HOLDING AND SUBSIDIARY COMPANY: SCOPE AND AMBIT

Corporate Law

Submitted By-

Yash Goyal

UID: SM0118062

3rd Year, 5th Semester

Faculty in charge:

Ms. Monmi Gohain

National Law University and Judicial Academy, Assam

December 17th, 2020

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 TABLE OF CONTENTS

CONTENTS PAGE NO.

1. Introduction 5
1.1. Introduction 5
1.2. Literature Review 6
1.3. Scope and Objective 6
1.4. Research Methodology 7

2. Holding and Subsidiary Company: The Concept 8-10

2.1. Introduction 8
2.2. Board Control 8
2.3. Shareholding Control-Direct 8
2.4. Indirect Control 9
2.5. Advantages of Holding Company 9
2.6. Disadvantages of Holding-Subsidiary Company Setup 10

3. Consolidated Profit and Loss Account 11

3.1. Introduction
3.2. Preparation of Consolidated Profit and Loss Account

4. Consolidated Balance Sheet 12-15

4.1. Introduction 12
4.2. Preparation of Consolidated Balance Sheet 12
4.2.1 Cost of Control 12
4.2.2. Minority Interest 13
4.2.3. Capital and Revenue Profit 13
4.2.4 Unrealized Profit 14
4.2.5. Inter-Company Transactions 14

Conclusion 16

Bibliography 17

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 CHAPTER 1

INTRODUCTION
1.1. Introduction

The relation of Holding and Subsidiary company can be deduced from the terms themselves,
the former one represents a company which holds and the latter indicates the one which is
attenuated keeping in view the nexus between the two. In simple words, a company is a
holding company of another if the other is subsidiary. Earlier under Companies Act, 19561
the concept was explained in the references of composition of board of directors of the
subsidiary company, holding company’s right over the shares of subsidiary and one company
being subsidiary to another which is itself subsidiary to another company. Now in Companies
Act, 2013 it has now amended and the concept of holding and subsidiary company is now put
as definition under Section 2 of the Companies Act, 2013 and both holding and subsidiary
companies.

Holding company under the 2013 Act is defined as: “holding company” in relation to one or
more other companies, means a company of which such companies are subsidiary
companies2 and,

Subsidiary company as3: “subsidiary company” or “subsidiary”, in relation to any other

company (that is to say holding company), means a company in which the holding company–

(i) controls the composition of the Board of Directors; or

(ii) exercises or controls more than one-half of the total share capital either at its own
or together with one or more of its subsidiary companies:

Provided that such class or classes of holding companies as may be prescribed

shall not have layers of subsidiaries beyond such number as may be prescribed.

Apart from the understanding of the nexus of the holding and subsidiary company there
is also necessity of viewing this as an entirely different setup of carrying out business
between the two companies where former has control over the latter and how it is

1
Section 4 (1), Companies Act, 1956
2
Section 2 (46), Companies Act, 2013
3
Section 2 (87), Companies Act, 2013

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significant for both the companies. The following criteria and their description in the
coming chapters would throw some light on the nexus of holding and sharing
companies:

1. Ownership
2. Management
3. Financial Control
4. Legal Responsibility

1.1. Review of Existing Literature

A.K. Majumdar & G.K. Kapoor, Company Law and Practice, Eighteenth Edition,
Taxmann, 2013

Company Law and Practice book is written extensively and in a very descriptive manner with
providing information on Company Law. This book consists of number Indian cases which
are some way or the other is related to Company Law and its provisions. Cases are used as
tool for better understanding of the concepts of Company Law. Dr. G.K. Kapoor along with
A.K. Majumdar have extensively given every single piece of information about the law. This
book proved to be as a deep source of knowledge for us about our project topic. Also it has
helped us in understanding Company Law and its provisions in Indian context. It has helped
us to get information on cases in India on the topic of holding and subsidiary companies
which aim to explain the concept of this setup and extent of a holding company’s control over
the subsidiary and significances of such setup.

1.2.Scope and Objective

Objectives

Our research on the topic Holding and Subsidiary Company: Scope and Ambit shall help in
explaining the following objectives which the project aims at:

 Understanding the concept of Holding and Subsidiary Company.

 Drawing out pros and cons of the setup of Holding and Subsidiary company.

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  To draw out the important points in the profit and loss account and balanced sheet of
the Holding Company.

Research Questions

1. What are the factors which determine the status of a company as Holding or
Subsidiary?
2. How Holding Company supervises various operations of the Subsidiary Company?
3. How balanced sheet and profit and loss account is managed in a holding company due
to the nexus between holding and subsidiary company?

