Canada: The 50% Rule And Ontario Co-operatives

Last Updated: April 2 2012
Article by Ian D. Shewan

Originally published in Ontario Co-op e-newsletter, March 5, 2010

Ontario's Co-operative Corporations Act, as with other legislation that defines co-ops, attempts to balance the business and social objectives of co-ops by providing certain definitions and limitations on how co-ops are structured and operate.

One requirement in the Act is for a co-operative to do the majority of its business (at least 50%) with its members. This requirement, often called the "50% Rule," does not exist in co-op law for other Canadian provinces and territories, with the exception of a more limited restriction in the Quebec co-op legislation.

The definition of "business" depends on the type of co-operative. If the co-op is created to sell goods or services to its members, as in a housing co-op, a child care co-op or grocery store, for example, the "business" is the sale of those goods or services and so the co-op would have to provide a minimum of 50% of those goods or services to the co-op members. On the other hand, if the function of the coop is to buy goods or services from its members and process, market and sell them to the general public (which is what happens in producer co-operatives like Gay Lea Foods and Organic Meadow), then the "business" is the purchase of goods or services from its members and the co-op must make sure to buy a minimum of 50% of the goods or services from its members rather than outside sources.

This requirement was created to recognize that, because co-operatives are formed to meet the needs of members, the majority of co-op business must also be done with their members – otherwise they are effectively no different from a business corporation.

If a co-op fails to meet the 50% threshold over a three-year period, the co-op sector regulator, FSCO, can penalize the co-op by removing their cooperative status and turning them into a business corporation. There have been sectors of the co-op movement that believe this restriction hampers the financial viability and success of the co-op. They have also indicated that some co-ops cannot effectively meet the needs of its members if their business functions are limited this way, and that the rule should be changed or removed.

There are other parts of the co-op movement that believe that the restriction for co-ops to do business with members is an essential part of the co-operative identity, and that without this requirement, co-ops will not be different enough from other forms of enterprise.

Although both opinions are present in the co-op movement in Ontario, it is not clear if there is a majority opinion for either side of this argument. It is also not clear what the impacts of changing the rule might be on different co-op sectors or for the movement as a whole. Two members of the On Co-op Regulations Working Group, Larry Sadler and Ian Shewan, have provided articles that outline positions on either side of the issue as a way to start a discussion about the 50% Rule and its future in Ontario.

ARGUMENTS TO RETAIN THE 50% RULE FOR CO-OPERATIVES IN ONTARIO

By Larry Sadler, Ontario Natural Food Co-op

Introduction

The 50% rule has been in place in Ontario legislation for over 35 years. Quebec has variations of this rule and categorically rejects abandoning it. Any disadvantages from the rule should have been apparent long before now. However, it is still open whether arguments of future disadvantage(s) can be made.

Where such case evidence can be offered, it is in the sector's interest to openly address these developments to see where the case evidence points to real problems. From that point, the sector can consider where the win-win solutions exist rather than simply eliminate a fundamental aspect of co-operative legislation to the loss of the merits it continues to provide to the sector.

The 50% rule explicitly defines one of the essential differences between a co-op and a conventional business. Loosing this rule implicitly allows a small number of "members" to gain economic advantage to the exclusion of a large number of naive "non-members". This is the injustice of exploitation. It is essentially the definition of a conventional corporation and therefore contradicts the premise of a cooperative doing business with its owners and violates the First co-operative Principle of Open and Voluntary Membership.

(http://www.ica.co-op/ica/info/enprinciples.html)

The philosophical argument

A fundamental feature of both the co-operative legacy and the co-operative structure is a group of people creating a business to serve their shared interests. This is manifest in the principle that a co-operative does business with its members. The limit of maintaining this essential aspect is a co-operative conducting a minimum of 50% of its business with its members. A co-operative doing business with a member sales ratio ranging below 50% is progressively becoming the structure completely analogous to a conventional corporation - a company owned and controlled by a few serving a large customer base isolated from both the control and the rewards of business success. Thus the 50% rule is the demarcation between the structural limit of a true co-operative and the beginning of a shell cooperative effectively operating as a conventional corporation. The co-operative Principles of Democratic Control and Open Membership are both denied when the Member Sales Ratio falls below 50%.

