PECOL Chapter 2: Cooperative Governance , Münkner, February 2013

PECOL Chapter 2: Cooperative Governance , Münkner, February 2013

“Cooperative Governance”, Münkner, February 2013

1The Legal Context of Co-operative Governance

1.1Co-operative Governance and Co-operative Identity

From the German perspective, a co-operative society is a special type of business organisation with a legal framework of its own. It has a dual nature, consisting of a co-operative group and a co-operative enterprise. Both are linked together by the purpose of member-promotion. As self-help organisations co-operatives are characterised by the identity of owners and users, those who own the co-operative enterprise established it or joined it because they seek advantages derived from membership.

Self-administration is one of the guiding principles of co-operative organisation. Members play a predominant role and the key rights are reserved for them. Officers are elected by the members from among themselves.

Another principle is open and voluntary membership. An organisation pursuing long term objectives while having variable membership needs a stable corporate structure with governing bodies (organs) composed of office-holders elected for a limited term of office.

In order to work, plan and develop, the co-operative enterprise needs –

 stability of the co-operative group despite variable membership,

 a stable financial basis despite variable share capital,

 a reliable economic framework with a predictable volume of members’ use of the joint facilities of the co-operative enterprise,

 specially trained leadership and management to run an efficient business organisation and use scarce resources efficiently while practicing value-oriented co-operative management geared to sustainable promotion of members, taking social and ecological effects of its activities into account. Co-operatives need a Janus-headed leadership, looking simultaneously in two directions: at the external markets in which they operate like any other business enterprise and at the internal market, where in transactions with their members, they offer service near cost or at favourable conditions,

 special methods are required for measuring success as a business enterprise (operational efficiency) and as a co-operative enterprise (member-oriented effectiveness).

A special code for corporate governance of co-operative societies was developed in 2003 by the German Co-operative and Raiffeisen Federation DGRV (DGRV Geschäftsbericht (annual report) 2003, p. 27, most recent version dated 22 November 2010; see also Hilkenbach (2004), pp. 1, 2 and Annex). This co-operative corporate governance code was designed mainly for co-operative banks and other co-operatives having full-time directors.

1.2Co-operative Governance and National Business Organisation Law

In Germany, co-operative societies are seen and treated by the law-makers as a special type of business association, having their own legal framework since 1889. With 167 sections, the Co-operative Societies Act is fairly comprehensive. For matters not regulated in the Co-operative Societies Act and not left to the by-laws, the general law of business organisations applies, e. g. the Commercial Code (HGB) and laws on keeping of books and accounts (Transparency and public information law, TransPuG of 2002; Beuthien 2011, § 53 GenG, note 9). In recent years, partly due to harmonisation of EU-legislation, some matters have been transferred from the Co-operative Societies Act to a special Act on Transformation of Enterprises (UmwG, Transformation Act), applying to all legal forms of business organisation, e.g. transformation and merger, division, transfer of assets and change of legal form (old §§ 93 a - d GenG, introduced in 1922 and revised several times until 1993 (§§ 93 a - s GenG), adjusted to practical needs in 1994 by the UmwG of 1994 (Beuthien 2011, pp. 1041 ff.).

In other matters, mainly as a result of growth of primary co-operatives, co-operative law has been approximated to company law, e.g. powers of the board of directors to manage the co-operative enterprise in their own responsibility, only bound by the law and the by-laws, but not by decisions of the members in general meeting or meeting of delegates.

Competition law is relevant mainly in case of traders’ co-operatives. Co-operative Banks come under general banking regulations and housing co-operatives under the laws on building construction and technical matters like safety regulations, labour law (Beuthien 2011, § 24 GenG, note 17) and MitbestG (Co-determination law) applied to co-operatives with more than 500 employees (Beuthien 2011, § 38 GenG, note 5).

1.3Where are Co-operative Governance Rules Found?

