farmers, the farmers will join the cooperative.

Therefore, the competitor must pay higher prices to obtain the commodity. The prices paid to farmers increases. Even those farmers who do not market through the cooperative benefit from the cooperative’s presence. Market competitiveness is measured against the cooperative, creating the competitive yardstick.

Increased farmer participation — As members and patrons, farmers participate in the market to the same extent as their cooperative does. To a greater or lesser degree, they integrate horizontally and vertically in the market system. Consequences of this participation include farmers’ exertion of a degree of control over the pricing system, over the quality of products purchased and over strategic marketing decisions that affect immediate and future returns.

Adding value to the commodity — Cooperatives effectively capture profits from other segments of the market. Examples include cooperative processing of farmers’ lower-value commodities into a value-added product, then marketing high-value products. The profits from adding value and marketing a product are realized by the cooperative and allocated to member producers. Absent a cooperative, the farmers would receive only a commodity price. Others would receive the profits from adding value. With the cooperative, the farmers receive all of the benefits of greater participation in the market.

Innovation — Agriculture has a history of innovation and productivity unmatched by any other industry on an extended basis. This spirit of innovation certainly holds true for cooperatives. On the supply side, cooperatives have shown remarkable creativity and focus in providing members with quality material, seeds and supplies when and where they are needed.

Marketing innovations are among the most visible of cooperative contributions in consumer awareness through branding. New product development, new methods of marketing and distribution and development of international markets are only a few examples of the many ways cooperatives bring creativity to products, markets and ultimately to consumers.

Business innovation — Farmers have, over a long period of time, created business forms that are ideally suited to their peculiar occupation and the unique markets in which they purchase and sell. Democratic voting, effective member directorships, the patronage refund systems and patronage-based financing systems are unique to cooperative businesses. Examples of workable cooperative solutions to business challenges are distributed, then copied and modified for other farmers in additional regions and commodity systems.

Principles, practices and structures have been suggested, tried, modified, discarded, adapted and adopted as needed. Cooperatives have become part of the fabric of rural America through the creativity, foresight and determination of individuals with common goals and compatible objectives. These innovations are in and of themselves contributions that cooperatives have made during the 80-year existence of the Cooperative Marketing Act.

Rural economic development — Cooperatives, by their nature, tend to enhance local economic development in unique ways. There are several reasons for this. A cooperative business is oriented exclusively to serve local areas, because margins flow to users rather than absentee investors. Their objective is, in fact, to increase income for patrons. When benefits are distributed, they go not to those who have excess investment funds but to farmers who can then use the income for personal or farming operations. This keeps families in farming, families whose existence is the basis for vibrant rural communities.

Farmer cooperatives are only one type of cooperative enhancing rural and community economic development. Among many other examples are rural electric and telephone cooperatives that enhance the quality of rural life. These cooperatives also have a partner in the Rural Utilities Program of USDA Rural Development, which provides them with financial and technical assistance. The nation’s Farm Credit System, a producer-owned cooperative system, offers vital credit that would otherwise not be available for many farmers and other rural residents.

USDA’s role
During the 80 years since the Cooperative Marketing Act was passed, cooperatives have flourished and made enormous contributions to farming and rural America. USDA has been an active participant in their growth. The Act’s “analysis and guidance” mission has placed USDA in a position to have a real impact on individuals and their cooperatives. It is not possible to chronicle everything this relatively small office has done for cooperatives. A few highlights include:

Cooperative principles — The unique business organization of cooperatives is also their strength. This idea has been the source of analysis and guidance throughout the history of the Cooperative Marketing Act of 1926. It has also been one of the important contributions of USDA to cooperatives. From early expressions of cooperative “principles” in England in 1844, through a formulation of principles by the Patrons of Husbandry in the United States in 1876 as a result of cooperative failures due to poor organizational structures, through failures in the 1920s because of misconceived ideas about what cooperatives can and cannot do, cooperatives have constantly sought guiding principles.

Prior to the 1926 Act, principles were included in state cooperative incorporation statutes, federal income tax pronouncements and the Capper- Volstead Act of 1922. USDA continued its analysis and guidance mission on cooperative principles to assure farmers gain the benefits of properly formed cooperatives. Numerous cooperative definitions and principles developed over the years.

In 1937, for example, a study of European cooperatives provided information about successful cooperatives there. In 1987, USDA formulated three fundamental principles that are “standards” in the industry. Principles are not mere theory. They are guiding lights for successful business operated on a cooperative basis. Because of this, USDA’s contribution to cooperatives through its dedication to principles has been real and lasting.

Good business structures— In the 80 years of its partnership with cooperatives, USDA has observed cooperatives cannot succeed — regardless of dedication and good intentions — without appropriate business structures. Many studies of co-op successes and failures, analyses of operations from all perspectives, and accumulation of great amounts of data and experience have been applied to give guidance to those forming or already operating cooperatives. These studies have also been used by cooperatives looking to make significant changes in their own structure or their relationship with other organizations with strategic alliances and joint ventures.

