What is a Holding Company and the Assets Necessary to Set Up One?
Entrepreneurs are constantly looking for strategies to safeguard their investments. And various tactics have been created over time to aid them in doing so. One of the most efficient is splitting the firm into many business organisations under the ownership and control of a single holding company.
Many of the most profitable corporations in the world are holding companies. Some holding company examples are Tata Sons (the holding company for the Tata Group), Bajaj Holdings (the holding company for the Bajaj Group), Berkshire Hathaway (the holding company for many of Warren Buffett’s investments), and Alphabet (the holding company for Google).
But what is a holding firm exactly? What do they own and how do they function? Read on to find out!
What is a Holding Company?
Typically, holding companies are corporations or Limited Liability Company (LLC). Holding corporations frequently do not engage in production, sales or other business activities. Also known as the parent or umbrella company, holding companies own most of the control over smaller businesses.Even though holding companies control the assets of other businesses, it sometimes merely retains supervisory roles. As a result, they may monitor corporate management choices but do not actively take part in managing these subsidiaries’ day-to-day activities. The term subsidiary refers to a corporation that is owned and controlled by another company, and the latter is referred to as a holding company
How Does a Holding Company Work?
There are two ways to create holding companies. The first method involves acquiring enough voting stock or shares in another company to allow it to control its operations. And second is to create a new corporation from scratch and retain all or a portion of its shares.
As a result, “control” serves as the standard to assess whether a corporation is a “holding company.” Control may be exercised over the management or through share ownership.
Holding companies can own 100% of a subsidiary or its subsidiaries, or it has to own more than 51% of their shares. When a parent company owns all of the voting stock of a subsidiary, it is referred to as a wholly-owned subsidiary.
Features of a Holding Company
The features of holding companies are:
- The company’s primary duty is to oversee subsidiary activities
- A holding corporation does not manage its businesses, endeavours, or other duties. It exists only to acquire assets and manage other businesses
- Holding companies have loss insurance. If a subsidiary files for bankruptcy, the owning company can lose money and see a fall in its net worth. The company, however, is not a place where the creditors of the insolvent corporation may legally seek compensation
- It can own various assets, including tangible property, intellectual property, stocks, etc.
Types of Holding Companies
The following are the types of holding companies:
1. Pure
A pure holding company is a corporation whose sole purpose is to hold assets until they are sold in whole or in part. These companies are not involved in any business activities other than controlling firms.
2. Mixed
Mixed holding companies run their own business in addition to managing another company. A holding-operating corporation is another name for it.
Conglomerates are holding firms that engage in business activities that are wholly unrelated to those of their subsidiaries.
3. Immediate
Also known as the holding of a holding, this is a corporation that holds most of the shares in another company and is held by another holding company.
4. Intermediate
A business serves as the holding company for one group and the subsidiary of another larger group. Being a holding company for the smaller group may allow it to be excluded from publishing consolidated financial statements.
Assets Necessary for a Holding Company
The assets that holding companies can hold are:
- Public and private stocks of other companies
- Holding in other limited liability company
- Bonds
- Real estate
- Private equity funds
- Hedge funds
- Patents
- Trademarks
- Copyrights, etc.
Also Read: Understanding Bonus Shares: Meaning, Types and Eligibility
Process of Setting Up a Holding Company
The steps to set up holding companies are:
- First, carefully assess the business needs
- Second, choose the entity you want to create, i.e., a limited liability company
- Identify the proposed business entity’s tax implications for the company’s overall operation
- Choose the location where the company will be formed
- File an application for set-up
Furthermore, it is essential to decide, What business sector each subsidiary will be in charge of overseeing? Are the subsidiaries completely owned subsidiaries of the controlling company, or are other smaller shareholders involved?
Uses of a Holding Company
Holding companies may be used for the following reasons:
1. Minimise Risk
The best method to set up holding company accounts is to arrange them so that it may distribute its assets among its subsidiary companies, reduce the risk to those companies, and shield the subsidiaries from the threat of bankruptcy.
