Advantages and Disadvantages of Starting a Cooperative Business

What Are Cooperative Businesses and Should You Start One?

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When most of us think of cooperatives, we tend to think of food stores where customers receive memberships in exchange for working in the store a few hours a week. However, businesses of all sizes and types can become cooperatives, from joint buying clubs to Fortune 500 companies.

How Do Cooperatives Work?

Unlike a joint venture, where two or more companies work together toward a business goal, a cooperative is a business or organization owned by and operated for the benefit of those using its services. Profits and earnings generated by the cooperative are distributed among the members, also known as user-owners.

Typically, an elected board of directors and officers run the cooperative business, while regular members have voting power to control the direction of the cooperative. Members can become part of the cooperative by purchasing shares, though the number of shares they hold does not affect the weight of their vote. Cooperatives tend to follow these seven general principles adopted in 1995 by the International Cooperative Alliance:

  1. Voluntary and Open Membership
  2. Democratic Member Control
  3. Member Economic Participation
  4. Autonomy and Independence
  5. Education, Training, and Information
  6. Cooperation among Cooperatives
  7. Concern for Community

Cooperative businesses are common in the healthcare, retail, agriculture, art, and restaurant industries.

Forming a Cooperative

Cooperative businesses are organized to improve bargaining power, reduce costs, expand new and existing market opportunities, improve product or service quality, and obtain unavailable products or services that profit-driven companies don’t offer to communities because they are seen as unprofitable. If any of the above applies to your business climate or situation, forming a cooperative business may be the right choice for you.

Forming a cooperative is different from forming any other business entity type. To start, a group of potential members must agree on a common need, as well as a strategy on how to meet that need. Usually, an organizing committee then conducts exploratory meetings, surveys, and a cost and feasibility analysis before every member agrees to the business plan. Not all cooperatives are incorporated, though many choose to formalize yours in this way. If you decide to incorporate your cooperative, you must complete the following steps:

Each state will have slightly different laws that govern cooperative businesses.

Consult an attorney, your Secretary of State, or State Corporation Commissioner for more information regarding your state’s specific laws before filing your Articles of Incorporation and creating your bylaws.

Advantages and Disadvantages of a Cooperative Business

Below are the pros and cons to consider when deciding whether or not to make your business a cooperative business.

What We Like

  • Additional funding opportunities

  • Reducing costs while improving products and services

  • Democratic organization

What We Don't Like

  • Difficulty obtaining capital through outside investors

  • Lack of membership and participation

Advantages of a Cooperative Business

One of the main benefits of a cooperative business is reduced taxation. Similar to an LLC, cooperatives that are incorporated normally are not taxed on surplus earnings (or patronage dividends) refunded to members. Therefore, members of a cooperative are only taxed once on their income from the cooperative and not on both the individual and the cooperative level.

 Other advantages of cooperative businesses include:

  • Additional funding opportunities–Depending on the type of cooperative you own or participate in, there are a variety of government-sponsored grant programs to help you start.
  • Reducing costs while improving products and services–By leveraging their size, cooperatives can more easily obtain discounts on supplies and other materials and services, so the members of the cooperative can focus on improving products and services.
  • Democratic organization–Democracy is a defining element of cooperatives. The democratic structure of a cooperative ensures that it serves its members’ needs. The amount of a member’s monetary investment in the cooperative does not affect the weight of each vote, so no member-owner can dominate the decision-making process. The “one member-one vote” philosophy particularly appeals to smaller investors because they have as much say in the organization as does a larger investor.

Disadvantages of a Cooperative Business

Cooperative businesses do have their drawbacks:

  • Difficulty obtaining capital through outside investors–While the “one member-one vote” philosophy is appealing to small investors, larger investors may choose to invest their money elsewhere because a larger share investment in the cooperative does not translate to greater decision-making power.
  • A lack of membership and participation–If members do not fully participate and perform their duties, whether it be voting or carrying out daily operations, then the business cannot operate at full capacity. If a lack of participation becomes an ongoing issue for a cooperative, it could risk losing both members and competitive advantage.

Bottom Line

Forming a cooperative business can help your business provide goods and services your community otherwise lacks, and can make employees and customers feel fulfilled via taking an ownership stake in the business.

Cooperative businesses can also be a challenge in that members need to remain engaged, and the decision-making process can be drawn-out since all members have a vote.

Weigh all your options before deciding whether the cooperative business model is right for you.

Article Sources

  1. International Co-Operative Alliance. "Cooperative Identity, Values, and Principles," Accessed Oct. 3, 2019. 

  2. Small Business Administration. "Register Your Business," Accessed Oct. 3, 2019. 

  3. Internal Revenue Code. "26 USC Subtitle A, CHAPTER 1, Subchapter T: Cooperatives and Their Patrons," Accessed Oct. 3, 2019. 

  4. AgEcon. "The One Member-One Vote Rule in Cooperatives," Accessed Oct. 3, 2019.