Gauging performance: an 'extra value' assessment of the nation's top 18 dairy co-ops, 1992-2012.
The equity retained by dairy cooperatives represents a substantial sum of the members' money and competes with the capital needed for members' farm operations. Therefore, the retained equity should not be regarded as free capital for the cooperative but should carry an "opportunity cost" that reflects the value of the capital in alternative uses. The opportunity cost is an interest charge on the equity at a rate equivalent to the amount the money could earn elsewhere.
If the cooperative's net savings exceed the opportunity cost of members' equity, it has generated "extra value" and enhanced the value of the equity for members. Conversely, a cooperative has diminished the value of the equity if it generates a negative extra value--members bear the opportunity cost of equity capital that is not fully recovered.
Calculating and analyzing such extra values generated by dairy cooperatives is the approach to measuring performance in this article. Extra value is defined as the surplus of a cooperative's net savings after accounting for the opportunity cost of equity capital.
For comparing performance among cooperatives, extra value can be made neutral to the scale and the mode of a cooperative's operation by expressing it as a percentage of operating capital. The resulting extra-value index shows the rate at which extra value was created, using the co-op's operating capital.
Operating capital is the sum of non-current assets and net working capital and, in the context of dairy cooperatives, is a more accurate measure of a dairy cooperative's scale of operation than is total assets. This is due to the way producer milk payroll is handled, which tends to inflate the current assets on the balance sheet.
Financial information on dairy cooperatives is from a data set maintained by the USDA Cooperative Programs for its annual financial analysis of Top 100 cooperatives. The time series of data covers three periods: 1992-1996, 2000-2004 and 2008-2012. In the 2008-2012 period, there were 18 dairy cooperatives (or their predecessor cooperatives) that had been continuously on the top 100 co-ops list since 1992. For comparing performance over time, the data of all the predecessor cooperatives were combined, as if they had already been consolidated into their respective successor cooperatives.
The interest rate for calculating the opportunity cost of equity is based on the respective year's December average LIBOR (London Inter-Bank Offered Rate) for U.S. dollar loans with a 12month maturity. Banks generally will extend loans to a firm with a better-than-average credit rating at an interest rate of about 200 basis points above the LIBOR.
Thus, the basic rate used to calculate interest on equity is "LIBOR+2%." In addition, "basic interest rate+5%" and "basic interest rate+10%" are also used in the analysis to account for risk premium of equity investment at 5 and 10 percent levels.
To avoid revealing identifiable proprietary data, the performance of the cooperatives is portrayed in three ways to form a composite picture for evaluation: performance categories, changes in performance indexes and performance rankings. To further maintain proprietary data confidentiality, the extra-value indexes used in the evaluation for each cooperative are 5-year averages for each of the three study periods; these represent the cooperative's average level of performance in the respective periods. Some information is lost because the averages gloss over intra-period performance variations.
Cooperatives are placed into four performance categories according to average extra values generated in the three five-year periods (table 1):
* Cooperatives that did not fully recover the opportunity cost of equity capital and did not generate extra value at basic interest rate: seven cooperatives in the first period; one each in the second and third.
* Cooperatives that generated extra values beyond the opportunity cost of equity capital at basic interest rate but short of reaching 5 percent risk premium: three cooperatives in the first period; eight in the second; and three in the third.
* Cooperatives that generated extra values beyond the opportunity cost of equity capital at basic interest rate plus 5 percent risk premium but short of reaching 10 percent risk premium: two cooperatives in each of the three periods.
* Cooperatives that generated extra values beyond the opportunity cost of equity capital at basic interest rate plus 10 percent risk premium: 6 cooperatives in the first period; 7 in the second; and 12 in the third.
Eleven cooperatives in the first period and 17 in each of the second and third periods generated extra values beyond the opportunity cost of equity capital at basic interest rates (performance Category II and higher). Most cooperatives shifted around different performance categories over the three periods. However, there were three cooperatives that remained in the top performance category (Category IV) throughout.
In the first period, performance Category I had the most cooperatives, seven in total. In the second period, performance Category II had the most, with eight. And in the third period, two-thirds (12) of all 18 cooperatives were in the top performance Category IV.
Changes in performance indexes
Successively lower level of interest rates over the three study periods presumably made achieving continuously higher extra-value indexes (EVIs) easier. However, only six cooperatives improved their EVIs from the first to the second period and then to the third period.
