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Investing for the Long Run	The Co-op	27	Why economists expected worker co-ops to underinvest, what the evidence actually shows, and the rules that keep members who are about to leave from starving the firm, running it down or wasting its reserve.

Investing for the Long Run

Picture a machinist who is 60 and plans to retire in three years. Her co-op is voting on a $2 million production line that will take four years to start paying off, then earn money for fifteen. Whichever way it's paid for, part of the cost comes out of the profits she shares in while she's still there, and almost all the benefit goes to people who work there after she's gone. Why would she vote yes?

That's the horizon problem: a member's stake in the firm lasts only as long as their job, but many good investments last much longer. In a conventional company the problem mostly doesn't arise. A shareholder who plans to sell next year still wants the company to invest well, because the share price reflects the future profits the investment will earn. A co-op member has no share to sell. The lock makes sure of that.

This page explains why economists worried about this, what actually happens in real co-ops, and how this model handles it.

The worry

In 1970 the economists Eirik Furubotn and Svetozar Pejovich, studying worker-run firms in Yugoslavia, argued that such firms would pay out too much and invest too little, because members can't take the value of an investment with them when they leave. The same year Jaroslav Vanek, one of the leading academic supporters of worker management, predicted underinvestment in firms that finance themselves from collective savings (both summarized in Novkovic, Journal of Socio-Economics, 2008). Taken to its extreme, the prediction is that such firms slowly starve themselves of capital.

It's a serious argument, and the design has to answer it rather than hope it away.

What actually happens

The predicted underinvestment mostly doesn't show up in the data.

• France. The largest comparison so far used two big, representative samples of French firms across many industries, including services. Worker co-ops were as productive as conventional firms or more so, used their equipment and labor efficiently, and weren't inefficiently small. Contrary to the textbook prediction, they grew as fast as conventional firms or faster (Fakhfakh, Pérotin and Gago, ILR Review, 2012).
• Italy. A study of a large panel of Italian worker and social co-ops tested the prediction directly. It found the opposite of what the theory expects: the more of a co-op's capital was held in collective reserves that no member can withdraw, the more productive it was (George, Fontanari and Tortia, 2019).

But there's a catch, and it matters. These co-ops don't get to choose freely. Italian law requires every co-op to put at least 30% of each year's profit into a reserve that members can never take out (Italian Civil Code, art. 2545-quater; Lomuscio and Tortia, 2023). Mondragon did the same thing by its own rules. So the honest reading isn't "the horizon problem is a myth." It's "a required reserve seems to be enough to keep it in check."

Mondragon's history shows the pressure is real. When its co-ops set their own reserve levels, the share of profit going into reserves swung from 35–53% in the 1960s down to 11–29% in the 1970s. One co-op, Alecoop, which employs students who leave every three years, faced losing its capital as each group took its money out, so it raised its reserve share to 60%. In 1989 Mondragon raised the minimum reserve for all its co-ops from 20% to 50% of profit (Morris, The Mondragón System, 1992). Where the horizon pressure bit, the answer was a bigger required reserve.

The fix that backfired: selling your place

There is an obvious way to solve the horizon problem completely: let members sell their membership when they leave. Then, like a shareholder, a retiring member benefits from every good investment, because it raises the price of their place.

The plywood co-ops of the Pacific Northwest did exactly this. Each member owned one share, and shares could be sold to new members. For decades they were among the most durable worker-owned firms in American manufacturing. Economists who later studied the share prices found membership had been extremely profitable (Craig and Pencavel, American Economic Review, 1992).

Then success worked against them. Workers nearing retirement found their shares had risen from $1,000–2,000 to $25,000, $50,000 or more. Young workers couldn't afford to buy in, so retiring members sold to conventional lumber companies instead (Lindenfeld and Wynn, 1995). Observers called it "the failure of success." It wasn't the only cause of their decline. The whole plywood industry moved south from the 1960s on, and many conventional mills in the Northwest closed too (Pencavel, lecture notes on worker co-ops, 2018). But the co-ops that were sold while still profitable were sold because their members could sell them.

