What Are the Advantages of a Holding Company?

Running one company can be hard enough. So why would anyone want to own multiple companies without any obvious reason? You may wonder what the purpose of holding companies is and if the concept has any relevance for your business.

This article will first explain what constitutes a holding company. It will then explain the advantages and disadvantages of using a holding company to structure your business. 

What is a Holding Company?

As you may know, companies are their own legal persons. So, in addition to being able to sue others (or be sued) and enter into contracts, they can also own assets. This includes the ability to own shares in other companies, just like you may own shares in your own company. 

Holding Company vs Parent Company 

A holding company is a company that usually does not trade itself but has a controlling stake in another company. A company will have a controlling interest if it has, at a minimum, more than 50% of the voting rights in the other company. 

As an example, suppose there are two companies: HoldCo Ltd and NewCo Ltd. If HoldCo Ltd owns 51% (or more) of the voting shares, it may be a holding company. 

HoldCo will also be a holding company if it has:

• the power to appoint or remove a majority of the board of directors; or 
• an agreement with the other shareholders to effectively control a majority of the voting rights. 

Corporate Structures

In the above example, NewCo Ltd would become a subsidiary company of HoldCo’s. 

Assuming NewCo is a trading company, it is possible for them to be a parent company over a third company, BabyCo. This is if NewCo has a majority of voting shares or has effective control over BabyCo’s appointment of directors.

All three companies are part of the same single “corporate structure.”

It is common to refer to the holding company as sitting atop the corporate structure. Indeed, it is the ultimate corporate owner of all the companies underneath it. 

Large businesses like Apple or Volkswagon often have complex corporate structures with numerous parent companies, each with their own subsidiaries. At the top is the holding company, which will own a majority of all the shares in each of the subsidiaries. 

What About Shell Companies?

Shell companies are similar to holding companies in that they do not trade. However, unlike holding companies, which we can think of as the “ultimate parent company” in a business group, shell companies tend to have more singular functions. For example, their function may be to:

• raise debt;
• hold particular assets; or 
• move money. 

Advantages of Holding Companies 

There are three overlapping advantages to the use of holding companies. They are:

• organisational efficiency;
• limited liability; and
• tax efficiency. 

To help make sense of these advantages, we will use a fictional example. 

Suppose you are the proud owner of a very successful business, BevCo Ltd, which makes delightful beverages that it ships around the world. You have decided to branch into the delivery and logistics industry so you can save costs on distributing your product. 

Creating a new company will help you limit your original business’ liabilities, so you create DistributeCo Ltd. 

Organisational Efficiency

Holding companies typically emerge when there are a group of at least two other companies that share common ownership. Creating a single company that owns the rest makes managing the group of companies easier. 

While you could exercise your rights as a majority shareholder in your individual capacity separately for both companies, it is often easier to create a single legal entity (“HoldCo”) to exercise ownership rights itself. Given that you are the majority shareholder for each company, it does not change your position by operating through a separate legal entity. 

This is particularly advantageous if you are looking to sell part of your business later. Separating the core components of your business into their own legal entities makes it much easier to sell. Indeed, you can avoid having to package off part of the business at the point of sale. 

Likewise, shared assets, such as land or machinery, may be advantageous for the parent company to retain its legal title.  

Limited Liability

All companies are their own legal person and benefit from the principle of limited liability. So, company owners will not be responsible for the company’s debts beyond what they have paid for the shares. 

Considering your company’s liabilities, you could feasibly borrow substantial sums of money for one company to expand. For example, should DistributeCo have a hard time getting off the ground, a lender cannot come after your successful company provided the liability remains completely with the other company. 

Additionally, as your business grows, creating a holding company can effectively ensure your business’s assets are properly apportioned across subsidiary companies. So, if one element of your business runs into trouble, your other business assets will not be at risk. 

For example, suppose that you are expanding your business into another country because you think there is a strong opportunity for growth. However, this is not without risk. Therefore, it would make sense to create a new company that would own the assets it needs to operate in the new country. Likewise, you can create a separate third company — your holding company — that owns shares in both companies. The effect is that if the business venture in the new country fails, only the assets owned by that company will be at risk. 

Tax Efficiency 

Additionally, it may be advantageous to have the holding company headquartered in a more tax-efficient country if you operate in multiple jurisdictions. Likewise, you can channel profits and offset losses by moving money around your corporate structure. All the while your holding company will manage things from the top. 

Disadvantages to a Holding Company 

The simple fact is that with each company you incorporate, the administrative burden grows in step. 

Each company must prepare its own accounts and annual reports. In addition, each company’s director(s) will owe the company certain legal duties, regardless of if the director(s) sits on another company’s board. This can create certain conflicts of interest, especially where a subsidiary’s ownership differs from the holding company (i.e. where there are minority shareholders). 

From a strictly theoretical perspective, it is nice to think of each company’s assets and liabilities as being legally separate. However, in practice, things are often different. For example, suppose you wish for a bank to lend DistributeCo Ltd a large sum of money. In that case, the bank will often demand that the holding company (as well as any affiliated companies) guarantee the loan. 

For instance, the bank could demand that you pledge HoldCo’s shares in both companies as security for the loan to the one company. That is less than ideal.

Key Takeaways

A holding company is the ultimate parent company of a group of companies. It does not trade itself but instead is a vehicle to consolidate ownership in a collection of interrelated, though legally distinct companies. The use of a holding company can provide you with organisational and tax efficiencies. Likewise, it limits the liabilities and assets of each company. However, the administrative burden of owning a group of companies is substantial. Therefore, your business will need to have enough growth potential to justify it. 

If you need help managing a group of companies, our experienced corporate lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today at 0808 196 8584 or visit our membership page.

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