Capitalization Strategies for New Co-ops

Capitalization Strategies for New Co-ops

  |  March 15, 2007

129 march – april – 2007

Where we gonna get the grubstake? The 300 food co-op stores in the United States, owned by more than 400,000 consumers, face the continuing challenge of building capital if they are going to continue to grow and develop to serve their members and communities. As much as we might want to ignore this challenge, co-ops need to find ways to acquire more capital as a means to fulfilling their mission.

Capital is defined as money or property used to produce more wealth. Traditionally, businesses require talent and capital to develop and flourish. The Food Co-op 500 program for creating new food co-ops has put forth a “Four Cornerstones” model, surrounding talent and capital with vision and systems.

Food co-ops have most often been chronically undercapitalized. There has been a continuing lack of education that focuses on a member’s responsibility to help capitalize their co-op. System-wide, food co-ops have been weak in the area of ongoing capital planning. In this article, we will feature the cornerstone of capital and describe both traditional and creative approaches to building capital for existing and new food co-ops.

Member capitalization

Member capital is often assumed to be equity, but it really is a combination of equity and debt (liabilities). Member share investments are equity, while member loans are liabilities. As part of a capitalization plan, member equity and member loans are different creatures but equally important. Together they represent the owners’ direct investment in the cooperative.

Member equity dollars are raised in small amounts from all members, coming in over a period of time. Member loans are significantly larger dollar amounts coming from a smaller number of members, secured over a relatively short period of time. Raising member equity is commonly an ongoing effort, while member loans are most often raised in a 4–6 week period, usually to help finance an
expansion project.

Member equity represents the grassroots ownership of a cooperative business. As we look back over the past 35 years of food co-ops, we can see a slow crawl toward making real the ideal of member equity signifying ownership. Many of us can remember lifetime memberships for $5; annual dues of $5 in exchange for a 20 percent everyday discount; then the painful, confusing transition from dues to equity; and reducing or eliminating everyday discounts so that members aren’t greedily getting a 300 percent annual return on their capital investment.

Now many food co-ops are increasing the member share requirement and/or moving towards annual equity infusions (with a higher cap or no cap), including the retained portion of patronage dividends. We are thankful to have co-op history and the co-op principles to guide us through this maze.

Additional nuggets of wisdom that have emerged over the past 35 years include:

  • Member capital should come in the form of equity investments, not dues or fees. (Dues and fees are taxable income and don’t stay in the member’s name.)
  • Don’t use the term “life-time membership.” (Members may vote to increase the equity share requirement at some point in the future.)
  • Develop ways to raise additional equity from current members—through retained patronage rebates or an annual equity investment requirement.
  • Co-ops should base their member equity requirements on an examination of the co-op’s long-term equity needs, not what they think they can successfully ask of their members.
  • There should be an approximate balance between a co-op’s member equity (symbolizing the cooperative) and retained earnings (symbolizing the business), roughly within a 1:2 or 2:1 relationship.
  • Members should provide at least 50 percent of sales (a symbolic measure but indicating a truly consumer-owned cooperative).
  • Find new ways to continuously educate members and potential members on the benefits and responsibilities of member ownership of consumer food co-ops.

With co-ops’ pressing everyday operational needs, building member equity is often not a priority or a focus, though it should be. Setting and pursuing annual goals for new members and new equity is very important. If membership benefits are properly structured and promoted, a natural flow of new members and new equity into the co-op will develop. Periodic membership drives are not necessarily a best practice, although October as Co-op Month offers good opportunities for promotion and education. Membership recruitment should be ongoing, and it should flow naturally with an effective membership system. Look at other food co-ops to find examples of best practices.

New members and potential members are most often customers of the co-op who value the co-op and its services. What is an appropriate number of active members (defined as those who have shopped at the co-op in the last year)? There is no hard-and-fast rule. I suggest, given what members are typically buying from their food co-op, that 75 percent of the number of retail square feet would represent a near-capacity number of members for a mature co-op. (Maturity with regard to membership might be defined as 5 years in a location.)

Thus, a food co-op of 10,000 square feet of retail space, with at least half of its sales to members should have at least 7,500 members at maturity. If we examine our existing food co-ops, we might find quite a range in this ratio of square feet to active members.