The retiring plywood workers weren't doing anything wrong. They were making a free choice with property they legally owned. This model simply doesn't create that property. A tradable membership turns the co-op back into something owned and sold, which is exactly the claim the thesis says this kind of firm exists to prevent. And it prices the next generation of workers out, which is how the plywood mills ended up being sold.

Who pays for an investment, and when

The horizon problem bites when the members voting today pay for an investment whose benefits arrive after they leave. How much it bites depends on where the money comes from.

1. The reserve. At least 30% of every year's profit goes into the co-op's permanent reserve (see Member Capital Accounts). No current member can ever take that money home, so paying for the line this way doesn't cut our machinist's share this year. (The line's cost still counts against profit a little each year, as point 3 explains.) The reserve is money that already belongs to the co-op's future, and it gets spent on the co-op's future.

2. Members' accounts. Money members leave in their capital accounts isn't lost when they leave. It's paid back to them with interest. So if the co-op keeps more of this year's profit in members' accounts to pay for the new line, the machinist gets her money back, by default five years later, whether or not she's still there. Her real cost is the wait, and the risk that the co-op fails. Five years is shorter than most machines last, so for long-lived investments this helps less than it would if accounts were held until members left. Federal pension law is why they aren't (Member Capital Accounts).

3. Spreading the cost over time. A business doesn't count the whole price of a machine as a cost in the year it's bought. It spreads the cost over the machine's working life. A $2 million line that lasts 20 years counts as $100,000 of cost a year. This is called depreciation, and it's how ordinary accounting already works. The profit split is based on profit after depreciation, so the machinist isn't charged for the years after she leaves. The bank does the same with repayment: loans for buildings and long-lived equipment are paid back over the asset's working life, up to 25 years for real estate, the same limit the SBA's main loan program uses (SBA, types of 7(a) loans).

This doesn't fix everything. Depreciation spreads the cost evenly, but the payoff isn't even. If the line takes four years to start earning, the machinist is charged for three years of it and sees none of the benefit. That's the residual horizon problem, and it's why the reserve matters so much. The investments with the slowest payoff are the ones the reserve should pay for.

Where the gaps are

That leaves four ways the horizon problem can still get in.

• Paying it out as salaries. The reserve rule applies to profit, and members set their own salaries. A co-op could raise everyone's pay until there's no profit left, and the reserve would get nothing. Newer members have an extra reason to like this: their profit share starts small and grows with tenure, but their salary is paid in full from day one.
• Pay that isn't salary. Pensions promised for the future, retiree health cover, generous severance. These push costs onto whoever works there later.
• Selling off the furniture. The lock stops anyone selling the firm, but not its assets. Members about to leave could sell the building, book the gain as profit, split it, and leave their successors paying rent.
• Development that pays off late. Designing a new product or building software costs money now and pays later, but it's usually counted as a cost in the year it's spent. So the members voting today pay for all of it.

The rules

1. The reserve's share applies to pay above the going rate, too. This isn't a cap on wages. Members can pay themselves whatever they decide. But the reserve takes its 30% of everything members receive above the going rate, whether it's called profit or pay.

