Subsidiary (Group Undertaking)

Definition

A subsidiary (or group undertaking) is a business entity that is either entirely or partially owned and effectively controlled by another entity, known as the parent or holding company. The criteria for what constitutes “control” are precisely defined under various regulations, such as the Companies Act in many jurisdictions. Control is usually defined as the power to govern the financial and operating policies of the subsidiary, typically by owning more than 50% of its voting rights.

Examples

Alphabet Inc. and Google LLC: Alphabet Inc. is the parent company of Google LLC. Google operates as a subsidiary, fulfilling strategic roles within the holding company’s structure.
Disney and Pixar: Pixar Animation Studios is a subsidiary of The Walt Disney Company. While Pixar operates independently in terms of creative processes, its financial and operational policies align with and contribute to Disney’s overall strategy.
Procter & Gamble and Gillette: Gillette is a subsidiary of Procter & Gamble, which acquired the razor and personal care product company to expand its market presence and product portfolio.

Frequently Asked Questions

Q1: What is the main difference between a subsidiary and a branch?

A1: A subsidiary is a separate legal entity that operates independently but is controlled by a parent company. A branch, however, is not a separate legal entity but an extension of the parent company.

Q2: Can a subsidiary operate independently of its parent company?

A2: While a subsidiary may have its management and operations, it remains under the overall control and governance of the parent company, especially concerning major financial and strategic decisions.

Q3: How is a subsidiary different from a wholly owned subsidiary?

A3: A wholly owned subsidiary is one in which the parent company owns 100% of the subsidiary’s shares, giving it complete control. In contrast, a regular subsidiary may be less than wholly owned but still controlled by the parent company.

Q4: What are consolidated financial statements?

A4: Consolidated financial statements are financial statements that incorporate the financials of the parent company and all its subsidiaries, presenting them as a single economic entity.

Q5: How does the Companies Act define control of a subsidiary?

A5: The Companies Act typically defines control as holding a majority of the voting rights, having the right to appoint or remove a majority of the board of directors, or having the ability to govern the financial and operational policies of the subsidiary.

Parent Company: An entity that controls one or more subsidiaries through ownership of a majority of voting shares or similar control mechanisms.
Consolidated Financial Statements: Financial statements that integrate the financial information of a parent company and its subsidiaries into one single report.
Quasi-Subsidiary: An entity that is not legally a subsidiary but is treated as such for accounting purposes due to the level of control exercised by the parent company.
Wholly Owned Subsidiary: A subsidiary 100% owned by the parent company, allowing complete control over its operations and policies.

Online References

Suggested Books for Further Studies

“Financial Statement Analysis and Security Valuation” by Stephen H. Penman
“International Financial Reporting Standards (IFRS) 2019”
“Advanced Accounting” by Floyd A. Beams, Joseph H. Anthony, Bruce Bettinghaus, & Kenneth Smith
“Accounting for Mergers and Acquisitions” by Amir Amel-Zadeh & Graeme Rankine

Accounting Basics: “Subsidiary (Group Undertaking)” Fundamentals Quiz

### What constitutes a 'subsidiary' under the Companies Act? - [ ] Any business entity associated with another entity - [ ] A company with joint management - [x] An entity controlled by a holding or parent company - [ ] An entity with shared ownership with another company > **Explanation:** A subsidiary is defined as an entity that is controlled by another entity, known as the parent or holding company, as specified in the Companies Act. ### Can a subsidiary have its own management? - [x] Yes, but the overall control lies with the parent company. - [ ] No, the parent company completely controls daily operations. - [ ] Yes, entirely independently from the parent company. - [ ] No, it functions as a department of the parent company. > **Explanation:** A subsidiary can have its own management team but remains under the strategic control of the parent company. ### How much voting equity is typically required for a parent company to control a subsidiary? - [ ] 25% - [x] More than 50% - [ ] 10% - [ ] 75% > **Explanation:** Control is typically established when a parent company owns more than 50% of the voting equity of the subsidiary. ### What key financial documents must include a subsidiary's financial performance? - [ ] Standalone financial statements of the subsidiary - [x] Consolidated financial statements of the parent company - [ ] Annual budget reports - [ ] Managerial decision summaries > **Explanation:** The financial performance of a subsidiary must be included in the consolidated financial statements of the parent company. ### Which term refers to a subsidiary that is completely owned by its parent company? - [ ] Joint Venture - [ ] Equity Method Investment - [ ] Minority Interest - [x] Wholly Owned Subsidiary > **Explanation:** A wholly owned subsidiary is entirely owned by the parent company, providing complete control. ### Is it possible for a parent company to have only partial ownership yet control a subsidiary? - [x] Yes, as long as it retains control over key decisions. - [ ] No, total ownership is required. - [ ] Yes, but only in specific industries. - [ ] No, equity must be greater than 75%. > **Explanation:** A parent company can control a subsidiary with partial ownership if it has control over key financial and operational decisions. ### What advantage does consolidation of financial statements provide to stakeholders? - [ ] Enhanced focus on subsidiary performance - [x] A holistic view of the entire group's financial health - [ ] More complex financial data - [ ] Increased operational transparency > **Explanation:** Consolidation provides stakeholders with a comprehensive view of the financial health and performance of the entire group, including parent and subsidiaries. ### How does the Companies Act typically define 'control'? - [ ] Based on revenue generation - [x] By majority voting rights and governance control - [ ] Through mutual agreements - [ ] By joint management systems > **Explanation:** The Companies Act defines control by criteria such as majority voting rights, governance control, and the ability to govern financial and operational policies. ### Can a quasi-subsidiary be treated like a subsidiary for accounting purposes? - [x] Yes, if significant control is exercised. - [ ] No, it always remains separate. - [ ] Yes, only in specific financial analytics. - [ ] No, unless there's a merger. > **Explanation:** A quasi-subsidiary, despite not being a legal subsidiary, can be treated as one for accounting purposes if significant control is exercised by the parent company. ### What are the pedagogical materials typically used for in-depth study of subsidiary accounting? - [ ] Local news reports - [ ] Marketing brochures - [x] Advanced accounting textbooks and professional standards - [ ] Trade association manuals > **Explanation:** For in-depth study, advanced accounting textbooks and professional standards, such as IFRS, are used.

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