Mergers and consolidations have been prevalent in cooperatives as numbers decrease and efficient size increases. USDA has guided many such efficiency- generating changes and has learned many lessons that are passed to others, all under the authority of the Cooperative Marketing Act.

Promoting financial strength— Farmer equity financing, debt capital and unique methods used by farmers for financing their cooperative through patronage are key to understanding cooperatives. Financing is often the most difficult task in forming or developing cooperatives. At the same time, measuring cooperative financial health is required, just as it is for any business. USDA has always employed widely recognized cooperative finance experts who understood cooperative finance and who shared their expertise with cooperatives, their accountants and advisors.

Special studies, including some that focus on patronage-based financing and equity redemption, have highlighted the partnership between USDA and cooperatives.

Directors, management and operations— Running a cooperative successfully is not an easy task. No outside assistance can substitute for good directors, good management and smooth operations. Assistance can, however, be offered through information and the experience of others.

Director training, management assistance and dissemination of best practices have been developed and applied during all of the 80 years of the Act’s mandates. From technical assistance to director training sessions and publications to encouragement of strong co-op member- relations programs, many aspects of cooperative governance and operations have been the subject of USDA’s expertise and assistance.

Industry studies — Until relatively recently, USDA’s partnership with cooperatives included substantial industry studies. For both marketing and supply cooperatives, the industries and markets in which they operate define the need for cooperatives as well as the methods cooperative could use to improve the market. Specialists in farm supplies, grains and oilseeds, livestock, fruits and vegetables, specialty crops and dairy worked with farmers and cooperatives to improve the farmers’ positions in each industry through their cooperatives.

While USDA’s Cooperative Program retains dairy experts, few other staff now specialize in particular commodities or industries.

Legal and policy issues — As a central focus for national issues, a major thrust of USDA’s efforts has been to educate the cooperative community and policy makers about the special character of cooperatives and what that means for their legal status — and the need for policies that recognize those differences. Federal income tax studies during the Act’s early years were examples of such education and support. Challenges to practical income tax practices in the late 1970s resulted in discussion between USDA and the U.S. Treasury Department that helped all parties. Antitrust issues were also addressed through USDA-Federal Trade Commission-Department of Justice joint task forces and inter-personal discussions.

One of the earliest scholarly legal treatises on cooperative law was the Legal Phases of Farmer Cooperatives that went through numerous editions until 1974. It was the handbook for cooperatives, lawyers and policy makers during much of the past 80 years. Extensive studies of incorporation statutes, securities laws and other matters of legal and policy importance have been contributed by USDA under the auspices of the Act.

Changing co-ops,
changing partnership
Challenges and resulting opportunities come with change. Few things have remained unchanged in the past 80 years. Some ideas and principles have kept their fundamental importance: the vital role farmer cooperatives play in agriculture and rural economies; the importance of good directors and managers; adequate financing and solid financial controls and the requirement that cooperatives operate as successful businesses. But even these statements must be understood and applied in the context of many changes.

One constant, however, is clear. Cooperatives continue to make contributions as they have for 80 years. Similarly, the contributions of the analysis and guidance envisioned in the Cooperative Marketing Act continue, although these, too, are changing.

During the past 20 years, the pace of change has accelerated for cooperatives, especially during the past decade. The critical question is: Are cooperatives continuing to make significant contributions to agriculture and rural America? If so, how can it be assured that this impact will continue?

As with the long history of cooperatives and the Cooperative Marketing Act, it is not possible to detail all current changes and trends. However, a few observations may be informative.

Right sizing —Some cooperatives have grown much larger in response to market and industry changes. This permits them to purchase and sell in quantity in response to market concentration and internationalization of markets and industries. Others have intentionally remained small to serve a specialized group of producers in niche markets. Small size may be dictated by the size of the product or the size of the market. In any case, one response to change is establishing a size appropriate for a coop’s purpose.

Integration — Participating in “upstream” and “downstream” markets is nothing new for cooperatives. It is, in fact, one of their hallmarks, although integration varies widely among commodities. Increased food processing, more complicated market chains from commodity to retail, and internationalization of markets have led farmers to observe that their share of the final price received for their commodity — as modified and distributed for final sale — is shrinking. They have formed cooperatives or changed existing cooperatives to integrate into other segments of the market. The search for ways to capture the greatest advantage for members continues, perhaps at an increasing rate.

Adding value to commodities — Farmers are more adept, willing and committed to capture more value for the commodity they produce by cooperatively adding value. Typically, this is accomplished by processing the commodity into a new product in a form closer to that demanded by the final consumer. A higher price can be obtained for the new product. Rather than simply sell the commodity, farmers are able to add value and capture that value as a return from their cooperative.

This, too, is not a new endeavor for cooperatives generally. Recently, however, many farmers have become more imaginative and aggressive about adding value themselves through a cooperative. Adding value is found throughout the food industry. The major trend at present is in the production of renewable fuels. A great number of ethanol production facilities have been built in the past few years by farmer organizations as well as others. This burgeoning industry has gained national attention and will continue to do so in the foreseeable future. One of the major questions is the extent and kind of farmer participation in this new industry.