• The going rate for each job is the higher of two numbers: the median pay for that occupation in the co-op's own metro area, from the government's wage survey (the Bureau of Labor Statistics' Occupational Employment and Wage Statistics), or the local living wage for a single adult working full time, from MIT's Living Wage Calculator. Both are measured per hour, so part-time work and consultants are compared fairly. The living-wage floor matters. In home care the median wage can be close to poverty pay, and a co-op that raises its aides to a living wage shouldn't owe anything for doing it.
• Why a single adult's living wage. In Salt Lake City in 2026, MIT puts the living wage at $24.64 an hour for a single adult and $41.55 for one adult supporting a child. An earlier version of this rule let pay up to one and a half times the second figure, about $130,000 a year, count as "raising the bottom." That would have let a co-op pay every cleaner six figures without the reserve getting anything. The single-adult figure, about $51,000 a year there, is still well above what most aides earn. Paying more than that is allowed. The reserve just takes its 30% of the difference.
• It's checked job by job. Paying one group below the going rate doesn't make room to pay another group above it. An outside reviewer, the co-op's auditor or the bank's, assigns each person the occupation code for the work they spend most of their hours on, not their title, and the codes are shown to members next to each job. Where the survey has no figure for the metro area, the state figure is used, then the national one.
• It counts total pay. Employer retirement contributions above 6% of pay, bonuses, severance beyond two weeks' pay per year worked (up to 26 weeks), and perks like a car, housing or loans to members, valued at cost, all count as pay. So does pay to non-members and to people working through a related company, and the value of any deal with a member or their family on better than market terms, like buying from a relative's firm above the market price. Co-ops can't promise pensions or retiree benefits they don't pay for in full each year.
• How it's settled. Thirty percent of the excess goes to the reserve, first out of the member's profit share for that year, before it's paid or credited, and then out of their capital account. No new cash has to be found, because the members already took that money as pay. Taking it from this year's share first avoids a second round of tax on money already credited (How a Locked Co-op Is Taxed). If that isn't enough, the rest comes out of their future account credits, or out of their payout when they leave. For pay to non-members, it comes out of that year's members' profit pool.
• There's a precedent. US tax law already treats salaries that aren't "reasonable" as disguised profit (26 U.S.C. § 162(a)(1)), so owners can't dodge tax by calling profit pay. This rule stops the same disguise being used to dodge the reserve. The tax test is judged case by case. This one is a fixed formula, so it's cruder but much harder to argue about.

2. Gains from selling assets go to the reserve. If a co-op sells a building, equipment, a brand or a patent for more than its value on the books, the whole gain goes to the reserve, not into the profit split. A sale to an insider, or a sale-and-lease-back, is checked like any insider deal.

3. Development projects can be spread out, like machines. A co-op can designate a specific development project before it starts spending on it: designing a new product or a better production process, or building software. For the profit split only, its cost is then spread over up to five years, the same way a machine's is.

• Only real development qualifies. It has to meet the test international accounting standards already use to decide when development creates a real asset: it's technically doable, the co-op intends to finish it and can, and it's likely to earn money (IAS 38). Those standards specifically exclude training, advertising and start-up costs, and so does this rule. Those stay costs of the year they're spent.
• The people who chose it carry the risk. If a project is abandoned or written down within five years, the cost that hasn't yet been charged comes out of the capital accounts of the people who were members when it was designated, including former members whose payouts haven't been made yet. Each credit waits three to seven years before it's paid, so much of the money is usually still there. That makes the rule useless for pushing costs onto the next group of workers.
• Limits. The total cost still waiting to be charged can't exceed half of the co-op's average profit over the last three years, measured before any spreading. Only co-ops with an independent audit can use the rule, and the auditor checks each open project every year.
• It only changes how costs are divided between this year's members and future ones. It doesn't touch the co-op's tax return or its reports to the bank. The co-op publishes both numbers side by side.

4. Accounts earn a fair rate while they're at risk. A current member's account earns the one-year Treasury rate plus two percentage points, credited in years the co-op makes a profit. In a loss year it earns the plain Treasury rate. Money in a current member's account is at risk: it shares in the co-op's losses and ranks behind its lenders. Paying only a risk-free rate on it would push every member to take cash instead. Once a member leaves, the balance earns the plain Treasury rate. It no longer shares in losses, so it's no longer at risk, and nobody should collect a premium from the work of people they no longer work alongside. For comparison, Italian law lets co-ops pay members up to 2.5 points above the rate on its postal savings bonds on the capital they've put in (Lomuscio and Tortia, 2023), and Mondragon paid 6% plus an adjustment for inflation (Morris, 1992). The details are on the capital accounts page.

5. The reserve doesn't pay for high pay in a loss year. Mondragon calls its members' pay anticipos, advances on profits (Morris, 1992). This model treats the part of pay above the going rate the same way: as an advance against profit that hasn't been earned yet.