1.3. Research Methodology

The research method that has been employed in our project is doctrinal. By doctrinal research
we mean an enquiry for the verification data from various secondary sources. In this research
we have attempted to analyze the concept and systematize the existing facts and the given
data and have thus adopted the doctrinal way of research methodology. We have taken
assistance of primary sources such Companies Act, 2013 and secondary sources like
reference books on Company Law.

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 CHAPTER 2

HOLDING AND SUBSIDIARY COMPANY: THE CONCEPT

2.1. Introduction

A company may become a holding company by acquiring enough voting stock in another
company to exercise control of its operations, or by forming a new corporation and retaining
all or part of the new corporation's stock. While owning more than 50 percent of the voting
stock of another company ensures control, in many cases it is possible to exercise control of
another company by owning as little as ten percent of its stock. Holding companies and their
subsidiaries can establish pyramids, whereby one subsidiary owns a controlling interest in
another company, thus becoming its parent company. 4

2.2. Board Control

The most common form of control in the case of bodies corporate is controlling the
composition of the Board without being a member of the company. This may happen by
direct control of the Board or through one or more Subsidiaries. Be that as it may, the Board
occupies a pre-eminent position in the corporate hierarchy from the point of the view of
enormous power it exercises and control it secures over the management of another company.
It is not merely an economic unit but a power house. Considering these and other factors, the
Act rightly recognizes the structure of the Board as a manifestation of its inherent strength
and standing in the corporate structure.5

2.3. Shareholding Control- Direct

This is the second method by which Holding & Subsidiary company relationship can be
established. This is possible if one company holds more than half in nominal value of equity
capital of another company. This is a case of direct investment and indicates the financial
interest and stake of the Holding Company in its Subsidiary.6

4
M. Velayudhan v. Registrar of Companies, (1980) 50 Comp. Cas. 33 (Ker.)
5
D.K. Prahalad Rao, India: Holding and Subsidiary Company Regulations –A Complicated Matrix, 18 June
2009, Mondaq, <
http://www.mondaq.com/india/x/80878/Corporate+Commercial+Law/Holding+And+Subsidiary+Company+Re
gulations+A+Complicated+Matrix> accessed on 2 November 2020.
6
Id.

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2.4. Indirect Control

This is envisaged as third type of relationship applicable mainly in the case of group
companies. A Subsidiary of a Subsidiary becomes a Subsidiary of the ultimate Holding
Company as per the definition of the ‘subsidiary company’ under Section 2(87).. This may be
second or third generation Subsidiary by virtue of management or shareholding control and
the linkage is endless.

2.5. Advantages of Holding Company

There are many advantages to establishing a holding company. From a financial point of
view, it is usually possible to obtain control of another company with less investment than
would be required in a merger or consolidation.7 A holding company only needs a controlling
interest in the acquired company, not complete interest as in the case of a merger or
consolidation. Consequently, it is possible to obtain control over large properties with less
investment than would otherwise be required in a merger or consolidation.

Another advantage is that shares of stock in the subsidiary company are held as assets on the
books of the parent company and can be used as collateral for additional debt financing. In
addition, one company can acquire stock in another company without approval of its
stockholders; mergers and consolidations typically require stockholder approval. Holding
companies and their subsidiaries are considered separate legal entities, so that the assets of
the parent company and the individual subsidiaries are protected against creditors' claims
against one of the subsidiaries.8 However, holding companies and their subsidiaries may be
considered a single economic entity, and consolidated financial statements are then prepared
for the entire structure.
From a management point of view, the parent-subsidiary relationship of holding companies
and their subsidiaries allows for decentralized management. Each subsidiary retains its own
management team, and the subsidiaries become responsible to the parent company on a profit
and loss basis. Subsidiaries retain their corporate identities, and the holding company benefits
from any goodwill and recognition attached to the subsidiary's name.9 Parent companies may
provide specialized staff services for the benefit of any of their subsidiaries.
7
Holding Companies, Encyclopedia for Business, 2nd ed., Reference for Business
<http://www.referenceforbusiness.com/encyclopedia/Gov-Inc/Holding-Companies.html> accessed on 13
November 2020.
8
Id.
9
K.S. Sreekumar, Holding companies, order of the day, Gulf Weekly, Vol. 12 Issue 98, <
http://www.gulfweekly.com/Articles.aspx?articleid=16535> accessed on 12 November 2020.

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2.6. Disadvantages of the Holding-Subsidiary Company Setup
Apart from the advantages there are also few disadvantages of such setup as there is a
possibility of fraudulent manipulation of accounts and inter-company transaction may not be
at fair prices. Also, the shareholders in the holding company may not be aware of true
financial position of subsidiary company and creditors and outsiders shareholder in the
subsidiary company may not be aware of true financial position of subsidiary company.
Further than that, the Subsidiary Companies may be force to appoint person of the choice of
holding company such as Auditors, Directors other officers etc. at in dually high
remuneration or Subsidiary Company may be forced for purchases or sale of goods, certain
assets etc. as per direction of holding company.

