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There’s a new crowdfunding exemption in California that could be a game changer…

But hardly anyone knows about it!

As of January 2016, California allows worker cooperatives to raise capital from California residents and advertise directly to potential investors via the Internet. Thanks to AB 816, worker cooperatives are the only California business form that have a specific exemption from securities law for community investors.

NB: The AB 816 exemption is not the same as the JOBS Act exemption. The latter is a separate exemption at the federal level, administered by the SEC, which also went into effect in January. The AB 816 exemption is only for California companies, formed as worker cooperatives, and offered to California residents


In January 2016, a law went into effect creating a new type of corporation in California, the worker cooperative. Worker cooperatives, also known as employment cooperatives, are for-profit companies that are owned by their employees. Rather than distributing profits based on capital investment, worker cooperatives (like all cooperatives) distribute profits based on a member’s contribution to the cooperative. In a worker cooperative that means that profits are distributed based on a measure of each employee’s relative contribution of labor. This could be measured as an employee’s percentage of total labor hours performed or total salary earned in the prior year. Thanks to a special provision of the tax code, cooperatives are able to distribute these profits to their member-owners while avoiding double-taxation at the corporate level.

The new law is known as AB 816, the California Worker Cooperative Act. Governor Brown signed AB 816 into law in August 2015, and it became effective January 1, 2016. AB 816 amended the existing cooperative law to provide both an organizational framework for worker cooperatives and a pathway for these businesses to raise capital from their community.

Small Dollar Investors in Worker Cooperatives

AB 816 created a new category of investor for worker cooperatives. These community investors are outsiders, i.e. they don’t work for the cooperative, but they can invest up to $1,000 per person and they have have limited voting rights. The worker cooperative can advertise investment opportunities publicly, within California, and only to California residents, thanks to an existing exemption from the California securities law.

To allow worker cooperatives to offer investments to outsiders, AB 816 made significant changes to an existing securities exemption for cooperatives, found in Section 25100(r) of the Corporations Code. Section 25100(r) is an exemption from the California securities law for voting memberships or shares in cooperative corporations. The aggregate investment amount under this exemption used to be $300, but AB 816 increased it to $1,000 per shareholder. AB 816 also permits non-worker community investors to invest alongside worker-members, provided that they have limited voting rights. A worker cooperative utilizing the 25100(r) exemption must give community investors an approval vote over certain decisions specified in the law, which must be stated in the corporation’s articles or bylaws.

Typically the type of investment a worker coop would issue would be preferred, nonvoting shares with a target dividend rate. This is similar to what other worker coops are already doing with redeemable preference shares and preferred Class B shares.

By creating a balanced system in which community investors are permitted limited voting rights, AB 816 allows worker cooperatives to balance the need for outside capital with the need to preserve employee-owner control of the business. Now worker cooperatives can crowdfund for start-up or expansion capital from a wide pool of small investors.

This is not legal advice. It is for informational purposes only. The author was directly involved with drafting and passing this law

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Clinic Helps Co-ops Set Up Shop

Clinic Helps Co-ops Set Up Shop

Sushil Jacob ’11 knows how to make change happen. “If you want to start a movement, work with a Berkeley Law clinic,” he says.

As founding director of the Green-Collar Communities Clinic (GC3), Jacob pushed to help pass AB 816, the California Worker Cooperative Act, which took effect in January. The bill facilitates creation of employee-owned and operated businesses—and caps a two-year effort by GC3, the nation’s only law school clinic focused on cooperative enterprise.

Since launching in 2011, GC3 law clerks have introduced low-income communities to the benefits of co-ops through their Worker Co-op Academy and Think Outside the Boss workshops. They have also advised and supported new and existing co-ops, and provided valuable legal research and advocacy to help pass AB 816.

The bill provides a clear framework for the operation of worker-owned co-ops and eases barriers to raising investment capital within local communities. It also mandates that cooperatives have a class of worker-members—and that those members control the co-ops. It’s a big win, says Jacob, because co-ops support “lasting employment, sustainable business practices, and more resilient communities during economic downturns.”

One example of the potential impact of worker co-ops is a cleaning collective formed by primarily immigrant Latinas. In an industry where they’d be treated as under-the-table workers, Jacob says, “With minimal investment, they increased their bargaining power, increased wages, and invested profits into health insurance.”

After four-plus years guiding GC3, Jacob recently leveraged his expertise to form a co-op practice at the Tuttle Law Group. The clinic’s work continues under Jassmin Antolin Poyaoan.