As business organisations, general rules on corporate governance apply (e.g. corporate social responsibility, CSR), however, the co-operative federations have agreed on a special code of co-operative corporate governance, obliging office-holders of co-operative societies to respect co-operative values and principles in their work and in their communication of the co-operative image or brand to their members and to the general public (Leitbild). In 2012, the National Co-operative Academy in Montabaur (ADG) developed a new training programme for value-oriented management, offered to senior officers of co-operative societies (Kring/Walther, 2012). With their focus on sustainable, ecologically sound and environment-friendly strategies combined with social responsibility (care for the community) as a matter of principle, consciousness of economic, social and ecological responsibility of co-operative management goes well beyond general compliance with CSR practiced by commercial and capitalist enterprises.

2The Role of the Members

2.1The Division of Powers among the Organs of the Co-operative

As already mentioned above, the distribution of powers among the organs of co-operative societies was changed in 1973, when the elected board of directors was given full autonomy to run the co-operative enterprise: “The board of directors shall manage the co-operative society on its sown responsibility with due consideration to the limitations imposed on it by the by-laws” (§ 27 (1) GenG).

In 1922, steady growth of co-operative societies had made it necessary to replace the general meeting of members by a meeting of delegates (indirect democracy, Lang/Weidmüller 2011, § 43a GenG, note 1), prescribing that in co-operatives with more than 10,000 members, the meeting of members was replaced by a meeting of delegates, while societies having more than 3,000 members could opt for a meeting of delegates. In 1926, the meeting of delegates became obligatory for societies with more than 3,000 members (Paulick 1956, p. 251) and in 1973 this figure was reduced further to 1,500 (§ 43a (1) GenG). This meant that ordinary members lost all their rights of participation in the decision-making processes except that of electing delegates and substitute delegates every four years (§ 43a GenG). Since 1993, in societies with large membership, substitution of the general meeting of members by a meeting of delegates is no longer prescribed by law, but may be introduced in the by-laws (Beuthien 2011, § 43a, note 1). The meeting of delegates has to be composed of at least 50 elected members and their substitutes by secret ballot with conditions for their election to be laid down in the by-laws (§ 43a (4) GenG).

Since revision of the Co-operative Societies Act in 2006, in societies having introduced the meeting of delegates, the general meeting is no longer replaced completely by the meeting of delegates. The general meeting continues to function parallel to the meeting of delegates and the by-laws may stipulate that certain basic rights are reserved for the members in general meeting (§ 43a (1) GenG) to be decided with a majority of not less than three quarters of votes cast (§ 43a (2) GenG), e. g. amendment of by-laws changing the objectives, merger, change of legal form (Beuthien 2011, § 43a note 2).

Members in general meeting or meeting of delegates have the right to elect and remove their directors and members of the supervisory committee. In the by-laws, the right to elect directors may be delegated by the members to the supervisory committee and/or may be made subject to recommendations by the co-operative federation to which the society is affiliated (§ 24 (2) GenG). If this is done, the members or their delegates loose their authority to determine the leaders and directors managing the co-operative society on their behalf (Beuthien 2012, p 870). They still retain the right to suspend or remove directors, if this is not delegated to the supervisory committee (§ 24 (2), (3) GenG).

In 2006, the minimum number of members of a co-operative society was reduced from seven to three (§ 4 GenG). There is no maximum number of members. New rules were introduced regarding small co-operatives, i.e. co-operatives having not more than 20 members. Such small co-operatives may operate under the one-tier system, i.e. work without a supervisory committee, with only one member serving on the board and the general meeting or one elected representative replacing the supervisory committee §§ 9 (1), 24 (2) GenG). There are no rules regarding a maximum of members. Since 1993, the list of members is kept by the board of the society and no longer by the registering authority (local court) (§ 30 GenG).

2.2Member Voting Rights

Voting rights are exercised at general meetings or at meetings of delegates in person by show of hand or secret ballot (e.g. in case of elections of directors), as the by-laws provide. Since 1973, voting by proxy is allowed, provided that one proxy cannot represent more than two members (§ 43 (5) GenG). The possibility of voting in written or electronic form was introduced in 2006 (§ 43 (7) GenG).

