The following is an excerpt from “Equity Crowdfunding: Transforming Customers into Loyal Owners”:

In 1902, newlywed immigrants gave life to a baby boy. Little Lloyd Anderson was born in rural Roy, Washington, outside of Tacoma. At the time, Roy was a prosperous boom town that served as a major stop on the train line (Roy is now a small community with a population of less than 1,000 after a Depression-era fire wiped out the entire downtown area). As a child, Lloyd enjoyed playing outside with his friends, and he took an early interest in climbing small mountains around his home town.

In 1932, he married Mary Gaiser, a girl from the Yakima Valley, Washington, about 100 miles away. Mary grew up in a family that enjoyed spending time taking long hikes. Their shared love of the outdoors was the centerpiece of their relationship.

In the early years of their marriage, the Andersons joined a climbing group where they could spend time with other couples while enjoying the outdoors. During the cold winter of 1938, the climbing group attempted to scale a snowy peak in Washington State, but were unsuccessful because of lousy equipment.

It was not exactly a common recreational activity to climb mountains in the United States. But in Washington, a number of the people who had made the trek to the Pacific Northwest were second and third generation immigrants from areas of Europe where climbing was a common activity. Countries like Germany, Austria and Switzerland have a long history of climbing, as it was often the only way to travel across the Alps.

Scaling mountains requires particular specialty climbing equipment. One of the basic multi-purpose tools used by every climber is an ice axe. Not only does the ice axe cut the footholds that are used while scaling the mountain, climbers also use it to assist during the descent by burying it in the ice. Even when used as a mere walking stick, the ice axe is a critical piece of climbing equipment.

Not surprisingly, the members of the Anderson’s Pacific Northwest climbing club were dissatisfied with both the workmanship and pricing provided by the few stores that produced ice axes in the United States. To find an ice axe that would impress these experienced climbers, Lloyd Anderson took it upon himself to look through every store in Seattle for a high-quality European-made ice axe. Having no luck, he began scouring European sports catalogs. He found a $3.50 (shipping included!) ice axe from Austria. It was called an Akadem Pickel Ice Axe.

The Anderson climbing group banded together, 23 strong, to purchase 23 Akadem Pickel Ice Axes – at a discount because Anderson bought in volume. Anderson then organized this collective group into what would become Recreational Equipment Inc., known as REI.  Born of necessity because there was no European-quality climbing equipment in the Pacific Northwest, REI became the largest privately held American consumer co-operative selling outdoor recreational gear. REI sells about $2 billion worth of equipment each and every year across its 125 stores in 31 states, and it employs 11,000 people. The company continues to grow, doubling in size since 2000.

When first attempting to find a way to purchase additional equipment, Lloyd Anderson eagerly researched a wide variety of topics. He was an engineer by trade, and his training would not permit him to act without disciplined thought. Anderson’s research brought him to the Rochdale Equitable Partners Society, a 19^th century organization that was the beginning of the co-operative movement. Rochdale was an organization of 30 English weavers and other tradespeople who decided that they would pool their resources to purchase basic food staples like sugar, flour and oatmeal. The food co-operative exploded into nearly 1,000 physical store locations within ten years of its creation. The leaders at Rochdale laid out certain principles which have formed the bedrock of co-operatives even to this day. The principles include voluntary membership, no racial or religious discrimination for membership and democratic member control. These same principles were adopted by the International Co-operative Alliance.

There were several Rochdale principles that guided Anderson’s thinking. From its beginning, REI is a co-operative that follows these three guiding ideals:

1) A modest one-time membership fee is paid by customers to become owners of the co-operative. To this day, the REI membership fee is a mere $20 per member.

2) Every active REI member receives one vote.

3) Annual dividends are paid out in proportion to patronage. The theory is that customers that contribute more to the sales should receive more of the profit in return.

This socialist approach to business organization resulted in REI’s eventual success. But the success was anything but the quick acceptance found by the Rochdale Society (which had exploded into 1,000 stores within ten years of its creation). Of course quick growth wasn’t Anderson’s idea at all – he just wanted to find a way to give climbers in the Pacific Northwest a good deal on outdoor equipment.

Initially, the co-op operated out of the Anderson’s house in Seattle. But eventually interest in European-style equipment began to grow, likely as the result of young soldiers returning from the European front lines of World War II. The youthful vets experienced the winters in Europe, and they appreciated what reliable equipment could do in those circumstances. So by 1944, Anderson moved the growing operation from the back of his house into the back of a gas station in downtown Seattle. This was REI’s first store.

