People often throw around the term ‘subsidiary’ in business, but you might not know exactly what it means. Subsidiaries play an important role for nearly every large corporation, however, they often do not get the recognition they deserve.
We discuss what subsidiary companies are, how they are used, and the best way to structure them.
What Is a Subsidiary Company?
A subsidiary company is wholly-owned, or at least majority owned, by another company, referred to as the “parent” or “holding” company. A subsidiary typically has a separate business purpose or operations, however, the parent maintains voting-control over the subsidiary.
Subsidiaries are powerful tools that allow companies to protect individual business assets. Subsidiaries act like firewalls keeping the liabilities and obligations of one business separate from the assets of any other related businesses.
A large company with multiple subsidiaries is like its own business ecosystem. Individual companies can operate independently and have their own assets and liabilities. The parent company meanwhile consolidates the ownership and management of these businesses under one entity.
Is A Subsidiary Company An LLC?
Limited Liability Companies (LLCs) are now the most popular entity type and represent three quarters of new businesses formed. Many of these new LLCs are subsidiary companies for big and small businesses alike. Many small businesses also have wholly owned parent-child subsidiaries.
LLCs are the preferred entity type for subsidiaries because they are flexible, cost effective and simple to manage.
Subsidiary Company Examples
Companies of all sizes use subsidiaries as part of their corporate structure. For some of the world’s largest corporations, using subsidiaries is a necessary strategy for protecting their diverse business interests.
Some examples are:
- Google and Youtube as subsidiaries of Alphabet Inc;
- Instagram as a subsidiary of Meta Platforms, Inc., (formerly Facebook, Inc.);
- American Broadcasting Company (ABC Network) and ESPN as subsidiaries of the Walt Disney Company;
Alphabet, Inc. uses subsidiaries to successfully manage its different business lines. Alphabet, Inc. “dropped down” the Google search engine cash cow into a subsidiary to separate it from numerous other ventures. It’s unknown how many subsidiaries Alphabet, Inc. has incubated, however, it is likely in the hundreds.
Some ideas turn to goose eggs which generate zero profits…for now. For example, remember Google Glass? If one business “egg” fails and becomes rotten with toxic liabilities, a subsidiary LLC can compartmentalize those risks. Companies can isolate newfound creditors to only the exposed toxic assets. The objective is to avoid punishing the other subsidiaries that did not do any harm to the creditor.
Subsidiary Company Pros and Cons
There are some important points to consider when deciding whether operating a subsidiary is right for your business.
- Pros: Limit Liability Risk Across Businesses
Having subsidiaries helps companies compartmentalize liability risks within a business organization. For example, one subsidiary may file for bankruptcy without dragging the rest of the business through the process. A subsidiary also lets you bring in members to your new venture without giving them a slice of the bigger “pie” from sectors of the parent company they have no involvement with.
- Cons: Costs of Management
The disadvantage of having multiple subsidiaries is related to the administrative and maintenance costs of operating multiple LLCs. Forming an LLC involves paying applicable filing fees. Most states also require LLCs to pay an annual franchise tax. LLC owners pay this fixed fee in order to keep the company’s good standing status.
Additionally, subsidiary LLCs must maintain separate books, records and bank accounts in order to avoid mixing assets between businesses. These additional measures can add to the costs of operating subsidiaries.
How Much Does A Subsidiary Company Cost?
Companies often form subsidiaries as LLCs. The cost for forming and maintaining a subsidiary LLC will depend on which state it is formed in. Between state annual franchise taxes and annual registered agent fees, an LLC typically costs $400 per year to maintain.
The Delaware Series LLC
The Delaware state legislature has introduced a unique entity type called the Series LLC. The Series LLC makes it easier and more affordable for companies to operate subsidiaries.
A Delaware Series LLC is able to create an unlimited number of business cells called “protected series”. Each protected series is able to have its own business purpose, assets and liabilities.
A Delaware Series LLC provides internal asset shields. This means the business assets of each protected series are off limits to creditors of any other protected series or the parent LLC.
Delaware requires Series LLCs to pay only one filing fee and one annual franchise tax no matter how many protected series they form. The Series LLC enables the consolidation of ownership across businesses without multiplying the costs.
What Is The Best State For Subsidiary Companies?
Entrepreneurs have long recognized Delaware as being the premier location for LLC formation. The world’s largest companies have formed tens of thousands of subsidiary companies in the state. This is mainly because Delaware’s business laws provide protections for business owners that are unmatched by any other state.
Google is likely the most recognized Delaware LLC in the world. General Motors is another well known company which has formed over 1,500 subsidiaries in Delaware. Entrepreneurs form thousands of Delaware LLC subsidiaries every month, each with discrete purposes and assets of their own.
How Are Subsidiary Companies Taxed?
The IRS disregards single-member LLCs for tax purposes. This means subsidiary LLCs do not need to file separate tax returns. Profits and losses of subsidiaries can be accounted for on the parent company’s books.
What Is a Wholly Owned Subsidiary?
A wholly owned subsidiary is a company that is owned 100% by a parent company. A wholly owned subsidiary will typically be used to separate a particularly risky asset or a very valuable asset that the parent company wants to keep separate from its other assets and liabilities. Examples of this are a summer camp forming a wholly owned subsidiary to hold title to a boat or a business forming one to own its private aircraft.
What Is a “Subsidiary Agreement”?
A subsidiary agreement is one term business owners use for the operating agreement of a subsidiary company. One unique aspect of a subsidiary’s operating agreement is that there is only one member, the parent company.