Cooperatives are the original social enterprise business model and Colorado is emerging as the “Delaware of cooperative law,” thanks in no small part to limited cooperative associations (LCAs), authorized by C.R.S. Title 7, Article 58. The limited cooperative association is a relatively new entity type, adopted in Colorado in 2010. It offers a balance of flexibility, self-determination, cooperative identity and fundamental protection for the cooperative principles and economic structure. As of 2017, LCAs can also elect the protections and privileges of the Colorado Public Benefit Corporation Act.
LCA’s, like traditional cooperative corporations, are for-profit member-owned business structures that also subscribe and adhere to seven widely recognized cooperative principles.
The cooperative and LCA model leverage certain unique theoretical and empirically proven advantages (see references one, two, and three), including:
- Stickier relationship between user-customer-members and platforms
- Greater user trust, based on data protection, user-member centricity
- Higher success rate (lower failure rate) over long-term
- Higher customer retention rate when ownership is shared
- More resilient business models through economic cycles
- Lower workforce attrition rates and higher employee morale
- More stable governance
- Alignment of interest between members and investors
- Tax efficient as primarily pass-through entity for tax purposes
- Leadership focused more on producing long-term value to co-op’s various stakeholders
- Distributed capital and equity base creates motivated network of user-members
- Stabilize and increase positive economic impact in communities
- More transparent and democratic decision-making processes de-risks strategic maneuvers
- Longer-term horizon and non-liquidity based options available for equity redemption and planning purposes
Investments and ROI
Like traditional corporations, public benefit corporations, or LLC’s, LCA’s can generate returns for investors. LCA’s operate with pluralistic purpose, for the benefit of members, to generate a profit, and to tend to the interests of other stakeholders, including investors. LCA’s distribute profit to their members on the basis of “patronage”; the value of goods or services contributed to or purchased from the LCA, and to investors based on the relative amount invested. Subject to certain limitations, LCA’s can generate returns for investors based on profitability, distributions on profitable asset sales, refinancing, or through a liquidity event. LCA’s, as member-owned and democratically-governed entities, seek to grow and operate sustainably for the benefit of their members, and thus do not set out with the objective of demutualizing or undergoing a liquidity event. Consequently, the primary mechanism for generating a return on investment is through sustainable operations and profitability.
Traditional and mature cooperatives have tended to finance operations and growth using a preferred share that earns a target, non-cumulative, non-guaranteed dividend over a minimum holding period of between five to ten years.
More recently, multi-stakeholder start-up LCA’s have been using revenue-based financing mechanisms to raise capital, offering investors a return of up to a multiple of 1-5x the original investment, or a fixed percentage of profit for a fixed duration of time. Once the cap is reached, the shares are treated as automatically repurchased. These instruments are sometimes called demand dividends. Even Silicon Valley and New York VC’s are catching on to revenue-based financing and alternative business models as a way of helping to build a more sustainable and healthy business.
Non-exhaustive list of examples of seed-stage investment terms based on recent offerings.
|Equity equivalent investment type:||“Capped Return, Self-Redeeming”||“Profit Share, Self-Redeeming”||“Hybrid Profit Share – Capped Return”||“Target Dividend”|
|Original investment (e.g.)||$500,000||$500,000||$500,000||$500,000|
|Return||3x cap, no pre-set profit allocation||X% of profit for 5-years.||Greater of Cap or X% of profits for 5-years, with true-up within 90-days of 5-year anniversary||Target 5-8% annual dividend (non-cumulative)|
|Liquidity||Priority distribution of Cap, less prior distributions before any distributions to members||X% of positive proceeds after debt.||Greater or Lesser of Cap or X% of positive proceeds after debt.||Priority distribution of original purchase price plus declared but undistributed dividends.|
|Redemption||Automatically redeemed at Cap||Automatically redeemed as of 5-year anniversary, subject to true-up||Put option at 5-year anniversary. Call option by Cooperative at any time.|
|“Bandwidth” for realized ROI||Discretionary cash flow||X% of profit||Greater of discretionary cash flow or X% of profit||After-tax net income|