The slow growth continued. REI finally hired a full-time employee to manage the store in 1953. Jim Whittaker was a regular to the Pacific Northwest climbing scene. Nearly a decade after beginning his career as store manager, Whittaker would draw serious attention to REI when he became the first American to reach the summit of Mount Everest. Whittaker stayed with REI for a quarter of a century after his climb, generating interest for this sleepy company from Seattle among a growing number of outdoor enthusiasts.

By 1971, Anderson was ready to retire. At that time, REI still had only one store. But there were some small improvements – in 1962 the store was moved from the back of the gas station to a storefront. It was time for Whittaker to become president and expand the company.

In 1975, the Berkeley California REI store was opened. It was 31 short years after the first store had opened its doors and nearly 40 years after the company was founded. A year later, another store opened in Oregon. And from there, REI began its transformation into an evolutionary company, bringing top-quality outdoor equipment across the country, while still maintaining its co-operative approach. But Whittaker’s expansion plans caused him to lock horns with a number of the co-operative members who felt that REI should remain a small, socialistic experiment in the Pacific Northwest.

By 1979, Whittaker had given up. “A lot of board members were against growth; they wanted it to be the same little store,” Whittaker said. But despite his resignation from the company, Whittaker’s vision won out. REI hired Jerry Horn, a former senior executive from Sears who specialized in merchandise sales. From there, Horn’s expansion led to an increase in the co-op dividends from 5% to 12%. It has since stabilized at 10%.

REI memberships are $20 for a full lifetime. REI issues its annual dividend check based on the previous year’s profits. The dividend check is proportional to the member’s purchase amount, and it expires two years from the date of issue. The dividend can be exchanged for further purchases, or the member can elect to receive cash during the last six months of the year that the dividend was issued. REI members also get discounts on rentals, free shipping, shop services, and they get to use the rock walls of locations with indoor climbing. Members also receive periodic coupons.

The initial concept of the co-op structure was to receive volume discounts and reduced prices on shipping by purchasing mass quantities at once. However, now REI has become a large corporation that utilizes its purchasing power to increase profit margins. Despite its unsurprising corporate-profit motivation, REI continues to donate to environmental groups and coordinates their employees to serve as volunteers for these groups. In addition, REI offers meeting space free of charge to nonprofit organizations – a clever way to get people into the store, where it is hard not to buy something.

This model has been successfully duplicated in Canada by a company called Mountain Equipment Co-op. According to the company’s website, the co-op was founded by the Varsity Outdoor Club, a group of student climbers from Vancouver who had to travel across the border to Seattle to buy items from REI. Tired of being hassled by immigration officials and demands to pay import taxes whenever they traveled to buy equipment from the United States, in 1971 this group of climbers decided to emulate REI’s model. A familiar story later, by 2011 Mountain Equipment Co-op had reached $261 million in annual sales with 3.3 million members throughout Canada.

So what can be learned from this little sleepy co-op from the Pacific Northwest? Well, if you know an REI member, you already know the answer. The co-op members are unfailingly committed to REI. First of all, the company sells great products made by great manufacturers. Their customers demand the sort of quality that can’t be easily found at Walmart. The co-op members are the ones who vote on the Board of Directors, so the Board has a strong motivation to provide consistently high-quality products.

Unlike an Internet e-commerce shopper who navigates the Amazon marketplace, you won’t see an REI member purchasing outdoor equipment from anyone but REI. And that’s true regardless of the price. The REI members are an evangelical crowd, promoting the virtues of REI to everyone who will listen. And, as you can imagine, conversations occur frequently between members of this community. Remember, these enthusiasts are used to taking a break on the trail, popping a granola bar, and having a conversation with the person coming up the trail from behind. Even a simple “hey” would be normal; but much more often, fellow enthusiasts create new friendships and relationships based on their shared interests.

In fact, those relationships are one of the great benefits of becoming an outdoor enthusiast. This network of people share stories about the best trails, the best activities, and, of course, the best equipment. Long before people were using the Internet to connect, outdoor enthusiasts used bulletin boards at the local REI to communicate where the next “meet up” would be. This is an important element of any successful business – finding people with common interests, who appreciate and admire your product.

In the case of REI, this relationship is enhanced by the fact that the customers are more than customers. They are co-op members. They’re owners. And REI reminds them of this every year. In January, shortly after you’ve done all your Christmas shopping, something shows up in your mailbox. Yes  – it is a catalog. But there’s also something else inside: a check. A dividend check. Something that only members receive. Outside of a co-op, we call members “owners”. And there is only one thing more loyal than an owner – an owner with a dividend check in their hand.

Jonathan Frutkin is an attorney at The Frutkin Law Firm, PLC in Phoenix, AZ. He’s written a new book called “Equity Crowdfunding: Transforming Customers into Loyal Owners” which was published in May, 2013.