What is a Holding Company?
A holding company is a type of corporate entity, typically a corporation or limited liability company (LLC). Typically, a holding company, or “Holdco,” does not create anything, sell any products or services, or engage in any other commercial activity. Rather, holding firms own the majority of the shares in other companies.
Although a holding company holds other firms’ assets, it sometimes serves simply as an oversight entity. So, while it may monitor the company’s management choices, it is not directly involved in the day-to-day operations of these subsidiaries.
Structure of holding companies
A holding company is one that owns and administers another firm by adequate voting power.A holding company is a type of parent company that has a controlling share in its subsidiary companies. It is necessary to structure the ownership pattern such that a holding company may readily control the policies and management choices of its subsidiaries.
Subsidiary enterprises in a typical holding corporate structure produce, distribute, or engage in other commercial operations. These are referred to as running firms. Assets held by other subsidiary corporations and used by operational businesses include real estate, intellectual property, vehicles, and so on.
The holding corporation may possess all of the shares or membership stakes required to manage the subsidiary, or it may possess only a portion of those necessary to do so. Control refers to the possession of sufficient shares or membership stakes to guarantee the outcome of an ownership vote. Every subsidiary possesses separate management that oversees day-to-day operations.
The holding firm’s administration is in charge of overseeing the activities of its subsidiaries. They maintain management skills. They have the right to appoint and remove business directors or LLC management, as well as make major policy decisions such as whether to combine or dissolve. These firms do not directly participate in the day-to-day operations of the business.
Examples of holding companies
Let us take an example of a well-known company, Berkshire Hathaway. This company owns the assets of more than one hundred private and public companies. These companies include Dairy Queen, Duracell, GEICO, Fruit of the loom, and many more. This company also has minor holdings in companies like Coca-Cola, IBM, American Express, Apple, Delta Air Lines, Goldman Sachs, and many more.
Read more: Holding company Examples
Features of a Holding Company
- The main aim of a holding company is to manage other companies, not depending on the form of business, whether it may be a limited liability partnership or maybe a limited liability company.
- Holding companies can also own properties, including patents, trademarks, etc.
- A holding company can easily hire or fire an employee from the other company, which is controlled by it, and managers are responsible for operational activities. Therefore, the owner of the company needs to keep an eye on their companies and ensure the operations.
- The holding company enjoys insurance policies against losses. Sometimes, it happens that a subsidiary company becomes bankrupt. This causes huge capital loss of the holding company and is also responsible for the decrease in the net worth of the holding company. But the creditors of the insolvent company cannot seek remuneration from its holding company.
- A holding company can organize as a parent company since a holding company can establish subsidiaries for different lines of their business.
Registration of Holding Company
There is the same registration process that is to be followed for registering a holding company all over the world. However, the most basic requirements for registration are articles of association and a Memorandum of association.
In the articles of association, the rights, rules and regulations of the holding company are specified. Tasks and controlling of assets of its subsidiaries are defined in the memorandum of association.
Further, it is required to give details related to the name of its subsidiaries, shareholding pattern of these companies, percentage of shares held by them in their subsidiary companies, etc., while registering a holding company.
In addition, by creating a new entity to work as a holding company, an existing entity can be reconstructed to work as a holding company through the merger. For a merger, the approval of shareholders is required.
Working of holding company
There are two main ways in which a holding company can be corporate. One way is by acquiring efficient voting stocks or shares of another company. This gives the power to control the activities of that company. The second way is to create a new organization and retain all or some of the shares of that new organization.
Although owning more than 50% of total shares then it gives greater control. A parent company or a holding company can control another company even if it holds 10% of its voting power or shares.
The relationship between a holding company and the company it controls is called the holding-subsidiary relationship. Holding companies are also known as mother or parent companies. And the organization they control is known as a subsidiary company. In case a holding company has all the voting power or shares of another company, then it is known as a wholly-owned subsidiary company.
Types of Holding Company
There are four types of holding companies which are as follows-
Pure holding company
A pure holding company has its main objective of holding the stock of another company. It is mainly formed for this objective only. These companies do not take part in other business activities other than holding and controlling one or more companies.
Mixed holding company
The mixed holding company is formed not only for controlling another company but also to conduct its business operations. These companies are also known as holding-operating companies.
A holding company that operates its own business is also in a completely different line than is known as a conglomerate.
Immediate holding company
This type of holding company retains the voting stock or control of other companies, even when that business is already under the management of another business.
In simple words, we can say that an immediate holding company is a company that is a subsidiary of other companies and still holds the power of controlling another company.
Intermediate holding company
An intermediate holding company is a type of holding company that is both a holding company of another entity and a subsidiary company of large organizations. These types of holding companies are exempted from reporting the financial reports because of the smaller groups of holding companies.
Advantages of having a Holding Company
The advantages of having a holding company are discussed below:
Simple to form
A holding company can be formed rather easily. The owners of the company are required to buy the share of other companies from the open market. It is not needed to have the consent of the shareholders of that company.