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 CHAPTER 3

CONSOLIDATED PROFIT AND LOSS ACCOUNT

3.1. Introduction

The consolidated profit and loss account is the profit and loss account of a holding and
subsidiary company combined in a single account. It is prepared to show the profits of the
group so that shareholder may be able to know the profits of the company in which have
made the investment.

3.2. Preparation of Consolidated Profit and Loss Account

The Profit and Loss Account is to be prepared in tabular form. Initially, the profit and loss of
holding and subsidiary company are calculated separately in the usual manner by putting all
items of income and gains on the credit side and all items of all expenses and losses on the
debit side. After that, adjustments are made for the following amounts calculated on the basis
of the profits disclosed:10

(i) Amount of holding company share of profits of the subsidiary company arising
before the date of acquisition of shares should be debited to consolidated Profit
and Loss account and credited to capital reserve or cost of control or goodwill as
the case may be and vice-versa in case of a loss.
(ii) Minority Shareholders share of all profits of the subsidiary company should be
credited to Minority Interest Account and debited to consolidate Profit and Loss
account and reverse in case of Loss.
(iii) The amount of stock reserve should be shown on the debit side of consolidated
Profit and Loss Account by corresponding credit to the stock Reserve Account.

Amounts relating to intercompany transactions are entered in adjustment column and are
subtracted and transactions such as purchase and sale of goods, interests on loans among the
Holding and Subsidiary Companies are eliminated and also, all the inter-company profits are
adjusted. Dividends received by the holding company from Subsidiary company should also
be eliminated in the Profit and Loss Account. In this manner the balance in holding company
columns will represent the total profit or loss made by the company as a whole.

10
Holding Companies, Accounting Solutions, SCO:29, P. 2.

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 CHAPTER 4

CONSOLIDATED BALANCE SHEET

4.1. Introduction

This deals with the balance sheet of the holding company and subsidiary company and it is
combined balance sheet of both. Holding company is required to present to its shareholders
consolidated balance sheet of holding company and its subsidiaries. Consolidated balance
sheet is nothing but addicting of up or combining the balance sheet of holding and its
subsidiary together. However assets and liabilities are straight forward, i.e. added line to line
and combination of share capital, reserves, and accumulated losses are not directly added in
consolidated balance sheet.

4.2. Preparation of Consolidated Balance Sheet

There are few important points for the preparation of consolidated balance sheet:

(a) Share of holding company and share of minority (outside shareholders).

(b) Date of Balance sheet of holding company and that of various subsidiary companies
must be same. If they are not so necessary adjustment must be made before
consolidation.
(c) Date of Acquisition of control in subsidiary companies.
(d) Inter-company owing.
(e) Revaluation of fixed assets as on date of acquisition, depreciation, adjustment on
revaluation amount etc.

4.2.1. Cost of Control

The holding company acquires more than 50% of the shares of the subsidiary company. Such
shares may be acquired at a market price, which may be at a premium or at discount. This
amount is reflected in the balance sheet of holding company of the assets side as investment
in the shares of subsidiary company. This is the price paid for shares in net assets of
subsidiary company as on date of its acquisition. Net assets of the subsidiary company consist
of share capital, accumulated profits and reserve after adjustment, accumulated losses as on
the date of acquisition.
If the amount paid by the holding company for the shares of subsidiary company is more than
its proportionate share in the net asset of the subsidiary company as on the date of acquisition,

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the difference is considered as goodwill.11 If there is excess of proportionate share in net
assets of subsidiary company intrinsic of shares acquired and cost of shares acquired by
holding company there will be capital reserve in favour of holding company.
It goodwill already exists in the balance sheet of holding company or both the goodwill thus
calculated, will be added up to the existing goodwill. Capital Reserve will be deducted from
Goodwill. In short, net amount resulting from goodwill and capital Reserve will be shown in
the consolidated Balance sheet.

4.2.2. Minority Interest

The claim of outside shareholders in the subsidiary company has to be assessed and shown as
liability in the consolidated balance sheet. Minority interest in the net assets of the company
is nothing but the proportionate share of aggregation of share capital, reserve surpluses funds
etc. proportionate share of all assets should be deducted from the minority interest. Thus,
minority interest is the share of outsider in the following:
1) Share in share capital in subsidiary.
2) Share in reserves (Both pre and post-acquisition of subsidiary).
3) Share in accumulated losses should be deducted.
4) Proportionate share of profit or loss on revaluation of assets.
5) Preference share capital of subsidiary company held by outsiders and dividend due
on such share capital, if there are profits.

