Cooperatives – What we expect to see in 2017

By Dennis Gardiner, Managing Partner

Okay, this year is looking to be different than what we have been expecting over the past years. Obviously, I am merely speaking from my vantage point; after being involved in audits, sitting through board and annual meetings, visiting with you managers and our partners who are involved in your audits. What we expect to see in 2017:

  • Capital Expenditures – likely to see a slow-down in capital expenditures; although we anticipate that the benchmark of spending your depreciation will continue. Many of you have had expansive buildouts over the past 5-10 years; we expect the larger projects will begin to taper off.
  • Lower local (operating) earnings – we are skeptical that you will see the carry in the markets for your grain business that you have enjoyed in the past. The chemical and seed businesses seem poised to keep being extremely competitive, compressing margins on those two significant areas of your business.
  • Fertilizer sales – Higher yields of crops will continue to keep fertilizer sales strong; particularly with lower prices.
  • Expenses – We expect to see some “belt-tightening” of expenses over the next few years; a few of you got a jump on this over the past year (with some significant success). Not to say our clients were loose with their pocketbooks over the past 5-10 years, but with the success that you all have enjoyed, it allowed you to not have to be too discretionary.
  • Credit risks – We have been hearing for years that credit concerns are increasing, and this may be the year where we start to see more issues. Diligence and adherence to strict credit policies should help your cooperative minimize risks and losses.
  • Cybersecurity – with more mobility and greater use of technology, you become more vulnerable to hacking and fraud. Strengthening of controls over information, access restrictions to your systems, applications, data, third party records and sensitive data will need to continue/improve.
  • Fraud – as much as we would like to say you aren’t going to be a victim to this, or won’t have any occur at your cooperative, that would just be naïve. As many of you grow, having so many locations and employees, you are going to have to strengthen controls and oversight to ensure that all employees feel responsible and accountable. Honest discussions about fraud, your lack of tolerance, and whistle-blowing will help set the tone for your organizations.
  • Mergers – Mergers are likely to continue; although there may be some concerns about “bigger, being better” without some strategic reasons to merge in the current ag-climate. That said, we anticipate many of you will identify strategic reasons to talk with smaller, peer, and larger cooperatives. Many of these reasons likely to be: a divisional weakness (or strength), retiring management, retention of key management and employees, and trade territories. The larger cooperatives will continue to be a “magnet” attracting smaller neighboring cooperatives to join with them.
  • Acquisitions – Opportunities will continue to come to you from smaller businesses that are in your trade territories that have been your competition. These entities look to the cooperative as a means of selling-out, staying in the business, having an exit-strategy and being able to maintain health insurance for the owners.
  • Retained earnings – Retained Earnings (equity without a patron’s name on it) will continue to grow; particularly as a percentage of total equity. Lower earnings, the desire to continue robust equity revolvement plans (to demonstrate value of the deferred equity), and use of available tax deductions (Section 199/DPAD and bonus depreciation) make it very difficult to ebb the growth of retained earnings. This will only happen with conscious decisions to allocate more, slow-down revolvements or pass on the tax deductions; not easy conclusions to reach. We have blown well past the question of “how much retained earnings is too much”; although you have all indicated you are not getting push-back from your patrons, particularly as they have seen and enjoyed the benefits of your capital expenditure projects.
  • Non-qualified patronage allocations – Non-qualified patronage continues to gain traction as a tool to address the retained earnings concerns and the equity revolvement dilemma. We expect more clients to look to this equity alternative to put more equity in the names of members, still take advantage of tax deductions and reach a decision as to when non-qualified will be revolved/paid to the members.
  • People – As you all are aware your greatest asset is your people. Continued retention, investments in and training of your people will be the best way to ensure the success of your cooperative.
  • Technology – We expect your investments in technology to increase as you look to improve mobility, alternatives and services to your members. All generations of your members are looking for and/or seeing the benefit of technology as they make their input decisions; to continue to be their partners in production, you will have to make these technology investments.
  • Tax reform – I can’t speak for all of our partners, but when asked about when we will lose the benefits of Section 199/ DPAD, I have always responded: “Washington, DC can’t get anything done, no reason to think they can tackle tax reform”. But, now with Republican control over the House, Senate and Presidency, perhaps it could happen? Not likely in 2017, or even 2018, but after that, who knows? If corporate tax rates are lowered, the Section 199/DPAD deduction seems likely to be in the cross-hairs.

No crystal ball for us to gaze into as we look ahead to the coming year, but there are many indicators that what I have said above are likely to play out. If we can be of assistance with any concerns you face, or want to address in the coming year, please reach out to us. You all have demonstrated great resilience, adaptability and flexibility over the past, giving us great confidence that you will embrace the changes coming at you, overcome them and demonstrate continued success.