New types of cooperative organizations— Farmers continue to innovate when it comes to their cooperatives. One example of this is the formation of cooperatives that operate with a mix of principles that respond to new market and industry needs. So-called “new-generation cooperatives” use a combination of financial requirements, commodity delivery requirements and delivery rights based on up-front investment to coordinate product delivery and efficient plant operation. These organizations are usually found in situations where a considerable farmer investment is required to build a processing facility to add value to commodities. Most of the operating methods are similar to those found in more traditional cooperatives, but are combined in a new manner.

Financial innovations — Several ways cooperatives benefit farmers, such as by processing commodities or market development, require substantial capital. In some cases, capital needs may be beyond the capabilities of farmer members to make sufficient investments. Some cooperatives have considered the use of equity investments from those who are neither members nor patrons of the cooperative. The motivation of such investors is to obtain a return on investment, not a return based on use of the cooperative. The use of this kind of equity has drawn concern from some who question whether it will detract from cooperatives’ ability to focus on benefiting their farmer-patrons as their primary reason for existing. These and other financial innovations can be expected as demands for capital face pro-active individuals who want to own and control a cooperative serving their specific needs.

Statutory changes — One of the most interesting and possibly the most significant change regarding cooperatives has come in the form of new cooperative incorporation statutes. The statutes, presently enacted in a few states, reflect one kind of response to the need for cooperatives to participate in capital-intensive business. These new statutes generally provide for substantial investment in a cooperative by investors who do not use the cooperative.

In addition, the statutes give such “outside” investors voting power in the cooperative, along with those who use the cooperative. It is expected that some version of these statutes will be considered by more states in the next several years. Debate continues regarding the wisdom of such laws and the possible impact on cooperatives, particularly on ownership, control and benefit for farmer members.

New choices of business forms — Farmers and others who want to collaborate in business have many choices of the business form they wish to use. They no longer need choose only between a traditional corporation and a cooperative. Corporations can be modified considerably to achieve selected business goals.

In addition, the limited liability company (LLC) has become an extremely popular business form because of its combination of tax and liability protection attributes. The LLC is also a flexible business model and can be organized to give most of the benefits of a cooperative. As a consequence, individuals who would have otherwise chosen a cooperative or a combination of a cooperative and non-cooperative firm are increasingly turning to LLCs. This concerns those who see this trend as a loss of cooperative businesses, while others view the trend as a means to have the best of two worlds.

Pace of innovation — Cooperatives and similar farmer-owned organizations continue to innovate in every aspect of the industry. Innovation itself has become something of a “commodity.” As such, it takes on a value.

Cooperatives have responded accordingly and become much more willing to innovate to find new and better ways to serve farmer members. This trend will certainly continue.

From defense to offense —In many circumstances in the past, cooperatives were created to alleviate poor market conditions or challenge the power of others in the market. While this certainly was not the case for all cooperatives, it was a perception that influenced the way cooperatives were viewed. Cooperatives are quite clearly now becoming more positively oriented, creative and proactive as they are used to participate in markets.

Co-ops are taking active roles in adding value to commodities, in developing new markets and brands to position themselves for profitable operations and in moving toward responding to markets rather than attempting to sell commodities already produced. With this comes new needs for capital, for expertise and for appropriate business forms.

Future of partnership
It is quite clear that cooperatives will change in the future in ways not now anticipated. It is also clear that those who would have in the past adopted a traditional form of cooperative structure will choose to form and design a business that suits their needs but may have only some cooperative characteristics. This leads to two important questions about the USDA-cooperative partnership as envisioned in the Cooperative Marketing Act.

Will farmers and others have a need for the “analysis and guidance” identified in the five functions described in the Act? On the other hand, will USDA be able to respond to changing needs and trends with services that continue to prove the value of the Act?

A positive answer can be made to both questions. Those who form and use cooperatives or other collaborative business forms will need analysis and guidance in added measure simply because these are new, untested waters. What works and what doesn’t work? What are the pitfalls as well as the potentials for innovations in structure, operations and objectives? What are best practices leading to likelihood of success? These are the types of questions that need answers — answers that must be studied and lessons learned disseminated to those to whom the benefit is greatest. The more cooperatives change and respond, the greater is the value of information.

Cooperative analysis and guidance at USDA is continually changing to meet new demands and opportunities. More focus in needed on the broader issues of rural economic development and the role of cooperatives in such development, objective investigations of the impacts of new financing and business forms and in-depth analysis of farmers’ roles in new industries, such as ethanol.

More assistance is needed for those considering various methods of collaborative action, as is application of evolving business practices for farmer organizations. These are just a few examples of continued response to new needs. The addition of the Value-Added Producer Grant program to provide direct financial assistance to those who use innovation will add value to commodities is another example of recent changes to the USDA-cooperative partnership.

Review of the 80 years of contributions by cooperatives and by the Cooperative Marketing Act, further review of recent dramatic changes in cooperatives and the anticipation of continued innovation and change in nearly every aspect of cooperative and farmer-owned business all suggest a clear need for a continuation of the “partnership” established by the Cooperative Marketing Act of 1926.



July/August Table of Contents