• And finally, drawing upon the experience of various agencies that work with cooperatives, Farmer Cooperative Service concludes that:

A cooperative is a voluntary contractual organization
of persons having a mutual ownership interest in
providing themselves a needed service(s) on a non-
profit basis. It is usually organized as a legal entity to
accomplish an economic objective through joint
participation of its members. In a cooperative the
investment and operational risks, benefits gained, or
losses incurred are shared equitably by its members in
proportion to their use of the cooperative's services. A
cooperative is democratically controlled by its
members on the basis of their status as member-users
and not as investors in the capital structure of the
cooperative. Il

Seven criteria resulted from the study that produced this definition. They are summarized as follows:

1. The basic purpose of cooperatives is to render economic benefits to members.

2. Cooperatives are organized around the mutual interest of members.

3. Risks, costs, and benefits are shared "equitably" among members.

4. Cooperatives are nonprofit enterprises in the sense that they are organized for the economic benefit of members as users of the cooperatives' services and not to make profits for the cooperatives as legal entities or for their members as investors.

5. Cooperatives are democratically controlled.

6. Members of cooperatives have an obligation to patronize their cooperative.

7. Cooperatives do business primarily with members.

Taken together, these seven criteria distinguish the cooperative from other forms of enterprise. They outline an interrelated set of operating guidelines that cooperatives should use to successfully achieve economic objectives for their members. Failure to follow one or more of these criteria weakens the others.

Savage and Volkin, Cooperative Criteria, FCS Service Report 71, Farmer Cooperative Service, U.S. Dept. Agr. (1965).

This is particularily true with respect to democratic control, mutuality of interest, equitability of treatment, and the nonprofit nature of cooperatives.

To strengthen the effectiveness of these criteria, many cooperatives have strict operating procedures implemented by bylaw provisions that define membership eligibility standards; establish democratic procedures for selecting and electing directors to ensure control by active members; provide for the mandatory sharing of benefits on the basis of patronage; prohibit conflicts of interest; and otherwise establish rules peculiar to their particular type of operation that have the support and acceptance of members of these cooperative criteria.

The mere establishment of these rules does not, of course, guarantee the cooperative character of an organization. Actual performance in accordance with the spirit as well as the letter of the rules remains, in the final analysis, the ultimate test of an organization's status as a cooperative.

Cost Basis Principle

Basic to all these definitions is the principle of operation on a nonprofit basis. This fundamental concept is sometimes expressed simply as operation at cost, emphasizing the absence of entrepreneur profit.

The term entrepreneur profit "really represents the antithesis of the benefits accruing to cooperatives, because in its formal economic sense it represents a return for a speculative risk in contrast with a return for the use of labor or capital."12 This operating principle is further emphasized with the reminder that the "members of a cooperative assume the economic risks and contemplate no speculative return for them. Cooperatives often provide for a return for the use of capital, and even for the risk of loss of capital, but do not provide for an additional return on capital based on the potentialities or the actualities of successful operation."

Moreover, the principle of doing business on a "cost basis" involves these concepts: (1) that under the contract between a properly organized cooperative and its patrons the amounts received by the cooperative in excess of operating costs and expenses during an accounting period belong to the patrons, and

12 Packel, The Organization and Operation of Cooperatives, 4th ed., American Law Institute (1970), p. 3.

(2) that, accordingly, the cooperative, as a legal entity, cannot have entrepreneur profit insofar as the amounts covered by the contract are concerned. This is in contrast to the status of such amounts in a profit corporation where they are received free of any such obligation and are subject to the control of management as to their disposition after they have accrued. Hence, these amounts are profit to the corporation.

Cooperatives deliberately try not to use the term "profit" to describe the amounts received by them in excess of expenses, preferring instead to use such terms as "net margins," "net savings," or "capital." This careful use of terminology stresses the need to avoid terms that can be misleading. At the same time, however, many courts, legislatures, and writers regrettably have not recognized this need for precise terminology. Accordingly, the reader may find the word "profit" misused in quoted material. Even in the present text the term "profit" will appear where it seems necessary to explain a particular provision of law or a court's holding.

A marketing or farm supply association of farmers is a private enterprise business organization for the financial advantage of its member-patrons. Few cooperative associations would be formed if it were not believed that they would benefit their members. They are usually formed for the same reasons as other business enterprises, with the exception that financial benefits accrue to the patrons, whereas in other businesses they accrue to those who have invested their money in the business.

Working capital and adequate financial resources are as essential for a cooperative as for any other business. 13 The amount required depends upon the character of the cooperative's business and the scope of its plans.

In their relationship with their cooperative, producers may be shareholders or members, patrons, or suppliers of capital. The patron relationship may create the legal relationship of creditor or debtor.

