the capitalization of cooperatives november 18th, 2005

THE CAPITALIZATION OF THE CAPITALIZATION OF COOPERATIVESCOOPERATIVES

November 18th, 2005November 18th, 2005

This document has been produced with the cooperation of This document has been produced with the cooperation of the following organizations:the following organizations:

Investment QuébecInvestment QuébecLa Caisse d’Économie solidaire DesjardinsLa Caisse d’Économie solidaire DesjardinsFondactionFondactionFilactionFilactionLe Réseau d’investissement social du QuébecLe Réseau d’investissement social du QuébecMCE ConseilsMCE Conseils

This presentation was made at the CWCF 2005 Congress held This presentation was made at the CWCF 2005 Congress held in Montréal. A complete publication of the text will be shortly in Montréal. A complete publication of the text will be shortly available through Investment Québecavailable through Investment Québec

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PLAN – NOVEMBER 18th, 2005PLAN – NOVEMBER 18th, 2005

Introduction Why capitalization is important? What is capitalization? The advantages of a good

capitalization How to build a good

capitalization in enterprises? The capitalization plan Conclusion

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INTRODUCTIONINTRODUCTION

The capitalization is an essential element to strength, development and sustainability of all kinds of enterprises, whether they are enterprises with share capital or of social economy. The capitalization allows the enterprise to achieve, develop and sustain its operating activities.

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WHY CAPITALIZATION IS IMPORTANTWHY CAPITALIZATION IS IMPORTANT

To operate, the cooperative needs assets as equipment, accounts receivable, inventories, etc. To do so the cooperative incurs commitments towards its users, workers, members and financial partners.

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WHY CAPITALIZATION ISWHY CAPITALIZATION ISIMPORTANT IMPORTANT (cont.)(cont.)

For the financial partners, the capacity of the enterprise to meet its financial commitments is an essential factor. The generated funds should be sufficient to face these following elements:

Reimbursement of capital on the debt

Replacement of current assets

Purchase of new fixed assets

Buyout of social and privileged shares

Need for working capital required for development

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WHY CAPITALIZATION ISWHY CAPITALIZATION ISIMPORTANT IMPORTANT (cont.)(cont.)

The capitalization of the enterprise is the most secure way to face these commitments and the most direct way to increase the enterprise’s capacity to make its own choices and maintain its operating autonomy.

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WHAT IS CAPITALIZATIONWHAT IS CAPITALIZATION

The capitalization is the financial patrimony of the enterprise and is constituted of:

Amounts invested by the members

The accumulated surplus proceeding fromoperations

These contributions provide a real capitalization which is mostly free of reimbursement commitments and of a specific return on investment without condition.

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WHAT IS CAPITALIZATION WHAT IS CAPITALIZATION (cont.)(cont.)

The more the enterprise is financed by capitalization, the less it gets commitments towards financial partners and the more it controls its strategic choices. Besides, its financing is less constraining and costly.

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Then, some financial partners are able to provide enterprises with patient capital: “quasi-equity”. It is based on flexible conditions of reimbursement, but with a cost. The capitalization generated by the cooperative will allow reimbursing this patient capital on time.

WHAT IS CAPITALIZATION WHAT IS CAPITALIZATION (cont.)(cont.)

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THE ADVANTAGES OF A GOOD THE ADVANTAGES OF A GOOD CAPITALIZATIONCAPITALIZATION

The main advantages of a good capitalization are financial and strategic and help the enterprise to: Ameliorate its financial viability:

The enterprise is able to absorb the unpredicted events which could reduce its capacity to generate surpluses such as:

Reduction of the incomes

Arrival of a new competitor which affects theenterprise’s operations : reduction of quantities and/or selling price or increase of costs; example: improvement of the after-sales service

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THE ADVANTAGES OF A GOOD THE ADVANTAGES OF A GOOD CAPITALIZATION CAPITALIZATION (cont.)(cont.)

Increase of costs which can not be rapidly absorbed equivalent by the increase of incomes (example: raising of prices of the raw materials)

Meet its financial commitments such as:

Reimbursement of capital of its debts

Refunding of quasi-equity

Buyout of the shares of members who leave

Replacement of fixed assets in order to maintain the capacity to develop products and services

Need of working capital in a context of growth

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THE ADVANTAGES OF A GOOD THE ADVANTAGES OF A GOOD CAPITALIZATION CAPITALIZATION (cont.)(cont.)

Seize opportunities such as:

Launching of a new product of service

Acquisition of assets

Other advantages are also important :

Increase of liberty of action and autonomy which allow the enterprise to negotiate with its financial and governmental partners

Real concretization of the cooperative mission Reduction of the financial cost

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IN SUMMARYIN SUMMARY

CAPITALIZATIONIncrease the capacity to

negociate with partners

Increase the capacity to solve operations problems

Increase the capacity to fulfill its mission towards users, members and the partners

Increase the capacity to replace the enterprise

assets

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HOW TO BUILD A GOOD HOW TO BUILD A GOOD CAPITALIZATION IN COOPERATIVESCAPITALIZATION IN COOPERATIVES

Cooperatives are able to find financing from many sources: from its operations and other financing activities. Some of them are temporary and do not contribute to the strength of the enterprise, others are constructive solutions for the future.

