A wholly-owned subsidiary is a company entirely owned and managed by another company, known as the parent company.
The parent company owns the subsidiary's common stock and fully controls its operations, policies, and management.
Despite being subject to the control and influence of the parent company, the subsidiary still operates as a separate legal entity and keeps its management structure, clients, and corporate culture.
Subsidiary vs. wholly-owned subsidiary
While a wholly-owned subsidiary is 100% owned by another company, a subsidiary is a business in which a parent owns a majority stake less than 100%, or 51% to 99%.
The parent company owns 100% of a wholly-owned subsidiary's common stock with no minority shareholders and exercises complete control over its operations, policies, and management.
In contrast, a subsidiary forms when a parent company owns more than 50% of the business but less than 100%. The parent company has controlling interest in the subsidiary's profits, management, and operations. Yet, the subsidiary still has financial obligations to its minority shareholders and answers to its own management teams and directors.
Key characteristics of a wholly-owned subsidiary
Key characteristics of a wholly-owned subsidiary include:
- Ownership. The parent company possesses a 100% equity stake in the wholly-owned subsidiary, granting it full control over the subsidiary's assets, operations, and decision-making.
- Legal independence. The wholly-owned subsidiary typically retains its legal status as a separate entity. It may have its own board of directors and management team.
- Financial integration. The parent company and its wholly-owned subsidiary consolidate their financial statements and results for reporting purposes. The wholly-owned subsidiary keeps its own financial records and tracks its assets and liabilities; however, the parent company combines its financial statements with the subsidiary.
- Control. The parent company controls the wholly-owned subsidiary's strategic direction, business operations, work culture, and policies, such as appointing key executives and managers. While subsidiaries are distinct entities, they may share some executives or board members with the parent company.
- Risk and liability. Because the subsidiary functions as a distinct legal entity, as opposed to a branch, it is responsible for its own finances, legal obligations, and other liabilities.
Why do businesses establish wholly-owned subsidiaries?
Businesses establish wholly-owned subsidiaries for various reasons, including vertical integration, expanding a product or service, or maintaining total control over specialized operations.
This business structure allows the parent company to exert influence and coordination while still keeping certain business functions and legal liabilities separate.
A parent company may also establish or acquire a foreign subsidiary to expand into new global markets. A wholly-owned subsidiary is a strategic way to operate in diverse geographic areas, markets, and industries with limited risk.
However, subsidiaries must understand and follow local regulations and laws of the countries in which they operate to mitigate risk and maintain compliance.
Read more: Understanding the Legal Aspects of Doing Business Overseas
Benefits of wholly-owned subsidiaries
There are many benefits to acquiring a wholly-owned subsidiary, including the following:
Reduce costs
Wholly-owned subsidiaries benefit from shared policies and processes that reduce costs and enhance security.
Utilizing compatible financial systems, sharing administrative services, and developing similar marketing strategies can help lower expenses for both entities. Parent companies can also enforce cohesive data access and security standards to protect intellectual property.
Additionally, parent companies can manage investment decisions for the subsidiary's assets.
Tax advantages
Wholly-owned subsidiaries provide tax advantages and protect the parent company from potential liabilities. By acquiring a subsidiary through stock purchase, parent companies can leverage losses from the subsidiary to reduce their overall tax liability or offset taxes on profits from another subsidiary.
Additionally, subsidiaries can engage in activities that the parent company cannot, such as generating revenue for non-profit organizations. The subsidiary is subject to federal income taxes, and the parent company retains its tax-exempt status.
Mutual growth
Wholly-owned subsidiaries foster mutual growth for both the parent and wholly-owned subsidiary.
For the parent company, acquiring a wholly-owned subsidiary allows it to inherit and leverage the subsidiary's established customer base and reputation. The parent company has greater flexibility for business diversification and quicker market entry, and it profits from markets it typically doesn’t operate in, especially in foreign countries.
For the subsidiary, the company gains status from the parent’s brand prestige. This association with a larger, well-known brand also enhances the subsidiary's valuation in the long run.
Business consolidation
Wholly-owned subsidiaries help parent companies streamline business operations and efficiency. This business consolidation is useful, especially when parent companies have multiple subsidiaries.
The parent company's complete ownership simplifies decision-making and control, allowing it to implement consistent company procedures and policies across all subsidiaries. This consolidation also fosters a unified work culture and aligns the parent company's and its subsidiaries' operations.
Disadvantages of wholly-owned subsidiaries
The process of acquiring a company or establishing a subsidiary takes effort, time, and research. If a parent company does not prepare well for acquisition or entity establishment, it may encounter disadvantages to owning a wholly-owned subsidiary, including:
High costs
Parent companies bear the full financial risks associated with wholly-owned subsidiaries. The parent company may incur significant costs when acquiring the subsidiary's assets, especially if other companies are also interested in the acquisition.
Establishing a separate legal entity may also result in additional expenses related to tax filings, employee management, and overall liability handling.
Difficult transition
The integration of a wholly-owned subsidiary can pose challenges during the transition period. Establishing rapport with local vendors and clients in a new market requires time and effort, which may temporarily disrupt operations for both companies. Current investors, clients, and vendors may also need time to adapt to the new arrangement.
Workflow discrepancies may also arise if the acquired company has a different management style. Parent companies hiring and managing staff for an overseas subsidiary should also note cultural differences that could hinder workflow relationships and operational efficiency.
Simplifying market entry with an EOR
Employers interested in acquiring or establishing a subsidiary in a new global market often work with an employer of record (EOR) to strategically break into new markets faster.
An EOR partner like Velocity Global serves as a solution for companies to test new markets before expending more resources to set up an entity—or as a bridge solution to reduce risks in the event of an entity or banking delay.
We also ensure that supported employees continue to receive consistent, accurate, on-time pay and benefits through the transition to entity establishment and beyond.
Learn how Velocity Global makes complex global growth smooth, quick, and seamless.
Legal Disclaimer: The information available in this guide does not, and is not intended to, constitute legal advice and is for general informational purposes only. You should contact your attorney to obtain legal advice with respect to any particular legal matter. Only your individual attorney can provide assurances that the information contained in this guide—and your interpretation of it—is applicable or appropriate to your particular situation. All liability with respect to actions taken or not taken based on the information in this guide is hereby expressly disclaimed. The content in this guide is provided "as is," and no representations are made that the content is error-free.
