Chapter 3

Vertical holdings integration as a factor of competiteveness of agriculture

3.1. The need for vertical coordination in dynamic agrifood markets

Food and agricultural commodity markets, particularly in developing countries, have undergone tremendous changes in the past decades (Reardon and Barrett 2000; Swinnen and Maertens 2007). The global integration of the agricultural sector has been paralleled by irs.Iiberalization.in.many developing countries, leading to privatization of state enterprises, dismantling of state interventions and often higher levels of foreign investment in domestic food retailing and production. Supermarkets have become major actors in domestic food supply chains (Reardon et al. 2003). In addition, there has been a shift from public to private food standards in response to consumer concerns about food safety, quality and the socio-economic and environmental conditions of production (Henson and Reardon 2005). On the consumer side, rising incomes and the quest for variety and convenience have led to greater product differentiation and market segmentation. On the supply side, food processors and retailers have introduced quality assurance schemes for strategic reasons

Agricultural products previously traded as standardized commodities are increasingly valued for specific traits and are differentiated according to their inherent quality attributes (Hobbs and Young 2000). The internationalization and concentration of agricultural value chains have implications for small-scale producers in developing countries, who must now adapt their production methods to fulfill the new requirements of local and international customers.

These structural changes in agrifood markets have increased the need for vertical coordination in value chains. More vertical coordination means that the activities and investments of individual economic actors (such as producers, processors, traders and retailers) along the value chain become more closely aligned.

Thus, vertical coordination requires complex information exchange, not only on supply and demand, but also on the quality requirements of retail customers and final consumers. As the quality of the final food product is often a cumulative function of handling activities at several stages of the value chain, upgrading quality implies coordinating those interdependent activities. In addition, the introduction of new products usually requires a coordinated innovation effort involving all actors in the value chain. Finally, improving logistic efficiency, Agricultural cooperatives and value chain coordination either for strategic or for quality control reasons, requires better coordination of the sequential activities in the value chain.

In light of the above-described changes in the agrifood market, agricultural cooperatives have gained increased attention in the development arena (Bose et al.2001; IFAD 2003; World Bank 2007; Shepherd 2007). International donors and NGOs have (re)discovered the importance of cooperatives for rural development in general and for strengthening smallholders' access to markets in particular.

This chapter defines cooperatives as 'formal forms of farmer collective action for the marketing and processing of farm products and/or for the purchase and production of farm inputs'. One of the most interesting and at the same time most challenging characteristics of the cooperative is its dual nature (Draheim 1955).

A cooperative is an association and therefore a community of members and it is affirm. Due to its sui generis character as both a group of persons in the sociological and psychological sense and joint commercial enterprise (Levi and Davis 2008; Valentinov 2004; 2005), social interaction among the members is expected to play an important role in conditioning the performance of the enterprise, including in value chain coordination. The impact of this dual character of the cooperative on its performance has received very limited scholarly attention so far. As cooperatives are faced with new value chain challenges, more attention to the interaction between social and economic processes in the complex organization of the cooperative is justified.

The main objective of this chapter is to develop an integrated theoretical framework for analyzing the ability of cooperatives to engage in value chain coordination. The chapter integrates insights from transaction cost economics, organization theory and social structure theory.

From this perspective, cooperatives are transaction-oriented organizations; and fanners become members because the cooperative can perform a marketing transaction or input-purchasing transaction more efficiently than alternative organizational forms.' Organization theory has a long tradition of dealing with intra-organizational coordination issues (Thompson 1967; Galbraith 1977). This stream of literature informs us about the options and limits of different ways of organizing coordination among activities carried out by different actors, either within the boundaries of one organization or among collaborators in a partnership. Finally, social structure theory informs us about the effects of social relationships and social mechanisms on the efficiency of economic transactions. Social structure has been acknowledged as an important factor for the success of collective action (Ostrom 1994, 1999), for the efficiency of community governance (Bowles and Gintis 2002; Hayami 2009), and for the value creation and cost reduction effects of social networks (Coleman 1988; Burt 2000; Borgatti and Foster 2003).