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Holding Company

A company that exists for the purpose of owning assets

What is a Holding Company?

A holding company is a company that doesn’t conduct any operations, ventures, or other active tasks for itself. Instead, it exists for the purpose of owning assets. In other words, the company does not engage in the buying and selling of any products and services. Instead, it was formed so that it gains control over one or more companies.

 

Holding Company

 

How It Works

There are two main ways through which corporations can become holding companies. One is by acquiring enough voting stock or shares in the other company; hence, giving it the power to control its activities. The second way is by creating a new corporation from the ground up, and then retaining all or part of the new corporation’s shares.

Although owning more than 50% of the voting stock of another firm guarantees greater control, a parent company can control the decision-making process even if it owns only 10% of its stock.

The relationship between the mother company and that of the corporations they control is called a parent-subsidiary relationship. In such a case, the mother company is known as the parent company while the organization being acquired is called a subsidiary. If the parent company controls all the voting stock of the other firm, that organization is called a wholly-owned subsidiary of the parent company.

 

Types of Holding Companies

 

1. Pure

A holding company is described as pure if it was formed for the sole purpose of owning stock in other companies. Essentially, the company does not participate in any other business other than controlling one or more firms.

 

2. Mixed

A mixed holding company not only controls another firm but also engages in its own operations. It’s also known as a holding-operating company.

Holding companies that take part in completely unrelated lines of business from their subsidiaries are referred to as conglomerates.

 

3. Immediate

An immediate holding company is one that retains voting stock or control of another company, in spite of the fact that the company itself is already controlled by another entity. Put simply, it’s a type of holding company that is already a subsidiary of another.

 

4. Intermediate

An intermediate holding is a firm that is both a holding company of another entity and a subsidiary of a larger corporation. An intermediate holding firm might be exempted from publishing financial records as a holding company of the smaller group.

 

Benefits of a Holding Company

 

1. Greater control for a smaller investment

It gives the holding company owner a controlling interest in another without having to invest much. When the parent company purchases 51% or more of the subsidiary, it automatically gains control of the acquired firm. By not purchasing 100% of each subsidiary, a small business owner gains control of multiple entities using a very small investment.

 

2. Independent entities

If a holding company exercises control over several companies, each of the subsidiaries is considered an independent legal entity. It means that if one of the subsidiaries were to face a lawsuit, the plaintiffs have no right to claim the assets of the other subsidiaries. In fact, if the subsidiary being sued acted independently, then it’s highly unlikely that the parent company will be held liable.

 

3. Management continuity

Whenever a parent company acquires other subsidiaries, it almost always retains the management. It is an important factor for many owners of subsidiaries-to-be who are deciding whether to agree to the acquisition or not. The holding firm can choose not to be involved in the activities of the subsidiary except when it comes to strategic decisions and monitoring the subsidiary’s performance.

It means that the managers of the subsidiary firm retain their previous roles and continue conducting business as usual. On the other hand, the holding company owner benefits financially without necessarily adding to his management duties.

 

4. Tax effects

Holding companies that own 80% or more of every subsidiary can reap tax benefits by filing consolidated tax returns. A consolidated tax return is one that combines the financial records of all the acquired firms together with that of the parent company. In such a case, should one of subsidiary encounter losses, they will be offset by the profits of the other subsidiaries. In addition, the net effect of filing a consolidated return is a reduced tax liability.

 

Summary

A holding company is one that individuals form for the purpose of purchasing and owning shares in other companies. By “holding” stock, the parent company gains the right to influence and control business decisions. Holding companies offer several benefits such as gaining more control at a small investment, retaining the management of the subsidiary firm, and incurring lower tax liabilities.

 

Related Readings

CFI offers the Financial Modeling & Valuation Analyst (FMVA)™ certification program for those looking to take their careers to the next level. To keep learning and advancing your career, the following resources will be helpful:

  • Conglomerate Discount
  • Corporate Structure
  • Proxy Vote
  • Takeover Bid

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