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IConstruction of the

contribution

IVManagement of

liquidities

IIIManagement of

operations

IIFinancing and

investment policy

Contributions of members Common or priviledged shares

Contribution of organizations Privileged shares Immobilization grant Fund-raising campaign Sponsorship

CAPITALIZATIONCAPITALIZATION

Choice of profitable project to realize

Choice of the financing modeDebt/equity

Fast collect of accountsOptimal use of the inventory

More liquidities available and less financial feesLess loss of inventory

Improve gross margins

Control of costs

Increase ofsurpluses

Policy ofdistribution

Output to contributors

(workers, members and users)

Determine the needs of

capitalizationThe capitalization

supports the investment policy

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HOW TO BUILD A GOOD HOW TO BUILD A GOOD CAPITALIZATION IN COOPERATIVES CAPITALIZATION IN COOPERATIVES (cont.)(cont.)

CONSTRUCTION OF CONTRIBUTIONS OF MEMBERS OR ORGANIZATIONS

As of its starting, the enterprise has to foresee the mechanisms of capitalization thanks to the contribution of members or organizations operating in its community.

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I. THE CONTRIBUTION CAN COME FROM SEVERAL SOURCES :

Growth of the capital of members Recruitment of new members who

acquire shares Growth of capitalization for all members

Fund-raising campaigns

Grants for assets financing Sponsoring development

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II. FINANCING AND INVESTMENT POLICY

The chosen projects have to be profitable and should protect its level of capitalization in the medium term by determining:

To do so the cooperative should make an accurate analysis of the projects:

Correlation of the project with the mission of the enterprise

Demonstration of capacity of growth or reduction cost Generation of supplementary surpluses

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II. FINANCING AND INVESTMENT POLICY

Have an equilibrated financing policy Part of financing coming from the debt Part of financing coming from the equity

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III. MANAGEMENT OF OPERATIONS

The management of operations aims at generating surpluses and improving margins (by rising incomes and controlling costs). If the surpluses are not distributed, they contribute to the capitalization.

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IV. MANAGEMENT OF LIQUIDITIES

For example :

Fast process of invoicing and fast collect of accounts receivable (reinforce the cash on hand and reduce the financial fees of line of credit)

Reduce the inventory (reduce the operational costs and generate liquidities)


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POLICY OF DISTRIBUTION AND ASSIGNMENT OF THE GENERATED SURPLUSES

The enterprise defines a policy of distribution of surpluses which should be balanced between the following elements:

The part destined to assets (growth)

The part destined to the reimbursement of detb

The enterprise has to hold a significant share of the surpluses for its capitalization

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THE CAPITALIZATION PLANTHE CAPITALIZATION PLAN

To carry out the objectives of capitalization the best way is to build a long-term capitalization plan so as to spread out the build up of the capitalization in time to ensure the financial safety.

Here are the steps necessary before determining the objective of capitalization:

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THE CAPITALIZATION PLAN THE CAPITALIZATION PLAN (cont.)(cont.)

I. Know the enterprise and its environment

Before settling an objective of capitalization, the environment in which the enterprise evolves must be evaluated. The more the environment is risky (in which changes are important and abrupt), the more the required rate of capitalization must be high.

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II. Know its needs in future investments

The capitalization objective to reach is not static.

For example, the enterprise may have to reconsider completely its situation if its fixed assets must be renewed or it realizes an investment into a short-term project.

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III. How to achieve its objective of capitalization

Once the objective of long-term capitalization is settled, it is necessary to give oneself a plan over a few years with clear targets, observable and realistic, which is easy to follow and which should be ratified and followed by the board of directors.

A. Increase its surpluses

The cooperative must settle under-objectives regarding the level of profitability of the operations as well as funds search.

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B. Refund the loans

Often, the generation of surpluses denote improvements of the cash on hand. If this situation is observed on a rather structural basis, and if it is possible without harming its situation of working capital (short-term balance sheet), this cash on hand can be used to reduce the debt and thus increase the weight of its capitalization in a "reduced" balance sheet.

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C. Abandon unnecessary assets

The review of the assets is sometimes neglected by the enterprises but is useful to improve their rate of capitalization. They should examine the relevance to preserve them but especially check if their level is too high, and particularly the elements from the current asset of the working capital, such as the accounts receivable and the inventories.

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Elements to consider:

Receipt and disbursements from operations

Level of disbursements to refund the loans

Needs for renewal of the production equipment

Commitments towards members now and in the future

Choices to make:

Objective of capitalization in five years:

Envisaged incomes

Envisaged disbursements

Increase of the net worth in dollars Evolution of the debt rate (% debt on asset)

Vis-a-vis this objective:

Measures of capitalization coming from the members Objectives of capitalization coming from the operations (use of the surpluses) Objectives into the financing management Objectives of raising funds in the community Control and managements tools Follow-up plan (schedule, tasks)

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CONCLUSIONCONCLUSION

The cooperatives (like the others enterprises) lay emphasis on meeting their annual budget objectives. They also should provide themselves with long-term capitalization objectives:

Improve their capacity to absorb a sudden lower profitability due to important changes into their economic environment

Allow them to meet their financial obligations including the refunding of the patient capital, the replacement of the fixed assets and the refunding of the shares of members who leave

Seize opportunities to be able to consider projects of expansion and development

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CONCLUSION CONCLUSION (cont.)(cont.)

Important points:

The definition of the objective of long-term capitalization is crucial, as well as the definition of under-objectives regarding this following aspects:

level of profitability of the operations

funds search

refunding of debts

preservation of essential assets

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CONCLUSION CONCLUSION (cont.)(cont.)

These objectives must be established and integrated in the plan of capitalization.

The plan of capitalization must be adopted by the board of directors and is the subject of a periodic and rigorous follow-up.

The capitalization is the key to strength and sustainability of the enterprise in terms of liberty of action and capacity to innovate.

the capitalization of cooperatives november 18th, 2005

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