Subsidiary is an organization controlled by another company. Control is here defined as the ability to govern the financial and operating businesses, including management, aimed at obtaining greater benefits from its activities. It means also the ability to vote upon company's position in the event of an opposition in subsidiary. This ability, in most cases will result from the possession of at least 50% of the shares entitled to vote. It may happen, however, in some cases that the control can be exercised having a stake of less than 50%, which is referred to as minority control. The subsidiary has its own separate legal personality. In contrast branch company has assets and liabilities which are part of the parent company. Possession of a subsidiary is associated with certain ineffectiveness (duplication of resources, division of internal control and gaps in the management system).
Reasons for creating subsidiaries
Main reasons for creating subsidiaries are:
- activities on separate markets
- obtaining financing or splitting of risk between the owners
- protection of the parent company from any withdrawal of the creditors of the subsidiary
- diversification of the decisions of the Board
The financial statements of the majority of subsidiaries are consolidated in the financial statements of the parent, it presents situation of both entities as a single economic unit. However, when it comes to financing, parent company lenders want to have measurable way to determine what impact on parent company's cash flow have the dividends or management fees collected from a subsidiary. For the parent company shares of subsidiary, represent the value but only to the extent to which they can sell on the market. This is only a potential source of cash because the liquidity of such shares is sometimes questionable. Treatment of both units as one unit by the lender can only occur when a subsidiary has the parent company's guarantees.
- Birkinshaw, J., & Hood, N. (1998). Multinational subsidiary evolution: Capability and charter change in foreign-owned subsidiary companies. Academy of management review, 23(4), 773-795.