how subsidiaries work
subsidiaries are separate and distinct legal entities from their parent companies which is reflected in the independence of their liabilities taxation and governance if a parent company owns a subsidiary in a foreign land the subsidiary must follow the laws of the country where it is incorporated and operates however given their controlling interest parent companies often have considerable influence over their subsidiaries they along with other subsidiary shareholders if any vote to elect a subsidiary company s board of directors and there may often be a board member overlap between a subsidiary and its parent company to be designated a subsidiary at least 50 of a company s equity has to be controlled by another entity anything less and the company is considered an associate or affiliate company subsidiary financialsa subsidiary usually prepares independent financial statements typically these are sent to the parent which will aggregate them as it does financials from all of its operations and carry them on its consolidated financial statements in contrast an associate company s financials are not combined with the parent s instead the parent registers the value of its stake in the associate as an asset on its balance sheet accounting standards generally require that public companies consolidate all majority owned subsidiaries consolidation is viewed as a more meaningful method of accounting than providing separate financials for a parent company and each of its subsidiaries 1an unconsolidated subsidiary is a subsidiary with financials that are not included in its parent company s statements ownership of unconsolidated subsidiaries is typically treated as an equity investment and denoted as an asset on the parent company s balance sheet for regulatory reasons unconsolidated subsidiaries are generally those in which a parent company does not have a significant stake 12the securities and exchange commission sec states that only in rare cases such as when a subsidiary is undergoing bankruptcy should a majority owned subsidiary not be consolidated 2subsidiary pros and consbuying an interest in a subsidiary usually requires a smaller investment on the part of the parent company than a merger would also unlike a merger shareholder approval is not required to purchase or sell a subsidiary a parent company buys or establishes a subsidiary to obtain specific synergies such as a more diversified product line or assets in the form of earnings equipment or property subsidiaries can be the experimental ground for different organizational structures manufacturing techniques and types of products in addition subsidiaries can contain and limit problems for a parent company to some extent with the subsidiary serving as a kind of liability shield in the event of lawsuits entertainment companies often set up individual movies or tv shows as separate subsidiaries for this reason however subsidiaries also have a few drawbacks aggregating and consolidating a subsidiary s financials can make the parent company s accounting more complicated since subsidiaries must remain independent to some degree transactions with the parent may have to be at arm s length and the parent might not have all of the control it wishes and while a subsidiary can help shield the parent company from certain legal problems the parent may still be liable for criminal actions or corporate malfeasance by the subsidiary finally it may have to guarantee the subsidiary s loans leaving it exposed to financial losses contained limited lossespotential tax advantageseasier to establish and sellsynergy with other corporate divisions subsidiariesextra legal and accounting workgreater bureaucracycomplex financial statementsliability for subsidiary s actions debtsreal world examples of subsidiariespublic companies are required by the sec to disclose significant subsidiaries warren buffett s berkshire hathaway inc for example has a long and diverse list of subsidiary companies including international dairy queen clayton homes business wire geico and helzberg diamonds 3berkshire hathaway s acquisition of many diverse businesses follows buffett s oft discussed strategy of buying undervalued assets and holding onto them in return acquired subsidiaries can often continue to operate independently while gaining access to broader financial resources like berkshire hathaway alphabet inc has many subsidiaries the best known of which is google these separate business entities all perform unique operations intended to add value to alphabet through diversification revenue earnings and research and development r d for example sidewalk labs seeks to modernize public transit in the united states the company has developed a public transportation management system that aggregates millions of data points from smartphones cars and wi fi hotspots to analyze and predict where traffic and commuters are most congregated the system can redirect public transportation resources such as buses to these congested areas to keep the public transit system moving efficiently 4