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Memorandum submitted by English Farming & Food Partnerships (EFFP) (DFoB 40) Introduction1. English Farming & Food Partnerships (EFFP) is a membership organisation established in 2003 in response to recommendations contained in the Curry Report to strengthen the profitability, competitiveness and sustainability of England's farm-based industries. We set out to achieve this through the growth of market focused and professionally run Farmer Controlled businesses (FCB) and by developing co-operation and partnership activities not only between farmers but also between farmers and the food chain. 2. Membership includes over 50 FCBs
representing approximately 75% of all the main FCBs in 3. In the last six years we have worked closely with government and industry to increase knowledge of the sector, to promote the development of FCBs and to foster collaboration in supply chains. We have developed a team to create linkages, build knowledge and deliver activity which has been funded by DEFRA, industry contributions and fee based work. 4. EFFP was set up as a partnership between government and industry designed in such a way that would enable it to evolve into a commercially self-sustainable business. DEFRA no longer provide any core funding to our business although they continue to be supportive of our mission and we work on their behalf on a number of projects. 5. Today, in practical terms, we are a specialist agri-food business consultancy, working across the full supply chain with all genres of business structure. We combine our farming knowledge with food industry expertise to help address structural, commercial and relationship issues across the industry, from an objective and independent standpoint. Our interest in this inquiry6. EFFP believe that FCBs have a significant part to play in the challenges faced by the agri-food industry. Across the world the influence and success of FCBs is considerable and not just in their own domestic markets as many are now global players including a number that have a substantial stake and presence in the UK, for example, Arla Foods and Danish Crown (Tulip). 7. Most FCBs operate in extremely competitive marketplaces but provide an important mechanism for farmers to create and capture value from the market and to help a fragmented farming industry trade with national and global food companies as well as retailers. 8. In the UK FCBs tend to be less developed than
those in other countries around the world.
The historical development of domestic policies in the 9. Nevertheless, even the biggest UK FCBs are
small by comparison to their EU and international counterparts. The 10. Despite the good progress made by many FCBs the last ten years have also seen some notable failures of FCBs in the UK including Viking Cereals, a cereal marketing business; Amelca which was a farmer owned liquid dairy in Derbyshire and Westbury Dairy, a butter powder plant established in 2000. 11. There are many reasons why a business fails and care needs to be taken not to attribute a single factor to the cause of these failures when often the situation is far more complex. It is crucial that we identify the real barriers to the success of our FCB sector so that we can build on the successful businesses that continue to exist. 12. DFOB were members of EFFP. We provided limited support to their member council and some of their board members attended the forums and conferences we organised. 13. The EFRA enquiry has asked that EFFP provide our thoughts to the following points: a. The difficulties FCBs face in raising capital and how this could be addressed b. Good practice with regard to the governance of FCBs c. The tax treatment of contributions to FCBs d. Whether the Industrial and Provident Society Act is fit for purpose
The difficulties FCBs face in raising capital and how they can be addressed14. We recognise the considerable difficulties
faced by UK FCBs in raising capital.
