University of Wisconsin Center for Cooperatives
Rural Cooperatives, July/August 1996, pp. 21-25
Published by the USDA Rural Business and Cooperative Development Service 

Inventories, Patronage Refunds Increase for Local Cooperatives

Beverly L. Rotan
USDA/PBS Cooperative Services Program 


Editor's Note: Data for this report was collected from the annual reports of 448 local cooperatives. This article revises averages for previous years based on changes in the sample used.

    Inventory buildup and the interest expense for financing growth had a  major impact on financial statements of local cooperatives in 1995. In some locations, railcar shortages as well as holdover grain inventories from 1994 (due to low prices) pushed grain inventories up 50 percent above 1994 levels. Even with interest expenses up 44 percent, cooperatives in USDA's farm supplies and services database had an increase in net income of 14 percent due to a 37-percent increase in patronage from regional cooperatives.

    Total average sales and net income of local cooperatives in the 1995 database set a new record. The 432 surveyed cooperatives had average sales that topped $12 million and average net savings $291,000 in 1995. Net income was up 14 percent, exceeding the previous 10-year record set in 1994. From 1992 to 1995, net income increased steadily, but the increase was sharpest from 1994 to 1995 (figure 1). Total sales and services generally increased during this same period with a slight decline in 1993 before recovering with a steady upturn for the next 2 years.

(graph left) Total Assets; (middle graph) Current and quick ratios; (right graph)Total debt-to-asset ratio

    Average sales grew by 8 percent between 1994 and 1995. Farm supply sales, in particular, continued to climb, growing 6 percent. Average sales topped $5.6 million for the first time. Grain sales grew at twice that rate (13 percent), reaching $6.6 million. Service income shot up 16 percent in 1995. Total revenue for 1995 is shown in figure 2. As expected, sales from marketing and farm supply represented the largest percent of revenue.

    Despite higher net income, local savings declined 24 percent. But local cooperatives were rescued by patronage refunds from regional cooperatives, which accounted for 59 percent of the net income for local co-ops. Refund income averaged $171,000, up about $50,000, or 37 percent higher than 1994. Total expenses increased about 13 percent, fueled by interest costs that jumped 44 percent. Total wage expenses increased 7 percent, or about $47,000 per cooperative, much of it due to more full and part-time employees than cost-of-living increases.

    Assets increased 17 percent (figure 3), due largely to the need to finance a 39-percent increase in inventories. Increased investments in the Bank for Cooperatives and CoBank reflected borrowing to finance inventories. Investment in property, plant and equipment also increased, although at a lower 7-percent rate.

(left graph) Debt-to-equity; (right graph) Times-interest-earned-ratio

    Table 1 lists cooperative respondents by size, table 2 by type. Most respondents were small farm supply
were small farm supply cooperatives with sales of less than $2.5 million. (Financial ratios used in this article are described in the January-February 1996 issue of Rural Cooperatives.) Most ratios used have both a financial and operational impact. Performance ratios measure various levels of cooperative operations.


Table 1 - Co-op size classification, 1995
Size
Percent respondents
Sales ($ million)
Small
37
5 and less
Medium
23
over 5 to 10
Large
23
over 10 to 20
Super
17
over 20

Table 2 - Co-op type classification, 1995
Type
Percent respondents
Product mix (% sales)
Marketing
18
over 75 from marketing
Mixed marketing
24
over 50 to 75 from marketing
Mixed farm supply
16
50 to 99 from supply
Farm supply
42
100 from supply

    No single financial indicator will provide enough information to judge a cooperative's financial health. Therefore, it is important to look at a group of financial ratios over a period of time and/or compare them to other cooperatives with similar sales and functions.

Liquidity Ratios

    Figure 4 shows the current and quick ratios for all surveyed cooperatives. The current ratio was relatively constant for three years before it slid in 1995.

    Current assets increased 24 percent, but comparable liabilities increased 33 percent. Grain and farm supply inventories grew during 1994 and 1995, probably accounting for the increase in accounts receivable.

    If the current ratio is below 1, improvements can be achieved by selling additional capital stock, borrowing additional long-term debt or disposing of unproductive fixed assets and retaining proceeds. Current liabilities may also be reduced by retaining more allocated savings (less cash). A high current ratio indicates the ability to pay current liabilities from the conversion of current assets into cash. Operationally, this same high ratio tends to increase operating Freedom and reduce the probability of bill-paying difficulty from writedowns of accounts receivable or inventory.

