Electric cooperatives (ECs) in the Philippines are characterized as not-for-profit. I believe that it’s deceptive and misleading to think that the government doesn’t tax ECs in the Philippines because they somehow “need a break.” It’s also deceptively misleading and even fallacious to think that ECs don’t make (or need to make) any surplus (i.e. “profit”) above their operating expenses (opex here being loosely defined as anything that is normally deductible for purposes of calculating income tax).
First, let’s back up and revisit an implied compact between the government and normal corporations. The government basically is saying to firms:
“You can sell your goods at any price you want, but if there’s a surplus of earnings above your cost to produce and sell the goods then I want a share of that execss. Specifically, I want 35% of it. You can keep the rest and do whatever you wish with it. You can keep it in the firm (as retained earnings, which can, up to a point, actually lower your cost of doing business and thus increase your profits) or you can simply extract it and give it to your owners.”
For cooperatives (any kind of cooperative, and this is true throughout the world) the compact with the government goes something like this:
“If you generate a surplus of earnings above your cost to produce and sell the goods, then you must either retain it in the business solely to reduce your cost of doing business or you must return it to your customers. In either case, since your customers, and only your customers, benefit, I won’t take any cut from that profit as it is essentially returned to the customer anyway.”
So there IS a difference in a cooperative and a normal firm. But it has nothing to do with generation of profits. It has everything to do with where the profits go and how they are used.
Cooperatives are non-taxable NOT because there is nothing to tax. There ARE surpluses or profits, if you will. But the profits go back to the customer. And it’s instructive to not forget that a normal firm, like Meralco, is also not taxable if they reduce their price to a level that generates no surplus to be extracted by owners.
So, to revisit my main thesis:
Cooperatives are “classified” as not-for-profit, but that is because their surpluses are assignable solely back to their customers – not that they don’t generate surpluses!
So why is the dangerous?
Because everybody – from the lowest EC staff member to their key managerial staff and Boards of Directors, to customers, to politicians, to bankers, to policy makers, to regulators – get it in their heads that Philippine ECs are not allowed to generate a profit. From there it’s a simple leap to justifying the dismantlement of the whole cooperative electric sector – because everybody with an ounce of business experience knows you can’t operate without margins. But even more insidious than that, it’s a sophistically specious concept that leads to bad regulation, bad credit, bad management, bad policy.
There are a number of savvy managers and Boards throughout the sector that understand this very clearly; but, even they have to maneuver around and through an environment that is misinformed. Electric cooperatives would be better served by never using the term not-for-profit and just focus on good business practices – including the communication with their customer base (and politicians and bankers, etc) about how pricing levels are determined and how whatever profits are generated are plowed directly back to them or to their benefit.
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i don’t get this:
“From there it’s a simple leap to justifying the dismantlement of the whole cooperative electric sector…”
dismantlement? what do you mean?
GabbyD: Dismantlement = privatize
Although I’m using the term privatization loosely. ECs are already private corporations. But I mean conversion to (i.e. sell-out to or take over by) private SEC registered “for-profit” corporations.
@nick
thanks, but still confused about the point you r making…
1) you say EC aren’t taxed because they are not for profit
2) then you say that is a misnomer — there are profits, but they go to the consumer or to investment.
3) then you say this misclassification is dangerous…
why? because the sector will be dismantled/privatized… ?
then you say:it’s a sophistically specious concept that leads to bad regulation, bad credit, bad management, bad policy.
whats the “it’s”? privatization? the misclassification?
i’m a little slower today than usual, coz i got the cold. i’m sure this is supposed to make sense, but i’m blanking here….
could you make the danger more explicit? and what does it (whats the ‘it’?) lead to all those bad things?
ty!
GabbyD: You’re way to kind in pointing to weaknesses in my swashbuckling arguments. Let me take a shot.
First, “not-for-profit” is the sophistically specious concept I’m referring to.
In making the danger more explicit, the following are just postulates for consideration:
A commercial bank analyst is having to make a recommendation on accepting an EC’s P100 million loan request for capital expansion. He understands that ECs are not-for-profit therefore he concludes that they can’t earn profits or margins on their operations. He concludes it’s it’s a crazy risk to lend to such an entity if they have no “equity” cushion. The EC fails to correct the bank’s misperceptions. The bank refuses to make the loan.
Similarly, the ERC refuses to permit the EC to raise tariffs to a level that will generate, over time, adequate equity levels and disallows accumulation of equity required for a business to operate through transient uncertainties that arise from time to time. The EC gets in financial problems and becomes insolvent.
A Board refuses to implement a Manager’s recommendation to generate margins and equity because, supposedly, they are “not-for-profit”. The EC, over time, can’t operate economically because of this handicap and …. goes insolvent.
In all of the above, the “it” that leads to bad things is the misconception about ECs being “not-for-profit.”
hanks, but still confused about the point you r making…
1) you say EC aren’t taxed because they are not for profit
2) then you say that is a misnomer — there are profits, but they go to the consumer or to investment.
3) then you say this misclassification is
The difference between the revenue and the expenses in a profit organization is called PROFIT.
The difference between the revenue or sources of income of non-profit and its operating expenses is called SURPLUS.
A non-profit is not prevented from operating with a surplus, neither it is prevented from acquiring assets which can serve as collateral when it secures a loan.
Cooperatives can be private or government-owned.
Whatever surplus generated is returned to members as refunds to rebates.
The commercial bank analyst should not evaluate the loan thru the profitability of the project where loan is intended. IT could be the savings generated from the project of capital expansion.
The Ca t – I agree with everything you said.
Profit and Surplus are two different words for the same thing.