Until 1973, the original co-operative practice of “one member – one vote” was applied without exception. In 1973, a moderate form of plural voting was introduced allowing members “who further the business of the co-operative society in a special manner” to be given up to three votes under the by-laws, provided that certain conditions are met (§ 43 (3) GenG). However, such additional votes are only valid in decisions regarding routine matters, while in decisions on key issues, where a three quarter majority of votes cast is required, the principle of equal voting power of all members still prevails (§ 43 (3) GenG). The trend to allow plural voting continued in 2006 when in co-operatives composed by three quarters of entrepreneurs, a member could be given up to 10 votes (§ 43 (3) N° 2 GenG). The provisions on plural voting do not apply to co-operative federations or secondary organisations in the legal form of co-operative society (§ 43 (3) N° 3 GenG).

The clear co-operative profile as a self-help organisation (principle of identity of owners and users) was blurred in 2006 by allowing admission of “investing members” i.e. non-using members (§ 8 (2) GenG). Already under the old law, admission of “promoting members” had been practised, however it was quite clear that this meant to go against the spirit of the law just as in case of tolerating “passive members” (e.g. members of dairy co-operatives holding dry shares in).

The revised Co-operative Societies Act of 2006 contains provisions to avoid that the influence of investing members becomes too strong. Investing members cannot outvote user-members in general meeting or meeting of delegates. In the supervisory committee, the number of investing members shall not exceed one quarter of its total number (§ 8 (2) GenG). In co-operative banks, at least two board members need professional qualification as bank managers (Beuthien 2011, § 24 GenG note 8) and one member of the supervisory committee must have expertise in accounting or auditing (§ 36 (4) GenG). There is no provision in the law preventing investing members from being elected to serve on the board of directors.

New rules regarding voting of corporate members in general meeting or meeting of delegates, on the board and in the supervisory committee were introduced. A corporate member may be represented in the co-operative societies by its board members, even if these are not members of the society (§ 43 (4) GenG). “If a member of the co-operative society is a legal person or a partnership, natural persons authorised to represent them legally may be elected as their delegate” (§ 43a (2) GenG).

2.3Mechanisms for Member Control: Meetings, Elections etc.

Decisions and resolutions in general meeting or meeting of delegates are taken by simple majority of votes cast, unless either the law or the by-laws prescribe a larger majority and additional requirements (§ 43 (2) GenG), e. g. for decisions regarding amendment of by-laws, removal of directors, or conversion to a different legal form (§§ 190, 191 (1) N° 3 UmwG, e.g. three quarters or nine tenths majority of votes cast (§§ 193, 194, 260-264 UmwG. Board members may be suspended by the supervisory committee (§ 40 GenG).

There are no general provisions regarding a quorum, however, such conditions may be stipulated in the by-laws (Beuthien 2011, §§ 2 ff. UmwG, note 36).

2.4Dispute Resolution between Members and the Co-operative

There are no special rules for dispute resolution between members and the co-operative society in the Co-operative Societies Act. Each member may take his/her co-operative society to court and vice versa. However, under general organisation law there is a rule that every member owes loyalty to his/her organisation and should avoid acts damaging the image of the organisation in public (Beuthien 2011, § 18 GenG note 50-56). In addition, the by-laws may provide that before going to court, arbitration has to be tried.

3Management and Internal Control

3.1Powers of a Co-operative's Board or Boards

Since 1973, there is a clear division of powers between the board of directors, the supervisory committee and the meeting of members or delegates. The offices of board member and member of the supervisory committee are incompatible (§ 37 GenG).

The Board shall manage the co-operative society in its own responsibility (§ 27 (1) GenG), independent from the decisions of the members. The supervisory committee shall supervise the board of directors in its management functions (§ 38 (1) GenG) and report its findings to the members in general meeting or meeting of delegates. It shall “convene such meeting if and when this is in the interest of the society” (§ 38 (2) GenG). “They supervisory committee may appoint an auditing committee to monitor the accounting process and the effectiveness of the system of controlling, risk management and internal auditing” (§ 38 (1) GenG.