The practical arguments

When a loyal member sees his or her co-op move down the slippery slope of being "just another business", what avenues are available to counter this destructive trend? The 50% rule is not only theory, it is real. ONFC is a perfect example of how the existence of the rule saved ONFC twice from the erosion of the pure business mindset in the early 1990's and the late 1990's. Respecting the 50% rule resulted in enhancing our co-operative strengths and values.

The position paper referenced by the link elsewhere on the On Co-op website details rebuttals to various assertions made in support of removing the 50% rule. A key fact is that Ontario has the lowest participation rate of co-operative and credit union membership per capita in Canada. It is important that the business only mindset prevalent in Ontario does not destroy the co-operative advantage and the co-operative model alternative from within the sector, let alone the pressures from outside the sector.

Summation

The Rochdale legacy was born out of collective economic strength to resist and coexist with exploitive pure capital based enterprises. A constant differentiating theme from the history of co-operative success has been equality and fair play. The 50% rule embodies all this history without jeopardizing the future of the co-operative sector as it is flexible enough to grow and adapt to changing times without abandoning the essential elements of its roots.

From graduation with a BBA and MBA from Wilfrid Laurier University, Larry Sadler has been involved virtually continuously in many positions within the Ontario co-operative sector. These roles range from a field consultant in NW Ontario for the Ontario Cooperative Development Association to a member of the founding Board of the Ontario Co-operative Association and currently as member of the Working Group subcommittee of the Government Relations Committee of On Co-op in addition to his current position as IT Services Manager with ONFC. His specialties are finance, computer systems, management systems, strategic planning, and governance. ls@onfc.on.ca

MAY THE 50% RULE REST IN PEACE

By Ian D. Shewan, Lerners LLP

The time has come to repeal the 50% Rule (the "Rule"). The Ontario Legislature took a step in this direction by exempting renewable energy co-operatives from the application of the Rule. In so doing the Legislature recognized that if they did not act, the Rule would effectively prevent renewable energy co-operatives from existing in the Province.

I believe the Rule is a major impediment to the growth of co-operatives in this Province and that its repeal would be beneficial to the sector, not just renewable energy co-operatives. Here are some reasons why the Rule needs to go:

1. Why 50%?

What makes a co-operative that does more than 50% of its business with members a co operative? Why not 100%? How about 75%? A percentage is arbitrary. I submit the essence of being a co operative is not who you do business with, but how you do business. It is the desire of members to be governed by the one member, one vote, distribution of patronage and other principles that are fundamental to co operatives.

2. Compliance is Cumbersome

How do you comply with the Rule? For some co-operatives (i.e. childcare co operatives) compliance is relatively simple. If you are a retail co operative, figuring out whether a cash sale was made to a member or non-member can be difficult. Even if you have systems (membership cards, etc.) to facilitate this, there is an extra cost in both time and labour to maintain records to verify compliance – not to mention the extra time it may take at checkout!

3. The Co-Operative Disadvantage

Many co operatives carry on business in direct competition with other businesses. I had the manager of one co-operative tell me that to induce compliance with the Rule they offer a discount on a member's first purchase. That co-operative is in direct competition with a number of national retailers. None of these national retailers have to do this.

4. Members for the Wrong Reasons

Let's return to my discount example. The person receiving the discount is not necessarily joining the co-operative because they want to be a member. They may have joined because they want the discount. The result is the co-operative has a number of inactive members. This increases compliance costs in other areas such as mailing out notices of meetings to people who never show up, etc.

5. Success Could Mean the End

Your co operative is successful. Many people want to do business with you, but not necessarily join. If a co operative has failed to comply with the Rule for three years, the Minister can compel that co operative to become a business corporation. This business corporation will have to comply with the Ontario Securities Act when soliciting investors, which could be cost-prohibitive. Furthermore, is this fair to members who wanted to conduct business according to co operative principles and, notwithstanding this, must now carry on as a business corporation?

6. It's the Wrong Test

Every Ontario co-operative is required to carry on business on a "co operative basis". Failure to do so results in the same penalty as failing to comply with the Rule. For a co operative to carry on business on a "co-operative basis", each member has one vote, no member may vote by proxy, interest rates are capped and the enterprise is operated as nearly as possible at cost after providing for prescribed reserves and payments, including patronage. This, I believe, is the right test.

I submit the Rule is not a rule but a restriction. As long as a co-operative is carrying on business on a co-operative basis, it should not matter what percentage of its business is being conducted with non-members.

www.lerners.ca

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