—Rachel DeLetto

https://www.law.berkeley.edu/article/clinic-helps-co-ops-set-shop/

 

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Member Investment Shares- A Capital-Raising Strategy for California Cooperatives

Member Investment Shares- A Capital-Raising Strategy For California Cooperatives

Unlike investor-driven business structures, co-ops in California faced constraints in offering their member-owners the ability to make significant capital investments. Where investor-oriented firms attract financing through the sale of shares, with the promise of a financial return, cooperatives favor limited returns on investment.  This makes member investment, as a method of financing, relatively rare. Additionally, until January 2015 the California cooperative statute did not provide a clear mechanism for offering investment shares to Co-op members.

However, recent changes in California cooperative law and ongoing low interest rates make member financing a much more attractive strategy. Lower expectations of return on investment in general mean that a cooperative investment share can be competitive with other investments while still conforming to the traditional cooperative principle of limited financial returns. Additionally, the cooperative investment share structure provides several other tangible benefits to the cooperative and its membership. Potential problems in governance and operations can be addressed through carefully drafted bylaws and other safeguards.

Benefits of Member Investment

Build a strong equity position.

The main benefit in financing through member investment shares is that the cooperative is able to develop a stronger equity, as opposed to debt, position on its balance sheet. Member investment in the cooperative is not a loan from membership to the cooperative, instead the investment flows to the equity side of the balance sheet, making the cooperative’s financial position stronger. In contrast to a member loan program, member investments position the cooperative attractively to other lenders should the cooperative need to raise additional capital from traditional sources.

Keep dividends local.

A second benefit of member financing through investment shares is that it keeps the investment in the community. Rather than paying interest to a remote lender, as the cooperative would do with borrowed capital, dividends paid on member investment shares are paid to members, people who usually live in the local community. This multiplies the benefit as members can spend their dividend locally as well.

Deepen the members’ involvement in their coop.

A third benefit of member financing through investment shares is that members' relationships with their cooperative deepen as members make a financial commitment. Where they have financed the development of their cooperative, members become more involved in the governance of the organization and are more likely to patronize it.

Build a long-term commitment.

Finally, deepening members’ involvement makes the cooperative more sustainable in the long term. Where initial coop members form a cooperative to address a need, or a problem (e.g.: access to organic food, a stable job, or increased economic leverage), the cooperative may face a challenge to maintain ongoing relevance and members' enthusiasm once the initial problem has been solved and as the founders mature. For example, some of our more-established natural food cooperative clients have succeeded in completely changing the natural foods market and providing members with access to a vast array of previously unavailable products. Now, however, members have multiple natural foods options, including Whole Foods and Trader Joes. These potential competitors do not have the financial constraints of a cooperative in raising capital and can implement pricing strategies across multiple locations to create extreme price competition on a given cooperative location.

In order to stay relevant, and address the competition, the cooperative should consider additional investment from its members.  Where the members have made a substantial financial commitment to the cooperative as a business, member involvement with the cooperative's longer term financial viability increases. And it is this type of involvement that maintains "founder's enthusiasm" as the cooperative matures.

Addressing Potential Issues

Member investment is not without its risks, however. First, permitting member investors to vote their shares, as is the norm with investor-oriented firms, threatens the cooperative’s democratic one-member, one-vote structure.  Second, a member’s expectation of a return might create a tension with the other non-financial benefits of membership.  For example, consumers join a natural foods store because they want access to high-quality food and transparent pricing.  However, when a member is both an investor and a consumer, there is an inherent tension between the members’ primary and secondary benefits.  Is she primarily using the coop’s services for access to good food, or as a passive investment opportunity?

These two issues have the potential to endanger the cooperative’s original reason for existence.  Fortunately, cooperatives can employ various strategies to insure adherence to cooperative principles while enjoying the benefits of member financing. 

Most significantly, the cooperative should maintain a policy and practice of one member-one vote, regardless of the level of financial investment by any single member. Some cooperatives also insulate board members who have a financial investment from participating in certain decisions. Additionally, the cooperative should carefully structure any non-member investment to limit non-member participation to extreme circumstances such as demutualization.

The decision to invest in the cooperative for a financial return must always be recognized as a secondary benefit. The cooperative should always limit the return a member can receive on their capital investment. The cooperative should always attempt to pay investment dividends out of non-member sourced income to avoid any reduction in patronage distributions.

Financing a cooperative by member investment sustains the organization in furthering its goals and its financial health. Careful planning and adherence to cooperative principles of democratic control, one member-one vote and limited return on investment will insure that desire for financial returns don't overwhelm the original cooperative mission.

Member Investment Mechanics

Member investment shares are regulated securities. Where a member invests more than $1000.00 in the cooperative, the cooperative must qualify to sell the shares in the State of California through California’s Department of Business Oversight. It must also register with the SEC to sell the shares, unless it qualifies for an exemption.

How our law firm can help

Tuttle Law Group specializes in preferred share financing for California cooperatives. We have assisted our clients in developing significant member investment programs.
This is an advertisement. Past results are not a guarantee of future success. 
For more information on using preferred shares in your cooperative, contact us here

 

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