• If the year ends in a loss, the part of the loss up to the pay above the going rate, in that year and the year before, is charged to the people who got that pay, in proportion to how much each got. It comes out of their capital accounts, and out of their payouts if they've left since. The 30% rule 1 already moved from their accounts counts toward it, so nobody pays twice. The rest of the loss is shared as usual.
• An example. A co-op loses $50,000. Its managers were paid $30,000 above the going rate that year, and rule 1 already moved $9,000 of that into the reserve. The managers' accounts are charged $21,000 more. The other $20,000 of the loss is shared between the reserve and all members' accounts in the usual way.
• What their accounts can't cover comes out of their future profit shares, above the cash they need for tax, and nobody's above-going-rate pay can rise until it's repaid. After three years, anything still owed is written off.
• Pay above the going rate to non-members is charged to all members in proportion to their profit shares, since members chose to pay it. Members whose household income is under twice the poverty line are left out, and so is the insured slice of anyone's account.
• It never touches pay already earned. Wages and bonuses already paid or earned stay paid. The charge falls on savings in the co-op, not paychecks.

Without this rule, members could vote themselves high pay, run the co-op at a loss, and let the losses eat the reserve once their own accounts ran dry. That would be withdrawing the reserve by another name, which the lock forbids. The cost is real too. In an honest bad year, the best-paid people lose some savings, and some may leave.

When members stop investing, or invest badly

The horizon problem has two mirror images. Members who are leaving soon might let the co-op run down. And because the reserve can never be paid out, members might spend it on expansion that doesn't pay.

Running it down

Picture the worst case: a co-op whose members are mostly near retirement. What could they gain by letting it run down?

• Pay can't drain the reserve (rules 1 and 5), and neither can selling off assets (rule 2).
• Closing doesn't pay. If the co-op dissolves, members get their own account balances, which they'd get anyway, and everything else goes to the federation fund (The Lock). Nobody gets a windfall from shutting a working firm.
• The co-op can stop hiring and shrink as people leave. But workers it does hire join after probation, and members must do at least three-quarters of the hours (When People Don't Stay Long). It can't replace its members with cheaper employees.

That still leaves two real ways to run it down, and both come from how accounting works.

• Skipped upkeep. Repairs count as a cost in the year they're done, so skipping them raises this year's profit, and members share it.
• Machines that are "paid for." Accounting spreads a machine's cost over its expected life, its depreciation. Once that time is up, the machine stops counting as a cost, even if it's still running. If nobody replaces it, profit looks higher every year, and members split the difference. That's not savings. It's the machine wearing out.

6. Worn-out equipment keeps being charged. For the profit split only, buildings and equipment that are fully written off but still in use keep being charged at their last yearly rate, adjusted for inflation. That money goes to the reserve, not the split. So a co-op running on old machines builds up the money to replace them, instead of paying it out. Co-ops whose buildings and equipment are worth less than a tenth of their yearly revenue, like most service firms, can skip this.

There's no fair way to set how much every business should spend on upkeep, so this model doesn't try. Instead there's a warning light:

• Every year, the co-op shows members how much it spent on new buildings and equipment, including new leases, next to how much its existing ones wore out that year, adjusted for inflation.
• If spending stays below wear for three years running, an independent inspector reports on the condition of the main buildings and equipment. The lock-holder picks the inspector and the co-op pays. The report goes to every member, and to the bank if it's still owed money. The first five years after a buyout or conversion don't count, because buying a business makes its old equipment look like it's wearing out fast.
• A co-op that's shrinking on purpose, because its market is, says so in a written plan its members vote on. That's a warning light, not a spending order.

Spending it badly

Critics worry that money members can never take home will feel free, and get wasted on expansion. Fagor, Mondragon's appliance maker, expanded across Europe and beyond, with plants in Poland, France, Morocco and China, much of it on borrowed money. Then Spain's housing crash took away its main market, and it went bankrupt in 2013.

The danger is real, but reserve money isn't free to members.

