The new Cooperatives Act 14 of 2005 was promulgated in August 2005 to promote the development of sustainable cooperatives in South Africa and their use as a vehicle to develop small enterprises. This paper uses the new institutional economics (NIE) to highlight problems created by the Act. Case studies were done of three producer groups in KwaZulu-Natal that formally registered as cooperatives after August 2005. It is clear that the cooperative model was adopted because it was seen as a precondition for government support. All of these cooperatives displayed symptoms of institutional problems and two of them had mitigated these problems by shedding their poorest members and creating their own rules to reward investors with capital gains. The first of these ‘solutions’ is not consistent with the objective of pro-poor economic development; the second is at odds with the new Act. It is recommended that the new Act should be amended so that cooperatives can at least issue tradable equity shares that offer benefits proportional to shareholding. In addition, it is recommended that the same level of start-up support should be made available to all producer groups that formally register their business, regardless of the business model chosen, and that member empowerment should be an essential requirement for registration and public funding.