Cooperatives formed for the marketing of farm products or for the purchase of farm supplies, or both, are a vital part of the business economy of this country. Their purpose is to engage in

13 Evans and Stokdyk, op. cit. supra, footnote 7, p. 163; Engberg, Financing Farmer Cooperatives, Banks for Cooperatives (1965); and Griffin and Wissman, Financial Structure of Farmer Cooperatives, Research Report 10, Farmer Cooperative Service, U.S. Dept. Agr. (1970).

business activities incident to the marketing of products of members or the acquisition of farm supplies for them. The foundation and framework of a farmer cooperative and all its methods and plans are for the purpose of aiding those producers who have united or who may unite in the enterprise to conduct it along sound, successful business lines. Obviously, agricultural producers have the right to market their own products in raw or processed form through their own agencies.

The opposition which those concerned with the formation of agricultural cooperatives have encountered has been judicially recognized. In one case, it was said:

The successful establishment of these associations has
been attended with many obstacles. Those with whom
such associations come in competition have been
resourceful and active. They have appealed to the
guilelessness and cupidity of the members, with a view
of breeding dissatisfaction on their part with the
association and inducing them to breach their
contracts. 14

Organization of Cooperatives

Although forms of organization vary, a few well-recognized principles distinguish the cooperative from other business organizations.

The cooperative character of an association does not depend on whether it is formed with or without capital stock. Either type of association may be thoroughly cooperative if properly organized and operated. Likewise, the presence or absence of capital stock does not determine whether a corporation is formed for the profit of its owners or the benefit of its patrons. How the enterprise functions decides that.15

An association does not cease to be cooperative because interest is earned on its capital reserves, or because its money is

14 Watertown Milk Producers' Coop. Association v. Van Camp Packing Co., 199 Wis. 379, 225 N. W. 209, 226 N.W. 378, 77 A.L.R. 391 (1929).

15 Celina & Mercer County Telephone Company v. Union-Center Mutual Telephone Association, 102 Ohio St. 487, 133 N.E. 540, 21 A.L.R. 1145 (1921); Read v. Tidewater Coal Exchange, Inc., 13 Del. Ch. 195, 116 A. 898 (1922). See also Mississippi Valley Portland Cement Co. v. United States, 408 F. 2d 827 (5th Cir. 1969), affirming 280 F. Supp. 393 (S.D. Miss. 1967); Etter Grain Company v. United States, 331 F. Supp. 283 (N.D. Tex. 1971), affirmed, 462 F. 2d 259 (5th Cir. 1972).

prudently invested when not required for the normal operations of the cooperative. To hold otherwise would penalize thrift and good business management. In a case involving a mutual insurance company, 16 the court held that "A mere incidental profit earned by way of interest on its invested safety funds, or on its bank balances does not change the purely mutual character of the company or indicate that its business, though thus earning a profit, is 'carried on for profit.'"

The character of a corporation is determined by its functions and how they are performed. Thus, a corporation may be entirely cooperative, although incorporated under a business corporation statute.17

Although neither the members nor the stockholders of a cooperative are ordinarily liable for its debts, they may enter into contracts to furnish the association with money or other property for its use. 18

Substantial equality among the producer-members of a cooperative, with respect to its affairs, is fundamental. The one-man, one-vote principle is generally accepted by cooperatives, but it is not indispensable. Sometimes equality among members in the capital-stock form of cooperative is furthered by limiting the number of shares a producer may own. Such limitations on stock ownership usually do not exist in other business corporations in which, from a legal standpoint, a shareholder may own any available number of shares. Generally, even in capital-stock cooperatives, the shareholders are restricted to one vote each, regardless of the number of shares of stock owned. The dividend rate on the stock or membership capital of cooperatives is restricted to what is considered a fair rate of interest. This restriction, too, nor

16 Niles v. Central Manufacturers' Mutual Insurance Company, 252 F. 564 (6th Cir. 1918). See Trinidad v. Sagrada Orden de Predicadores, 263 U.S. 578 (1924); Santee Club v. White, 87 F. 2d 5 (1st Cir. 1936); Koon Kreek Klub v. Thomas, 108 F. 2d 616 (5th Cir. 1939). But see West Side Tennis Club v. Commissioner, 111 F. 2d 6 (2d Cir. 1940).

17 Allen v. Llano Del Rio Co. of Nevada, 166 La. 77, 116 So. 675 (1928). See State v. Sho-Me Power Co-op, 356 Mo. 832, 204 S. W. 2d 276 (1947). A number of well-known agricultural cooperatives have been organized under general incorporation acts. United Cooperatives, Inc., 4 T.C. 93 (1944), involved such a cooperative incorporated in Indiana under an Act entitled "An Act Concerning Domestic and Foreign Corporations for Profit." See also footnote 15, supra. 18 Farmers' Cooperative Union of Lyons v. Reynolds, 127 Kan. 16, 272 P. 108 (1928).