The by-laws may provide that certain important matters of the board’s business need the approval of or have to be decided together with the supervisory committee. However, too close co-operation of these two bodies should be avoided.

The liability of directors vis-à-vis a co-operative society for breach of legal obligations is partly regulated in the Co-operative Societies Act (§ 34 GenG), partly follows the rules of general civil and commercial law.

The board has the duty to give the supervisory committee full information on the management of the co-operative affairs and the supervisory committee has the right to claim all information needed from the board. A special feature of German co-operative law is the role of Co-operative Auditing Federations: Under the Co-operative Societies Act, to be registered, a new co-operative has to be accepted as a member by an officially recognised auditing federation, the auditing federations have the exclusive right to audit affiliated societies and the scope of audit includes financial and management audit (e.g. to what degree did the board succeed in promoting the interests of the member). The supervisory committee in charge of internal audit has to collaborate with the co-operative auditor of the federation and is informed by the auditor of the audit results (§ 58 (3) GenG). This right to be informed was introduced in 2006. Before that time, the auditors only had to send their report to the board of directors.

Basic rules regarding the division of powers between the board of directors, the supervisory committee and the members' meeting are laid down in the Co-operative Societies Act leaving room for modifying some of these rules in the by-laws. As already mentioned, often the power to elect and remove the members of the board is delegated under the by-laws by the members’ meeting to the supervisory committee. Under the revised Act of 2006 this does not apply to small co-operatives with not more than 20 members, which may opt for working without a supervisory committee (§ 9 (1) GenG).

In large societies with a meeting of delegates, the position of members in general meeting has been strengthened in the revised Act of 2006 by giving them the rights to stipulate in the by-laws that certain decisions are reserved for the general meeting (§ 43a (1) GenG).

The revised Co-operative Societies Act of 2006 provides that -

 a meeting of members has to be convened if this is demanded by at least one tenth of the members (§45 (1) GenG),

 a list of candidates for the meeting of delegates can be presented by at least 150 members (§ 43a (4) GenG) and

 introduction of a meeting of delegates can be revoked and returning to a general meeting of members can be requested by at least one tenth of the members (§ 43a (7) GenG).

Members are entitled to inspect the summary of the audit report (§ 59 (1) GenG).

3.2Board Functioning, Structure and Composition

As already mentioned above, in co-operative societies under German law the board of directors is the executive body. Since 1973, the board has full autonomy to run the co-operative society and only has to respect the provisions of the Act and of the by-laws. In business matters the board is not bound by directives from the members in general meeting or in the meeting of delegates. The board has to be composed of at least two directors (four eyes principle). The by-laws may provide that certain important matters have to be decided jointly by the board and the supervisory committee or need approval of the supervisory committee.

Until 2006, all co-operative societies had to be organised in a two-tier structure: board of directors and supervisory committee. Since 2006, there are special provisions for small co-operatives (having not more than twenty members), which can opt for a one-tier structure, having only a board of one director (§ 24 (2) GenG) and without a supervisory committee (§ 9 (1) GenG). According to § 57 (5) GenG small co-operatives operating without a supervisory committee, have to appoint one member to represent the society vis-à-vis the auditing federation (§ 57 (5) GenG).

According to § 9 (2) GenG all board members have to be members of the co-operative society. With growing size of co-operative enterprises and complexity of their operations, it often may be impossible to find persons with the required qualifications in the membership group. To solve this problem, “promoting members” are admitted even if they do not belong to the general membership group, for the sole purpose of making them eligible for service on the board as “external” directors. Such directors are usually experts in their field but not familiar with co-operative, promotion-oriented and value-based management. Often, co-operative federations recommend suitable candidates.

3.3Mechanisms for Board Election

Under German co-operative law the “four eyes principle” prevails. Each co-operative society has to have at least two directors. The board members are only authorised to represent the society jointly, if the bylaws do not provide otherwise (§ 25 (1) GenG). In 2006, this rule was softened for small co-operatives, which can now work with only one director (§ 24 (2) GenG).