Compared to the leading cooperatives throughout 15. As relatively immature businesses, many UK FCBs in the absence of such financial strength are reliant on external funding, principally from the retail banks, to fund their investment and activity. 16. This raises a number of issues, including: a. Under investment, reducing the ability of FCBs to deliver their strategy b. Excessive balance sheet gearing, particularly given the lack of permanent capital within many FCBs - see above c. A lack of banks and advisors with detailed understanding of the sector and its opportunities resulting in a reduced appetite to lend to FCBs 17. Moreover, the financial and legal structure of
many FCBs restricts their ability to attract external investment to the sector,
an aspect made more acute by the fact that the sector is relatively immature
and therefore not well understood by the financial sector in the 18. Over the last two years, EFFP with the support of Defra has invested significant resource into exploring ways for the sector to attract capital. This has included: a. Considering the feasibility of setting up an investment fund focused on developing commercial opportunities in the farming and food arena and focussed on being a source of medium and long term capital for agri-food businesses. b. Exploring the appropriateness of using equity, bonds and mezzanine debt to fill the gap between the finance provided by the FCB, members and bank debt. c. Developing a bespoke funding model which would link individual investors and agri-food businesses (including FCBs) and act as a signal fund that overtime could be used to demonstrate the opportunity to the wider investment market in the UK 19. More recently EFFP submitted an innovative proposal to Defra that would utilise unspent Rural Development Programme funds to act as a cornerstone source of investment funds. A copy of this proposal is attached to this submission. 20. We would wish to encourage both Defra and the Treasury to consider supporting the development of such initiatives and would welcome the opportunity to discuss this further. Good Practice with regard to the governance of FCBs21. Since EFFP was established in 2003 we have taken a proactive stance on the governance of FCBs as we believe that it is fundamental to their success. We recommended that FCBs should comply voluntarily with good governance standards and take all possible steps towards raising their own standards of board effectiveness not only to protect the interests of their members and other stakeholders, but also to protect the reputation of FCBs generally. 22. We have developed a suite of governance tools and services ranging from a short board health check to a comprehensive governance review based on comparing an FCB's practice with best practice as outlined in the Combined Code. Over the past five years EFFP have delivered services to FCBs across England of all sizes, in all regions and sectors. 23. Much of our early governance work was funded by Defra through a range of projects meaning that we were able to offer our services free of charge to FCBs. This, without doubt, encouraged the uptake of our services in this area. As our Defra funding streams have declined we have had to move to a position where we charge commercial rates for governance advice and support to FCBs. Our experience has shown that this has substantially limited the uptake of the services we offer in this area. 24. We have learned much from our engagement with FCBs on governance but are concerned that much more needs to be done. Notwithstanding the issue of FCBs paying for our services, engagement with some businesses has been difficult. The reasons for this can be complex but are likely to include: a belief by the board that they already adhere to good governance practice; that past success makes it difficult to contemplate future problems or because the board don't want to expose themselves to outside interference and monitoring. 25. The choices these organisations make in this area can have far reaching effects. The failure of FCBs can have a devastating impact on producers, creditors and employees yet they are not subject to the same scrutiny as large PLCs. With FCBs there is no share market to act as barometer of business performance and the interest of banks and institutional investors is more muted. 26. Shareholder apathy is an agency problem that FCBs have in common with companies. Members of FCBs are generally too weak, disorganised, distracted, uncoordinated and uninformed to take an active role in overseeing the company. 27. FCBs are under no compulsion to address governance issues other than to meet their statutory requirements. As with ordinary companies, there is no legal basis that compels them to adopt best practice in governance. Nor is there any sector agreement that compels FCBs to adopt best practice in governance as exists with Publically Listed Companies who are required as part of their adherence to stock exchange rules to comply with the Combined Code. 28. The industry and government are faced with a clear choice. They can continue to take a passive role or take more deliberate action that will exert a real pressure on FCBs to conform to an appropriate model of board composition and operation. We suggest that the EFRA Committee recommend establishing a mechanism that would, at least, consider the feasibility of this alternative. 29. In drawing out any recommendations consideration should be given to the following: a. Establishing a set of governance standards for FCBs analogous to the Combined Code. Businesses over a certain size would be encouraged to comply or explain. Adherence to principles would be externally validated. The Code should be voluntary - self regulation being preferable to regulatory intervention - but the FSA should have role in endorsing the Code and the industry should take steps to ensure that FCBs are applying the recommendations.
b. The makeup of the board, the skills and understanding of directors and the balance between democratic representation of farmer members and the need for appropriate expertise. This to include the need for ensuring independence and that the board is regularly refreshed.
c. The provision of information, financial and otherwise, to members and other stakeholders. This would consider the need for more frequent financial reporting.
d. Developing effective systems of internal control that encompass: the effectiveness and efficiency of operations; reliability of financial reporting; safeguarding of assets and compliance with applicable laws and regulations.
e. Encouragement in the uptake of good governance practice through the provision of advice, support and appropriate training and development.