Five cooperatives improved their performance indexes from the first period to the second, but the performance indexes turned lower from the second period to the third. Conversely, the performance indexes of another six cooperatives declined from the first period to the second, but improved from the second period to the third. One cooperative's performance indexes declined continuously through time.
Cooperatives are ranked according to their performance measures (EVIs) for the three study periods. For convenience of presentation, the 18 performance rankings are divided into three groups of equal number, 6 each: ranks 1 to 6 are the first ranking group, ranks 7 to 12 are the second ranking group, and ranks 13 to 18 are the third ranking group (table 2, column 1). Cooperative codes are assigned according to a cooperative's ranking by EVI, using the basic interest rate for the 1992-96 period (table 2, column 2). Therefore, initially, cooperatives are grouped following the performance ranking grouping: cooperative Nos. 1-6 are in the first ranking group (shaded in green for easier visual identification), cooperative Nos. 7-12 are in the second ranking group (in yellow), and cooperative Nos. 13-18 are in the third ranking group (in red).
Performance ranking shows a cooperative's efficiency in using operating capital to generate extra value relative to one another, given that all cooperatives operate in the same economic environment and market conditions. The rankings are particularly useful for comparing cooperatives that are in the same performance category, such as for the third period where performance Category IV has 12 cooperatives (table 1; the same 12 top-ranked cooperatives in table 2, column 10). The rankings of these 12 cooperatives are very different from their initial performance ranking sequence.
By the end of the third study period, performance rankings of the cooperatives had spread out from their original standings:
* The six initially top-ranked cooperatives (shaded in green) saw three of their peers remain in the first ranking group, while two dropped to the second ranking group and one was further down in the third ranking group.
* The cooperatives in the initial second ranking group (in yellow) had one cooperative elevated to the first ranking group, three stayed in the second ranking group, and two fell to the third ranking group.
* Two of the six cooperatives that were initially in the lowest ranking group (in red) rose to the first ranking group, and one moved to the second ranking group, although three still remained in the third ranking group.
In the interim years between the first and the second periods, 12 cooperatives underwent structural changes to form 4 successor cooperatives, and between the second and the third periods, 4 cooperatives underwent structural changes to form 2 successor cooperatives. In the period immediately following the respective structural changes, 4 out of the 6 successor cooperatives actually did perform better than the sum of their respective predecessor counterparts. (Further detailed analysis is necessary to determine what factors, or what post-merger/consolidation measures the surviving cooperatives undertook, made the improvements possible.)
Scale of cooperatives and performance
For comparing the performance of cooperatives of different scales, the weighted averages and the simple averages of performance indexes of the 18 cooperatives were calculated. The weighted averages are heavily influenced by the performance of larger scale cooperatives, while the simple averages give an equal weight to each cooperative regardless of scale.
Comparisons between weighted-average performance indexes and simple averages indicate that at least some of the larger scale cooperatives did not perform as well as the rest of the cooperatives in all three periods (table 3). Some of the larger scale cooperatives also relied more on debt and less on equity than the rest of the cooperatives to finance their operations, as shown by the differences between the weighted-average equity shares of the operating capital and the simple averages. But these cannot be generalized to conclude that larger scale dairy cooperatives always perform better or worse than smaller scale ones.
Cooperatives' performance changed substantially over time as well as relative to one another, reflecting the challenges of operating in the dynamic dairy industry over the past two decades.
Performance did improve for the majority of the surviving cooperatives of mergers and consolidations, at least initially. In the time periods under consideration, larger was not necessarily better, as at least some of the larger scale cooperatives did not perform as well as the rest of the cooperatives. To finance their operations, some of the larger scale cooperatives also relied more on debt and less on equity than the rest of the cooperatives.
Some words of caution are in order regarding measuring cooperative performance. A cooperative is a membership organization as well as a business entity. It has to achieve its business goals but also has to satisfy its members' objectives. Besides expecting good returns by marketing milk through the cooperative, dairy farmers also look to the cooperative to provide many other services to help sustain their farming operations. The benefits of providing such member services may not be fully measurable and thus may not be fully reflected in the financial statements.