    The quick ratio mimicked the movement of the current ratio. All other current assets included in this ratio increased: inventories were up 39 percent and current assets up 24 percent. Financially, a high ratio allows little dependence on the salability of inventory to meet current obligations. Operationally, the results are the same as with current ratio.

Leverage Ratios

    With inventories increasing in the short term, quick financing is needed, usually through the use of short-term debt, which increased 72 percent between 1994 and 1995. The interest-bearing debt to total assets ratio increased from 0.21 to 0.27 because assets increased by 17 percent while debt increased by almost one-half (figure 5). Reducing debt, increasing savings or financing a greater portion of assets with working capital may improve this ratio.

    Long-term debt-to-equity ratio increased from .12 to .14 (figure 6). Long-term debt and total assets increased at the same rate, which may indicate some short-term obligations were being carried and converted to long-term debt. A low ratio is preferable and financially impacts the cooperative through dependence on outside sources of funds in relation to owners' equity.
 
Debt-to-equity Times-interest-earned ratio


Table 3 - Financial ratios for farm supply by cooperative size, 1995
Item
small
medium
large
super
 Liquidity ratios
Current
 2.08
1.84
1.67
1.28
Quick
1.10
0.94
0.82
0.56
 Leverage ratios
Debt-to-asset
0.13
0.17
0.20
0.20
Debt-to-equity
0.06
0.13
0.17
0.13
Times-interest-earned
6.36
5.23
5.67
4.51
 Activity ratios
Fixed asset turnover
1.69
1.71
1.92
2.83
Total asset turnover
7.38
6.95
6.92
10.96
 Profitability(Percent)
Gross profit margins
17.36
16.74
17.99
9.22
Return on total assets
8.97
9.00
10.54
9.66
Return on allocated equity
13.18
13.19
15.88
19.70
 Million dollars
Average total revenue
2.63
7.26
13.78
33.28
Average total assets
1.47
3.98
6.78
11.17

Table 4 - Financial ratios for mixed farm
Item
small
medium
large
super
 Liquidity ratios
Current
1.86
1.54
1.51
1.27
Quick
0.97
0.80
0.74
0.45
 Leverage ratios
Debt-to-asset
0.17
0.24
0.21
0.34
Debt-to-equity
0.10
0.14
0.14
0.15
Times-interest-earned
4.10
3.71
4.88
3.60
 Activity ratios
Fixed asset turnover
2.12
1.81
1.83
1.89
Total asset turnover
11.02
6.44
6.54
7.59
 Profitability(Percent)
Gross profit margins
14.92
14.20
16.56
13.87
Return on total assets
8.04
7.69
9.59
8.04
Return on allocated equity
8.38
10.78
14.58
14.50
 Million dollars
Average total revenue
3.20
7.80
13.88
30.32
Average total assets
1.43
4.04
7.01
15.04

    A low ratio may also indicate low return on equity. Operationally, a low ratio tends to reduce interest cost. Improvement may be gained by reducing long-term debt— disposing of unproductive assets and using proceeds to liquidate debt or accelerating payments on long-term loans. Other ways to improve this ratio are to increase local equity by generating higher levels of local savings, slowing down equity retirement programs, selling additional capital stock or retaining more allocated savings.

    The times-interest-earned ratio fell to 3.65, down about one point from 1994 (figure 7). When this ratio is higher than 1.0, it indicates the ability of current earnings to pay current interest expenses. Lending institutions are more apt to loan to cooperatives whose times-interest-earned ratio exceeds 1.0 because it shows their ability to make interest payments. Subsequently, a bank may lend funds for capital improvements more readily at lower interest rates.

    This ratio may be improved by collecting old receivables, improving inventory turnover, disposing of assets and reducing debt with proceeds or working capital. Financially, a high ratio impacts the return on equity and tends to increase it. Over time, a high ratio will reduce interest cost.

Activity Ratios

    Fixed-asset-turnover has shown a general increase in the 1990s. The ratio was 8.93 in 1995 and increased slightly because sales increased 8 percent while investment in fixed assets increased 7 percent. Figure 8 depicts this ratio for the 10 years shown. The measure for this ratio may or may not show favorable or unfavorable conditions. It simply reflects cooperative conditions.