The Tax Treatment of contributions to cooperatives30. In 2004 EFFP submitted a report to Defra and HM Treasury outlining research into a number of legislative and fiscal barriers that we believed could impact on the ability of FCBs to reach their full potential. The report listed ten recommendations that could help alleviate these barriers. One area that was raised within the report was the tax liability on allocated reserves. 31. In many FCBs there is likely to be a need for investment into facilities or infrastructure, as is the case in the dairy sector. As a consequence the FCB will need to seek and retain increased levels of capital from its members. Raising additional capital from members can be achieved via various mechanisms, but most often it will involve increasing the amount of capital reserves held in the business by retaining surpluses. 32. In many cases the surpluses are held in a general reserve which is effectively a common pool to which no one individual member has a right. As and when a member leaves they cannot take their proportion of the common fund with them. This creates a disincentive to invest. As a consequence some FCBs allocate some or the entire annual retained surplus to member accounts. These accounts cannot be withdrawn by the member on demand, but are generally repayable to the member, at par value, when the member leaves the FCB. 33. The allocation of surpluses to individual members as part of the retained reserves provides the member with the right to those reserves at a future date and is not an immediate distribution of cash - there is no cash actually changing hands. However, this simple allocation creates a tax liability in the hands of the members concerned. This can represent an unnecessary burden on members and provides a disincentive for members to invest into their FCBs. 34. A taxation provision that would defer tax until the point of distribution rather than creating a burden at the point of allocation could boost the capacity of FCBs to build the capital base required.
Whether the I&P Act is fit for purpose35. In order to thrive and meet the challenges of the business environment, FCBs that are constituted as Industrial and Provident Societies need a legislative framework which is fit for purpose. 36. In the 2004 EFFP report submitted to Defra and HM Treasury, we recommended that the Industrial & Provident Societies Act should be reviewed and modernised to bring it in-line with the forthcoming company law reform. 37. In July 2008 HM Treasury submitted proposals
for a Legislative Reform Order for Credit Unions and Industrial and Provident
Societies in 38. Of the six proposals for change put forward by HM Treasury it is the modification to the rules on share capital that we believe is the most relevant to FCBs. 39. The statutory restriction on the level of individual members' shareholdings is a significant constraint to adequately capitalising certain types of FCB. Loans from members, in the form of various loan instruments, have been used to overcome the lack of member funding through the constraint on shareholdings, but have the disadvantage that they are liabilities that must ultimately be reimbursed. Banks, which are important sources of capital to FCBs, recognise that the member loans are ultimately liabilities, and prefer a more balanced capitalisation where a proportion of the capital is permanent and not withdrawable. 40. EFFP therefore welcomes the proposal and subsequent draft order to enable members to invest more than £20,000 where the shares are transferable. However, with regard to the increase on the limit of individual members' holdings of withdrawable share capital, we believe that doing so merely in line with inflation will still limit the type of funding structures that many FCBs require. As a minimum we would urge Treasury to review the limit every three years. 41. Lastly, whilst we accept the need to use legal routes that are readily available and achievable in the short-term to implement the changes proposed by Treasury we would still wish to encourage a complete review and new Act in line with that of recent company law reform. 42. A related point is the ease to which basic information about individual Industrial & Provident Societies can be accessed from the Financial Services Authority (FSA), the registration body for Industrial & Provident Societies. It is possible to access information about Companies with relative ease through the Companies House website. The ability to access similar information about Industrial & Provident Societies from the FSA is far more difficult and much more expensive. EFFP question why the website platform provided by Companies House cannot also provide similar input and disclosure of information for Industrial & Provident Societies.