The board and members should be cognizant of the value of such benefits, in addition to financial returns, when evaluating their cooperative's performance. They should also take their cooperative's pricing policies into consideration, because the distinction between a cooperative's milk pay prices and net savings is not clear-cut. In the end, there is no substitute for a well-informed membership and a vigilant board that understands the complexity of operating a cooperative to adequately oversee its operations and satisfy members' expectations.
This article includes highlights from a forthcoming report, "Performance of the Top 18 Dairy Co-ops, 1992-2012," USDA Cooperative Programs Research Report 232. The full report will soon be posted on the USDA website at: www.rurdev.usda.gov/ BCP_Coop_LibraryOfPubs.htm.
By K. Charles Ling, Agricultural Economist
Table 1--Categories of dairy cooperative performance based on average extra values generated in the three 5-year periods Performance First Period Second Period Third period category (1992-96) (2000-04) (2008-12) I. 12, 13, 14, 15, 11 15 Cooperatives 16, 17, 18 that did not fully recover the opportunity cost of equity capital and did not generate extra values at basic interest rate II. 9, 10, 11 6, 10, 12, 13, 12, 13, 16 Cooperatives 14, 15, 16, 17 that generated extra values beyond the opportunity cost of equity capitals at basic interest rate III. 7, 8 3, 9 5,10 Cooperatives that generated extra values beyond the opportunity cost of equity capitals at basic interest rate plus 5% risk premiums IV. 1, 2, 3, 4, 1, 2, 4, 5, 1, 2, 3, 4, Cooperatives 5, 6 7, 8, 18 6, 7, 8, 9, that 11, 14, generated 17, 18 extra values beyond the opportunity cost of equity capitals at basic interest rate plus 10% risk premiums Table 2--Rankings by extra-value indexes (EVIs) based on the respective averages for the three 5-year periods 1992-1996 EVI EVI EVI Rank (Basic) (Basic+5%) (Basic+10%) # Cooperative standing in the ranking shown by cooperative code (1) 1 1 1 1 2 2 2 2 3 3 3 3 4 4 4 4 5 5 6 6 6 6 5 5 7 7 7 8 8 8 8 7 9 9 9 9 10 10 10 10 11 11 12 12 12 12 11 13 13 13 13 11 14 14 15 15 15 15 16 16 16 16 14 18 17 17 18 17 18 18 17 14 Column 1 2 3 4 2000-2004 EVI EVI EVI Rank (Basic) (Basic+5%) (Basic+10%) # Cooperative standing in the ranking shown by cooperative code (1) 1 1 1 1 2 2 2 2 3 7 7 8 4 5 8 7 5 5 4 6 4 4 5 7 9 9 18 8 18 18 9 9 3 3 3 10 14 13 6 11 17 6 13 12 13 15 15 13 16 16 16 14 6 14 17 15 10 17 10 16 15 10 14 17 12 12 12 18 11 11 11 Column 1 5 6 7 2008-2012 EVI EVI EVI Rank (Basic) (Basic+5%) (Basic+10%) # Cooperative standing in the ranking shown by cooperative code (1) 1 1 1 1 2 7 17 17 3 17 7 7 4 3 3 3 5 14 14 2 6 2 2 14 7 11 11 11 8 8 8 8 9 4 4 6 10 6 6 4 11 18 18 18 12 9 9 9 13 5 5 10 14 10 10 5 15 12 12 13 16 13 16 16 17 16 13 12 18 15 15 15 Column 1 8 9 10 (1) Co-op codes are assigned according to a co-op's ranking by EVI using the basic interest rate for the 1992-96 period (column 2). Co-ops Nos. 1-6 are shaded in green, Nos. 7-12 are in yellow, and Nos. 13-18 are in red for easier visual identification to show how co-ops shifted their relative rankings over time. Table 3--Performance of 18 dairy cooperatives as a group, 5-year average extra-value indexes (EVIs) and equity share of operating capital Period EVI EVI EVI Equity share (i=basic) (i=basic+5%) (i=basic+10%) of operating capital ... Percent ... Weighted Averages 1992-96 3.9 0.4 (2.9) 68 2000-04 3.2 0.5 (2.2) 54 2008-12 5.6 2.9 0.2 54 Simple Averages 1992-96 9.0 5.2 1.6 74 2000-04 9.2 5.6 1.9 73 2008-12 10.4 7.1 3.8 66
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|Author:||Ling, K. Charles|
|Date:||Nov 1, 2014|
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