Non-Member Preferred Equity

Cooperatives January 31, 2014 Print Friendly and PDF

As discussed in the “preferred stock” section, cooperatives can issue preferred stock to both members and non-members.  Preferred stock is typically non-voting and has proportional-to-capital dividends.  Preferred stock has a senior claim on assets in respect to common stock and liquidation and typically has a senior claim on dividends.  Approval rights or performance benchmarks may also be required before the cooperative can redeem common equity.  Preferred stock may or may not have a redemption date. 

Preferred shareholders may be given the option to sell their shares to the cooperative at a specified price or formula or redemption may be at the option of the cooperative.  In a few large or regional cooperatives, the preferred stock is publically traded.  This is an important component if the cooperative desires to create truly permanent equity.

While many cooperatives issue preferred stock only to members or create preferred stock by converting common stock, some cooperatives use preferred stock to access non-member capital and/or to create permanent (non-revolving) equity. 

There are several challenges and trade-offs involved with the use of non-member preferred stock. 

  • The objective of the cooperative must shift from generating only a return on patronage to a combined objective of return on patronage and return on investment.  The cooperative now has two types of owners, with different types of property rights and different expectations. 
  • Some cooperative experts view the use of outside equity as subverting or diluting the cooperative business model, while other view a continuum of structures from traditional cooperatives to investor owned forms.

Dividends on preferred stock have legal, market, and tax constraints.

  • The dividend rate of cooperative preferred stock is often limited by state statute to 8%. 
  • Marketing cooperatives that do not have a one-person, one-vote governance system must limit dividends to 8% if they do want to lose protection under the Capper Volstead Act. 
  • Depending on the interest rate environment and the perceived risk of the cooperative, preferred stock with a fixed dividend rate with redemption at face value may not provide sufficient return for most investors. 
  • Dividends on preferred stock are not deductible to the cooperative unless the cooperative operates under the more restrictive structure of Section 521 of the IRS cooperative tax code. 

In order to offer preferred stock to outside investors, the cooperatives may have to register the offering with the security exchange commission.  This can be an expensive and time-consuming process.  Because most of the registration risks are fixed, regardless of the size of the offering, the cost to benefit ratio for smaller offerings can be prohibitive.  The cooperative will also have to comply with other elements of securities laws including equal access to important information, timing of reporting important information, quite periods and avoiding pre-offering solicitation. 

In the past, cooperatives attempting to use publically traded preferred stock have found it difficult to generate sufficient liquidity (volume traded) to maintain a functioning market.  The lack of liquidity can make the stock unattractive to investors and force the cooperative to create a redemption option or formula.  In that case the stock no longer functions as truly permanent capital.

Connect with us

  • Facebook

Welcome

This is where you can find research-based information from America's land-grant universities enabled by eXtension.org

LOCATE

Resources

Feature Articles

Resources

Teaching Materials

Webinars

  • Webinar Information
  • Upcoming Cooperatives Webinars
  • Archived Cooperatives Webinars

Favorites

  • Rural Cooperatives magazine, Rural Development, Business and Cooperative Programs, USDA - This bimonthly magazine contains articles and news items relevant to agricultural and non-agricultural cooperatives. An archive provides access to past issues of the magazine from 1998 to 2011.
  • Directory of Farmer Cooperatives, Service Report 22, USDA Rural Development, October 2013 - This directory contains a list, by state, of almost 1,500 farmer-owned marketing, farm supply, service, fishery and bargaining cooperatives. The information includes the cooperative’s contact information, type of cooperative and products that they sell. An online directory is updated every month.

USDA / NIFA

This work is supported by the USDA National Institute of Food and Agriculture, New Technologies for Ag Extension project.