English Farming & Food Partnerships December 2009 APPENDICES Proposal for new investment fund for the UK food & farming industryIntroductionThis note outlines a concept proposal to help address some of the critical issues currently facing the UK food and farming sector through a radical and innovative plan to bring together the public and private sectors to invest in growth and development opportunities. Key challenges· Long term issues o World population: 9bn by 2050. Food production needs to double to meet demand. Food chains need to become shorter and more efficient both in financial and carbon footprint terms: question as to how to grow the UK supply of competitive and sustainably produced agricultural raw materials and food. o Key issue is where will the investment come from to fund this? Public sector constrained by budget deficit, private sector constrained by ability to invest and lack of suitable business structures to enable creation and capture of value within supply chains. · Short term o Major downturn - stimulus needed to encourage growth to safeguard and create jobs and economic prosperity. Farming and food provides a major growth opportunity as it is the largest sub sector of the UK's manufacturing base. Credit crunch means that availability of debt financing likely to be much tighter for some time which will impact on the growth and development of agri-food businesses. BackgroundFor two years EFFP have been developing plans for an investment fund aimed at addressing the investment 'gap' facing SME's in the farming and food sector to alleviate what would otherwise remain a significant barrier to enterprise and productivity growth. Defra have been a key sponsor to the project thus far, supported by a wide range of private sector organisations including Smith & Williamson, Burges Salmon, DHL Exel, NFU Mutual, MLC and EFFP. This proposal builds on that work, using unspent Rural Development Programme funds to act as a cornerstone source of investment funding. Benefits· Initial £250 million fund supporting growth, innovation and development across agri-food SMEs. · Could help to address potential funding shortfalls to businesses in the sector caused by credit crisis and shortage of debt financing thereby providing a stimulus for growth. · Unique collaborative investment vehicle capable of bringing public and private funds to bear on some of the key challenges facing the farming and food sector over the next decade. · Would access professional investment skills not currently focussed on the farming and food sector not only for project selection but also in the running and commercial development of the selected business projects. · If the fund proved successful further rounds of private sector capital raising could follow. · The fund would not be aimed at replacing bank debt but at providing seed corn equity to sit alongside bank debt to fund new innovative projects. · Proposal would be cost neutral to the UK Treasury. · Sustainable recycling of public funds to drive growth into the future i.e. through an investment fund that will be repaid rather than through direct grants. · Would enable UK to maximize revenues from EU Pillar 2 budget and reduce net flow of funds from UK to EU. · Designed to help better quality and quantity of take-up of RDPE funds under Axis 1 by farming and food businesses and guarantee against under spend within Axis 1 of RDPE. · Sits alongside similar investment funds from BERR[1] that place restrictions on food sector investments. Key elements of proposal· Issue a programme amendment to the EU on the use of RDPE funding. · A number of targeted funds would then be set up focussing on different investment opportunities within the sector. For example: o £100m focussed on general SME agri-food business opportunities e.g. primary food processing o £75m focussed on agri-food businesses developing new technologies o £75m focussed on business using technologies driving sustainable food production · Council Regulation (EC) No 1698/2005 on support for rural development by the European Agricultural Fund for Rural Development (EAFRD) allows for the use of rural development funding for the use of 'other financial engineering actions' including contributions to support venture capital funds, guarantee funds and loan funds. · Council Regulation (EC) No 1974/2006 which lays down the implementing rules for 1698/2005 outlines how Member States would implement this in their Rural Development Programmes. · Cost neutral to UK Treasury - fund would provide return to Treasury equal to cost to them of borrowing their co-financing contribution which could eventually be re-invested. · Funds could come from the following sources: o European Agricultural Fund for Rural Development (EAFRD) § Under spend in England against current spending plans - current indications are that there will be a significant under spend across England in 2008/09 across programme and modulated funds. § The devaluation of sterling over the past year means that funds available from European budget could be significantly higher than originally envisaged.[2] If the exchange rate stayed around its current level for the next three years this could mean up to a 30% increase in the budget. o Co-financing by the Treasury. o RDAs o Private sector · Broad make up an example £250m fund: o £70m from European Agricultural Fund for Rural Development (EAFRD) § £247m in Axis 1 * 25-30% o £40m in Treasury co-financing o £40m from RDAs (8*£5m) o £100m of private sector investment · Possible target returns on various funding sources might be as follows: o EAFRD and RDA funds: 0% o Treasury co-financing: 5% o Private sector: 15% · Cost of administrating fund 2-3% · This would mean that an average return of 8-10% would be needed from the fund's investment portfolio. [1] For example - Enterprise Capital Funds excludes investment in sensitive sectors such as the production of agricultural and fisheries products listed in Annex I referred to in Article 32 of the EC Treaty |