New food co-ops should set goals for the number of members for the different stages prior to and after opening. For example: feasibility (300, depending on store size), launching a member loan drive (500), closing on financing (750), store opening (1,000), and one year after store opening (1,500). Again, membership maturity should be reached within five years.

There are a number of options for creating additional member equity, but remember the importance of keeping it simple in the eyes of the member and potential member. Having too many options make it more difficult for someone to become a member or invest additional equity.

Member Loans

For purposes of internal capital planning within the food co-op system, options include retaining a portion of patronage rebates, annual equity investments, developing more attractive preferred share programs for members, cultivating nonmember equity investors as strategic partners (as allowed by the new co-op statutes in some states), and developing best practices for dealing with abandoned equity.

Another important equity option, member loans, offers unique characteristics and advantages. Member loans represent commitment and engagement in the co-op. While not coming from all members, member loans are nevertheless a very strong indicator of member buy-in and support for the proposed future direction of the co-op. The member values the co-op and all its services and is willing to lend a sizable amount of money to the co-op, understanding the risks involved. Member loans typically range from $1,000 to $10,000 and upwards to $50,000. Member loans are unsecured and subordinated to senior and secondary debt (bank debt and other secured or higher positioned loans).

Member loans are a healthy ingredient in the cooperative’s stew of assembled capital; they serve to leverage the bank financing. A bank will be impressed by a co-op’s ability to raise member loans. Since they are subordinate to bank loans, member loans can be viewed as quasi-equity. When calculating debt/equity ratios, member loans can be added to equity and deducted from liabilities, so long as that is clearly stated. Member loans can also be viewed as a bridge to member equity. Member loans are most often raised intensively as part of an expansion project and repaid over a four-to-eight-year period of time, as member equity slowly flows in to replace the member loans.

Food co-ops are raising significant amounts of member loans as part of the capital for expansion projects. We are seeing successful member loan campaigns in the $300,000 to $1 million range for all sizes of food co-ops, including start-ups. The planning for a member loan drive typically takes at least four to six weeks and includes appropriate legal advice from attorneys experienced in co-op and securities law.

If the member loan drive is well- planned and organized, the drive can be completed in four to six weeks. Interest rates are in the range that will be attractive to a social investor as opposed to a speculative investor—generally somewhere between a money market rate and a 5-year CD rate. We recommend offering no more than two categories of interest rates: for example, setting a ceiling of 4 percent for all loans under $10,000 and 5.5 percent for loans of $10,000 or more. Creating a complex tier of interest rates and terms will only make it more difficult for a member to commit to making a loan.

The food co-op sector has only scratched the surface of the potential of member loans as a long-term source of capital. We have seen numerous examples where anywhere from one in 10 to one in four members is interested in making a member loan to their cooperative. A collaborative effort amongst food co-ops, perhaps through NCGA, could result in a complete system for planning, implementing, and administering member loan programs in all of our food co-ops. Such a system could likely be designed to conform with all state and federal securities regulations.

Bank debt

The food co-op sector has benefited greatly from a variety of financial organizations, but most specifically, NCB (formerly known as the National Cooperative Bank). NCB, in addition to making loans to a great number of food co-ops, has invested heavily in building the infrastructure and capacity of the food co-op system. Loan funds such as Northcountry Cooperative Development Fund (NCDF), Co-op Fund of New England (CFNE), and Local Enterprise Assistance Fund (LEAF), as well as a number of credit unions, and local banks, have been sources of capital for many food co-ops.

Co-ops in search of bank financing have had to find lenders who are willing to look beyond a strict collateral coverage ratio, since most co-op expansion projects require more senior debt than a conservative interpretation of collateral allows. A co-op will need a bank that is able to be comfortable with the proposed expansion project and its projected cash flow, the cooperative’s management, and the long-term viability of the cooperative. The bank will need to recognize that they will not be able to get personal guarantees from the owners of the co-op, nor will they be able to get an SBA loan guarantee, for which consumer co-ops are not eligible.