The problem is that in the Philippines I hear way to often that ECs aren’t permitted to earn a profit.
I’m trying, not very effectively apparently, to make the case that that too-widely-held misperception has serious detrimental repercussions. And I’m furthermore trying to make the point that focusing on the characterization of ECs as not-for-profit simply fosters that misperception.
Now you are welcome to disagree about the “serious detrimental repercussions” but that is my argument.
Privatization of EC’s are driven by business interest. Without competition , private business can blackmail the government into bailouts and high prices with threats of blackouts. It is also common knowledge for many business people that ensuring capacity and adequate generating reserves of electricity during times of peak demand has been abandoned to market forces. Electric prices are based on market forces not on the cost of production. It is based on the desperate demands of consumers WANT for electricity. This has led to sky-rocketing prices whenever private companies are able to limit supply in times of high demand.
Electricity is a commodity. Like Rice, Fish and Poultry , it is also the people’s basic needs.
Electricity is also the most basic necessity for every business owners , small business, medium and large. Efficiency and low cost can spur economic growth. Try opening a small business without electricity? The businesses will have difficulties from succeeding.
The government must create competition thru privatization of other suppliers and allow the “opening up” of other strategies to cut prices and to supply consumer’s demand. In our country, there’s no proper regulation and the result is MONOPOLY. Supply chain and distribution based on good practices is not present. It can also be the lack of Managers understanding.
Non profit org are tax at 10% and profit org are tax at 35%. In coop, individuals are taxed from income derived from coop dividends or profit sharing.
The problem in this country’s public management has always been based on emotion. It cannot accept scrutinies, recommendations or even guidance provided by many experts and organizations in the world. The most common reaction is ” who are you by the way to tell me what to do”. Or ” get out of the Philippines”.
Why can’t public officials accept its fault and correct its wrong strategies. Decision making should be based according to their relationship with people. It’s a bilateral agreement to provide social harmony and practice social responsibility. They should act like the managers of the 20th century acceptable enough in the global world.
Private entities in this country are also known for paying bribes or gifts to influence policy making. This may be acceptable with full disclosures only. It should also be highly regulated thru its appropriateness, consequences and impact to people.
Problems are manageable and cannot be ignored because of some ignorant excuses.
Taxation on EC’S is not the only factor on electric distribution cost. It can be a part of the cost. It’s driven by market forces, supply and demand. People demand on lower cost and businesses demand on lower taxation can be manageable thru policymaking and finding solutions in a timely manner.
Leytenian,
” who are you by the way to tell me what to do”. Or ” get out of the Philippines”.
You are stating that the above is the standard reaction.
Not really. That reaction comes whenever the People are lectured and “scolded” by the so-called experts, know-it all.
Just like what others do.
kanto,
When the job is about servicing people, one’s pride must be separated by the actual job description. Improvement of skills and talents are dependent on feedback from others. At personal level, we filipinos are good in reaching out to our families and friends in times of trouble. Why can’t we apply our attitude to the real world of public management? The real foundation of the filipino people might have been abandoned at the political level ( morality issue). Accepting to correct and listening for feedbacks are the best strategies for this country.
It can be a standard reaction because until now the Philippines is a mess, don’t you think? I may probably change my opinion only when our people are totally free and happy. As of the moment, we all know we are very unhappy the way officialdom works. Obviously, there’s a big difference between good governance and bad governance. The world bank assessment cannot be ignored.
It can be a standard reaction combine with blame game.
Thanks for this clarification as i agree that ‘not-for-profit’ institutions also need to earn a profit (or surplus) in order to be viable. I think part of the confusion is to associate ‘not-for-profit’ organizations like cooperatives with outright charitable institutions (like the Red Cross).
@Nick and @cvj, I agree, I think that point is made clear now with this piece..
An electric cooperative being organized as a not for profit juridical entity is given that tax incentive where private and public capital are lacking for whatever reason for that particular sector.
The owners are the consumers. That label not-for profit is used simply as a label. Coops are for the exclusive benefits of its members. Not for the general public.
Private juridical entities organized for profit are another matter altogether. It is intended to benefit the owners/stockholders in providing goods or service to the public at large naturally for a profit. It is not even mentioned in the charter of the corporation. It is a given.
The transmission company and the private generating companies do not like the idea of electric coops since they have an indirect government subsidy which the big boys would like to monopolize.
There is no private utility in this country that has an obvious natural monopoly that operates solely and exclusively with private capital.
None!!!!They are all subsidized one way or another.
The facts on the ground on electric coops is that they always lose money since the deregulation of prices have led to more defaults on payments of electric bills.
Hence they get always a continuing subsidy from the government and they are always in the red.
Plus the big boys would like to run them over and take over their business since those that pay higher prices for higher consumption subsidize those with lower consumption in the public arena.. Plus the big boys can always cut off people electricity.
Since the big boys here are consolidating ownership of power in the country the electrical coops stand in their way.
All strategic sectors of the economy like banking and other public utilities have a direct and indirect subsidy form the taxpayer.
The term privatization rings hollow today in the midst of the ongoing financial crisis.
Also it is not true that not for profit groups cannot access loans. They can and do.
my view here is that.. EC as a “Not for Profit” – but for Surplus is a good system in our power industry..
What is bad is the dominant Capitalist culture in our system — that has greater influence in the coop managerial staff, politicians, member-consumers, policy-makers, including the consultants who adheres for PRIVATIZATION (would mean conversion of EC).. to serve the PROFIT interest of the corporate entity….
The capitalist culture is a bad symptom in our economy… PROFIT MOTIVATION as they think is a normal firm business.
Capitalist culture is destroying our moral fabric in society.