    An abnormally high ratio usually indicates a high concentration of very old, nearly depreciated fixed assets or the leasing of property and equipment. A high ratio exerts a favorable influence by increasing asset utilization, reducing financial leverage, and/or increasing return on equity A high ratio tends to reduce depreciation and interest costs. It may also increase costs related to operating leases, personnel, and travel or delivery expenses.

    This ratio may be improved by restricting further investments in fixed assets; redesigning production or facilities to increase the sales generating potential of existing space and equipment; selling idle machinery and parts, unused vehicles and unnecessary equipment; and improving inventory turnover.

    Total-asset-turnover ratio declined from 2.34 in 1994 to 2.16 in 1995. This ratio is similar to the fixed asset turnover ratio. Both elements of this increased—total sales by 8 percent and total assets by 17 percent. A high ratio exerts a favorable financial influence through the reduction of financial leverage and/or increased return on equity. A high ratio operationally tends to reduce interest costs.

Profitability Ratios

    Gross profit margins declined slightly in 1995 to 9.94 (figure 9) from the decade high of almost 10 percent in 1993. Both sales and cost of goods sold were up. As a proportion of the sales, cost of goods represented 90 percent of all sales for both 1994 and 1995.

(left graph) Total and fixed asset turnover; (middle graph) Gross profit margin; (right graph) Return on total assets and allocated equity

    Return on total assets includes net income before interest and tax and total assets. This ratio is a measure of performance and is not sensitive to the leverage position of the cooperative. This ratio declined to 7 percent in 1994 and 1995 (figure 10). Net income declined 1 percent while interest expense increased 44 percent over the two-year period. This ratio was highest in 1989 and 1990, although it had been fairly constant throughout the 1990s. A high ratio tends to reduce interest cost over time and indicates a comparatively high rate of return on assets employed.


Table 5—Financial ratios for mixed marketing by cooperative size, 1995
Item
small
medium
large
super
 Liquidity ratios
Current
2.16
1.63
1.26
1.24
Quick
0.98
0.71
0.48
0.46
 Leverage ratios
Debt-to-asset
0.08
0.14
0.26
0.31
Debt-to-equity
0.03
0.06
0.11
0.14
Times-interest-earned
4.70
6.25
3.66
3.43
 Activity ratios
Fixed asset turnover
2.30
2.35
2.35
2.32
Total asset turnover
12.11
10.77
9.39
9.67
 Profitability(Percent)
Gross profit margins
9.05
8.51
8.01
8.23
Return on total assets
4.95
10.26
8.47
7.89
Return on allocated equity
7.82
18.17
12.29
15.58
 Million dollars
Average total revenue
3.37
7.39
15.29
39.50
Average total assets
1.41
2.98
6.17
16.18

Table 6—Financial ratios for marketing by cooperative size, 1995
Item
small
medium
large
super
 Liquidity ratios
Current
 3.11
1.31
1.20
1.12
Quick
 2.38
 0.66
 0.45
 0.35
 Leverage ratios
Debt-to-asset
 0.02
0.29
0.29
 0.33
Debt-to-equity
 0.02
 0.11
 0.12
 0.21
Times-interest-earned
 6.32
 4.52
 3.11
 2.61
 Activity ratios
Fixed asset turnover
 2.70
2.74
2.67
2.35 
Total asset turnover
 10.33
 12.35
12.02
10.06 
 Profitability(Percent)
Gross profit margins
 4.89
4.94
5.40
 6.26
Return on total assets
 5.42
 6.65
 5.69
 6.57
Return on allocated equity
 8.66
 12.96
 12.29
14.09
 Million dollars
Average total revenue
3.09
7.55
14.83
41.71
Average total assets
 1.08
2.65
5.36
16.94

    The ratio for the return on allocated equity increased 1 percent in 1995. This is an important measure of profitability. This ratio is sensitive to the amount of debt capital in the cooperative. It is best to use it in conjunction with other measures, such as the return on total assets. Net savings increased 14 percent while allocated equity increased 3 percent from 1994 to 1995.

    Financially, a high ratio is favorable and tends to decrease financial leverage. However, a high ratio may indicate inadequate investments.


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