Minority interest means outsiders interest. It is treated as liability and shown in consolidated
Balance sheet as current liability. This amount is basically intrinsic value of shares held by
minority.

4.2.3. Capital and Revenue Profit

The holding company may acquire the shares in the subsidiary company either on the balance
sheet date or any date earlier than balance sheet date. All the profit earned by the subsidiary
company till the date of acquisition of shares by holding company has to be taken as capital

11
Sally Baker, Financial Management, <
http://www.cimaglobal.com/Documents/Student%20docs/F2novdec09fmarticle.pdf> accessed on 9
November 2020.

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profits for the holding company. Such reserves lose their individual identity and considered
as capital profits.12
In case, the holding company acquired shares on a date other than balance sheet date of
subsidiary, the profits of subsidiary company will have to be apportioned between capital
profits and Revenue profits from the point of view of the holding company. Thus any profit
earned by subsidiary company before the date of acquisition is the capital profit, while any
profit earned by subsidiary company after the date of acquisition is Revenue profits While
preparing the consolidated balance sheet share in capital profits should be adjusted with the
cost of control and Revenue profits / Reserves should be merged with the balances in the
Reserve and surpluses of the holding company.

4.2.4. Unrealized Profit

The problem of unrealized profit arises in those cases where the companies of the same group
have sold goods to each other at the profits and goods still remain unsold at the end of the
year company to whom the goods are sold.
While preparing the consolidated balance sheet, unrealized profit has to be eliminated from
the consolidated balance sheet in the following manner:
1. Unrealised profits should be deducted from the current revenue profits of the
holding company.
2. The same should be deducted from the stock of the company consolidated balance
sheet. Minority shareholders will not be affected in any way due to unrealized profits.

4.2.5. Inter-company Transactions

The holding company and the subsidiary company may have number of inter-company
transactions in any one or more of the following matters:
1. Loan advanced by the holding company to the subsidiary company or vice versa.
2. Bill of Exchange drawn by holding company on subsidiary company or vice versa.
3. Sale or purchase of goods on credit by holding company form subsidiary company
or vice versa.
4. Debentures issued by one company may be held by the other.

Advanced Financial Accounting and Reporting, Paper 16, Ed. 2, The Institute of Cost and Works
12

Accountants of India, Kolkata, 2009.

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As a result of these inter-company transactions, certain accounts appear in the balance sheet
of the holding company as well as the subsidiary company. In the consolidated balance sheet
all these common accounts should be eliminated.13

13
Manmohan Prasad, Kamini Saxena, Management Accounting, Motilal Banarsidas Publishers, Delhi, 1990, P.
451.

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 CONCLUSION

The scope and ambit of Holding and Subsidiary Company is very confined as per Companies
Act, 2013 as it details only limited information on the concept limiting itself to definitions
and the major part of it is dealt with subject of Financial Accounting. To conclude, it can be
put forward that this setup has many advantages and disadvantages regarding financial
control, management, ownership and legal liability. Apart from the aforementioned topics,
the profit and loss account of the holding company is also affected in a way by the finance of
subsidiary company and the former is supposed to make a consolidated profit and loss
account. The same applies regarding the balance sheet of the holding company which include
several factors of the nexus of the holding and subsidiary company.

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 BIBLIOGRAPHY

Cases

M. Velayudhan v. Registrar of Companies, (1980) 50 Comp. Cas. 33 (Ker.)

Books

Majumdar A.K., Kapoor G.K., Taxmann’s Company Law and Practice, 18th edition, 2013,
Taxmann, New Delhi.

Prasad Manmohan, et al., Management Accounting, Motilal Banarsidas Publishers, 1990, 1st
Edition, Delhi, 1990.

Singh Avatar, Company Law, 14th Edition, 2013, Eastern Book Company, Lucknow.

Internet Sources:

http://www.businessdictionary.com/definition/holding-company.html (Accessed on 5th

December 2020)

http://www.irs.gov/pub/irs-tege/schr_faqs_tips.pdf (Accessed on 5th December 2020)

http://www.ffiec.gov/nicpubweb/Content/HELP/Institution%20Type%20Description.ht
m (Accessed on 7 December 2020)

http://www.sadhan.net/Adls/CompanyProcCheck/IncorpRegistnComp/ProvCompanAct
ConcernHolding.pdf (Accessed on 8 December 2020)

http://www.mondaq.com/india/x/80878/Corporate+Commercial+Law/Holding+And+S
ubsidiary+Company+Regulations+A+Complicated+Matrix (Accessed on 1 November
2020)

http://www.referenceforbusiness.com/encyclopedia/Gov-Inc/Holding-Companies.html
(Accessed on 12 November 2020)

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