• It earns money when it's not spent. Reserve money that isn't used earns interest, and members share in that interest. Spending it on a project that earns less makes their share smaller. They only get about 60% of that interest, so it's cheaper to them than it should be. It isn't free.
• Failures come partly out of members' own accounts. When a project fails, its value on the books is cut, and that counts as a loss. Losses are shared between the reserve and members' accounts in the same proportions as profit (Member Capital Accounts). The federation's share doesn't take losses, so members pay about 60 of every 90 dollars, two thirds. That holds only while they're still there, and only up to what their accounts hold, which is capped at a year's pay.

Fagor wasn't mainly a reserve problem. It owed about €800 million (about $1.1 billion) when it filed for bankruptcy (The Local, 2013). A study based on 44 interviews found that Fagor kept units losing millions of euros a year open well before the 2008 crisis. Its elected board often couldn't follow the business plans managers brought it, so it approved them and fired the managers when they failed (Basterretxea, Cornforth and Heras-Saizarbitoria, 2022, summarized by the authors in GEO). The Mondragon group had already put €70 million into Fagor from its shared fund, and other co-ops had lent more. In October 2013, when Fagor asked for €170 million more, the group's council refused unanimously, saying the money "would not ensure its business future" (GEO, 2013).

The risks that remain are the ones Fagor shows: big bets that members can't judge, losses that show up after the people who voted have left, and help from other co-ops that keeps a failing business going. So:

• A second opinion on big commitments. Some commitments need an independent written opinion before members vote: a single investment, a purchase of another business, or borrowing, including leases and guarantees, bigger than a quarter of the co-op's own capital (its reserve plus members' accounts) or $250,000, whichever is larger. Related commitments within two years are added together. The lock-holder picks the adviser from an approved list, and the co-op pays. A lender to the project can't give the opinion. The opinion comes with a one-page plain summary, including what the plan means for members' jobs, and there's a members' meeting to ask questions before the vote. It's advice, not a veto. The co-op publishes it with the result of the vote, and three years later reports how the project did against the plan. Replacing worn-out equipment like for like, and loans the bank has already checked, don't need it. Spin-offs get a similar opinion at a lower threshold.
• Losing parts of the business are visible. Where a co-op has separate lines of business, each one reports its own results to members every year (Does Sharing the Profit Mean Less Effort?). A line losing money for years can't hide inside the total.
• A board that can follow the plans. The federation offers training in reading the accounts, on paid time and open to every member, not just the board. The standard bylaws let members elect outside directors, from other co-ops or with business experience, but never more than a quarter of the board. The members choose them and can remove them.
• Limits on propping up a firm, decided in advance. The federation's fund helps a co-op through a bad year. Help to keep a firm going comes with a recovery plan and a limit set before any crisis, and cuts to members' pay or jobs in that plan need the members' vote. Help for the workers, like finding them jobs in other co-ops if the firm closes, has no such limit. Mondragon kept supporting Fagor and then said no. It's better to agree on where the line is before anyone's firm is on the wrong side of it.

What's still open

• Upkeep. Nothing forces a co-op to maintain what it has. The warning light shows when upkeep falls behind, but members can still ignore it.
• Late failures. A big project that fails after the members who chose it have left is paid for by the people who came after. The second opinion and the three-year report make bad bets less likely and more visible. They don't move the cost back to the people who made them.
• Deals with insiders after the loan. The check on deals with insiders is a condition of the bank's loan (The Hidden Boss). Rule 1 now counts a sweetheart deal with a member as pay, but who checks for them once the loan is repaid isn't settled.
• Whether 30% is enough. Italy requires 30%. Mondragon found 20% too low and moved to 50%. This model uses 30% as a minimum that each co-op can raise. The pilot measures investment per worker, and the return it earns, against matched conventional firms. So if co-ops invest too little, or waste what they invest, it will show.
• Is the account rate right? Two points above Treasury is well below what investors expect from a small business, so members may still prefer cash. Paying the co-op's own return on its assets instead would reward good investment directly, but it would also make the account more volatile. And lower-income members, who can take their whole share as cash, don't get the two points at all. That's fair only if the two points are a fair price for the risk the account carries, not a bonus. Which is better is unsettled.