Expansion projects for existing food co-ops, whether at the current store, a relocation, or an opening of a second or third store, have for the most part followed a rough formula for sources of capital:

At least 30 percent (the more the better) of the project costs should be covered by the owners’ contribution (derived from the co-op’s cash reserve, net proceeds from sale of real estate, new member equity, and member loans).

Not more than 45 percent of the project financing should come from bank debt (senior, first-position debt), but it can go as high as 55 percent and more if real estate purchase is involved.

The middle category, between owners’ contribution and bank debt, is “external, subordinated,” and should be as close to 25 percent as possible. Sources include landlord contribution, extended vendor credit, free fill (from manufacturers), and other subordinated funds from city/community sources, including grants and low-interest, long-term debt.


For start-up food co-ops, these percentages change somewhat. The owners’ contribution may need to be as high as 50 percent of the project cost, and bank debt may be as low as 25 percent, with the middle category of “external subordinated” supplying the gap. The capitalization challenge for start-up food co-ops is very steep.

While many co-ops have been able to own their real estate and benefit from that, there are many other co-ops pursuing expansion projects that involve a lease rather than purchase of real estate. Usually there are substantial leasehold improvements in an expansion project, and these improvements don’t provide much collateral value to a lender (although a lease assignment to the lender can help alleviate that). Expansion planning should include exploration of options that involve acquisition of real estate. The real estate can provide stronger collateral and might inspire a higher level of member loans.

In assessing financial feasibility in a proposed expansion project, long-term cash flow is perhaps most critical, demonstrating that all lenders, external and internal can be repaid. Measures such as the debt/equity ratio, the current ratio, and the debt-service coverage ratio are perhaps most important. Ratios do not provide carved-in-stone answers to questions of financial feasibility, but they provide a convenient way to focus the analysis.

Many co-ops have been adverse to utilizing debt as a source of capital. Realistically, it should be providing at least 50 percent of the capital system-wide, the most strategic way to leverage our member capital.

Summing up the grubstake

For a long time, “profit” was a dirty word in co-ops, but now we seem to recognize its necessity if we are to fulfill our mission. “Capital” has been a word that we’ve ignored, denied and not understood. However, it is encouraging to see recent efforts to gain a greater understanding of the food co-op systems’ current capital position. How many members/owners do we have? How much member capital do we have? How much equity do we have? How can we best leverage the consolidated balance sheet of many food co-ops, while honoring the roots of local ownership and control?

The NCBA (National Cooperative Business Association) Equity Task Force will soon issue a report of their recommendations for the co-op sector. (See accompanying article.) What are the long-term capital and equity needs of the food co-op system, and where will that capital come from? The food co-op system should be prepared to begin a capital planning effort to identify sources and strategies for acquiring capital to support our long-term growth and development. What is the role of our National Cooperative Grocers Association in helping launch a capital planning effort?

Sources of capital that could be pursued more aggressively include:

  • Strategic partnering with the social investment community to seek non-member equity investments.
  • Exploring approaches to attract capital into co-ops from self-directed IRAs.
  • Aligning with the green movement to bring more green design into our new store projects, resulting in greater appeal to social and environmental investors.
  • Collaborating with USDA on loan guarantees and grant programs.
  • Collaboration with credit unions.
  • Planning and implementing a systematic member loan program, usable for all food co-ops.
  • Developing best practice approaches to building member engagement/investment, including best practices for patronage rebates and/or annual equity investments.
  • Lobbying to retract the restriction that prevents consumer co-ops from being eligible for SBA loan guarantees.
  • Gaining greater support from city/community sources, including long-term low interest loans, grants, and opportunities for tax-increment financing.

Can we build a shared vision of 500 food co-ops that are fully capitalized? Can we implement that vision?

Suggested Reading:

  1. Food Co-op 500:
  1. “Financial Toolbox,” available from Cooperative Grocer:
  1. “Expansion Toolbox,” available
    from Cooperative Grocer:
  1. Conducting Member Loan Campaigns,”
    by Bill Gessner, CG Jan.-Feb. 2000
  1. Leveraging Benefits for Producer and Consumer Co-ops,” by Kevin Edberg, CG Jan.-Feb. 2006

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