For instance, if one of the subsidiary firms declares bankruptcy, only that subsidiary company – not its holding company can pay the creditors what they are owed. Consequently, the company continues to operate even if one of the subsidiaries fails for whatever cause. This organisation reduces tax obligations as well.
2. Hold Assets
A holding company may be used to house a company’s valuable assets, such as plant and equipment, extra cash for investments, intellectual property and trading or investment property. The company’s day-to-day activities and trading duties are transferred to the subsidiaries.
The owned assets can be leased to the subsidiaries if necessary, but they can be secured against creditors and other hazards common to enterprises.
3. Tax Benefits
One of the reasons for setting up a holding company could be tax benefits. Depending on local tax regulations, forming a group as a holding company with subsidiary companies may have tax advantages.
4. Foster Innovation
Investing in startups or other projects that seem hazardous carries less risk because holding companies are different legal entities.
For instance, one reason for Google’s restructuring and creation of Alphabet as its international holding company was the corporation’s investments in fields like robotics, life sciences, and medical research worried Google shareholders. Restructuring cut these investments from the company’s valuable core operations, such as its YouTube and search engine.
Disadvantages of a Holding Company
Even though they have substantial advantages, holding companies have disadvantages as well, such as:
1. Increased Compliance Cost
The business owner must ensure that each corporation remains in good standing if there are many corporations with various types or in separate jurisdictions.
As a result, it will be necessary to follow and manage each entity more closely to ensure that they generate yearly reports, are effectively managed, keep minute books, are correctly registered, etc.
2. Management Challenges
Another significant disadvantage is increased complexity and difficulty managing the operations of the various companies.
When forming a holding company, it is best to think about who will run the company, what their roles and responsibilities will be, and how much time and effort they will dedicate to running the company.
3. Complex Business Structure
The shareholders’ desired limited liability protection may be jeopardised if the structure is not kept up-to-date, or even the courts may permit the piercing of the corporate veil, allowing a business creditor to approach the shareholders.
Things to Know About a Holding Company
To establish holding companies, almost the same processes as for creating other entity types are needed in India. Nevertheless, many factors are worth considering because of the complex layout.
The investment holding company might, in some circumstances, be limited to influencing its subsidiaries. One of the primary motives behind establishing such a system in India is that this company is free from all obligations to the subsidiary.
Depending on the shares it owns in its subsidiary companies, the holding company may be able to direct the operations of those businesses or even exercise ownership rights over them.
Also Read: Investment Company: Types of Investment Companies and How to Choose One
Final Word
A holding company is a type of firm that engages in neither the production of goods or services nor the operation of businesses. As an alternative, it owns and governs other businesses. The benefits of doing this include lowering the danger of companies losing assets to creditors. Holding companies help safeguard a person’s private assets, such assets are held by the firm rather than the individual, thereby protected from debt obligations, legal actions, and other concerns.
FAQs on Holding Company
Ans: A holding company distributes its assets among its subsidiary companies, thus, reducing the risk to those companies and shielding the subsidiaries from the threat of bankruptcy.
If any subsidiary firm declares bankruptcy, only that subsidiary company – not its holding company can pay the creditors what they are owed.
Ans: Holding companies provide many benefits; some of them are the protection of assets from creditors, minimising tax on profits and dividends, reducing risk by transferring assets to different subsidiaries, and it helps in succession planning and providing flexibility for growth and development.
Ans: Holding companies can be set up as limited liability companies or private companies. Even though holding companies control the assets of other businesses, it sometimes merely retains supervisory roles. As a result, even though it may monitor corporate management choices, it does not actively take part in managing these subsidiaries’ day-to-day activities.
Ans: An organisation that does not create anything, sell goods or services, or engage in other commercial activity is known as a holding company. This entity is typically a corporation or LLC. Holding the controlling shares or membership interests in other companies is its goal.
Ans: Beginning a holding company is as simple as beginning any other corporation or LLC. Still, one will need thorough legal advice from tax law professionals to set it up successfully and completely transfer the ownership of business assets.