Lower interest rates on the debt
A holding corporation with strong financial standing can frequently secure financing at a reduced cost of borrowing than its operational subsidiaries might, specifically when the firm that requires money is a startup or other enterprise deemed to be a credit risk. The holding corporation may be able to borrow money and give the money to the subsidiary.
Avoiding competition
Competition between two companies can be avoided by making a holding-subsidiary relationship between them. As both companies are owned, managed, and controlled by the same owners.
Large-scale operation economies
Buying and selling operations of the holding and subsidiary companies are to be centralized. It enjoys the benefits of high-quality discounts and credit facilities on purchasing because of purchases in bulk. It also gets some better terms while selling goods to buyers.
Privacy Level
A good privacy level is maintained by centralizing the authorities and decision-making power. This also helps in protecting the company from adverse publicity.
Avoidance of risk
They can easily avoid the risk factor. In case a subsidiary company operates a risky business and fails to do it successfully. Then this loss will not affect the holding company. The holding company can sell its stake in that subsidiary company.
Tax benefits
Holding companies that hold 80% or more percentage of the voting power or share of subsidiary companies then can reap the tax benefits by filing consolidated tax returns. Consolidated tax returns include the combined tax return of all the companies that are subsidiaries and holding both. There is a reduction in the tax liability as to the net effect of filing consolidated tax returns. The losses of one subsidiary can be set off by the gains of other subsidiaries.
Continuity of management
A holding company acquires another company; it always retains its management first. This is the most important factor which helps the owner of the subsidiary company whether to agree to the acquisition or not. A holding company cannot take decisions except strategic decisions and monitor the performance of the subsidiary company.
This means even after the acquisition, the business will run in the usual way and with the same rules. Holding companies can enjoy the benefits related to financing without adding to their management duties.
Assortment
A holding Company can help businesses to reduce their risk by spreading their investments across a range of different companies
Disadvantages of having a Holding Company
Even after having lots of advantages of a holding company, there are still some disadvantages of a holding company. These are given below.
Excessive capitalization
Sometimes it happens because the pooling of the capital of a holding company and its subsidiaries company will result in excessive capitalization. Shareholders of that company would get a sufficient return on their invested capital.
Misusing of power
There is more authority in the hands of the holding company. The members of the holding company have insignificant financial liability in comparison to financial power. This may lead to misuse and misleading power, sometimes.
The exploitation of subsidiaries
It happens that holding companies exploit their subsidiary companies. Holding companies make their subsidiary companies buy goods from them at higher prices. Holding companies also force subsidiary companies to sell their products to holding companies at very lower prices.
Manipulations
Members use the information related to subsidiary companies for their gain. For example, financial reports and the performance of a subsidiary company can be misused even for a speculative motive.
Concentrated economic power
The person who manages and controls the holding company has the concentration of economic power in his hands. This concentration of power is very harmful to general economic welfare.
Secretive monopoly
Sometimes, creating a holding company may lead to secret monopolies. The secret monopolies lead to the prevention of competition and entry of new companies. They can also exploit customers by charging unreasonable prices for their products.
The cost involved in formation
Every holding company and its subsidiary companies that are formed are required to pay some formation fees. Sometimes, by operating the same business, they can reduce the cost related to after incorporation.
What is the purpose of a holding company?
A holding company is a financial entity that owns and manages other assets, such as real estate, stocks, or businesses. Using a holding company offers a legal barrier between the assets and the owners, reducing the owners’ exposure if one of the holdings experiences financial difficulties.
How does the Holding Company finance?
The management of the holding company is responsible for deciding where to invest the finance of the company. In the case of a holding company, it raises funds by selling its equity interests in itself or its subsidiaries or also by borrowings. It also gets revenues from its subsidiary companies in the form of dividends, Interests, rents, etc.
Conclusion
Holding companies are those companies that are formed by individuals for buying and owning shares of other entities. By holding a good percentage of stock of other entities, it can operate and control the business decisions of that company. Holding a company can be used in all types of industries and businesses. These companies have many benefits such as large financial resources, avoiding risk, avoiding competition, tax benefits, privacy, and many more benefits.
These companies are easy to form and operate also. With this, it also has some negative points such as the creation of monopolies, over-capitalization, misuse of power, manipulation, and exploitation of subsidiaries. The complex structure of a holding company is not suitable for all types of business activities.
FAQ’s
It is a parent to a business entity, a corporation, or an LLC. It doesn’t sell, produces, or manufacture anything but only contributes to the operations of the subsidiaries. The sole purpose of this company is to have control over the stocks and memberships in other organizations.
There is no limit to the number of subsidiaries that can be owned by a holding company.
In case of the maximum protection of the assets, you can create two entities, a holding company, and an operating company. Both the companies can be owned by the person.
The name of the holding company must be flexible and avoid the name which specifies the geographical location and shows a certain business line.
Holding companies provide many advantages, including liability security, t risk mitigation, cost-effective asset control, and increased privacy.
