Definition of parent and subsidiary company

Definition of parent and subsidiary company

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In the modern world, business activity is carried out by businessmen with the help of a number of companies, thus forming groups that seek to optimize their activities by generating economies of scale by resorting to economic figures such as horizontal integration in which the efforts of several companies that carry out the same activity are added, or vertical integration in which the efforts of several companies that complement each other for the production of a certain good or the provision of a particular service are also added.

In this sense, economic groups have been created that are formed by a controlling company (or parent) and all its subsidiaries, for which different regulations have been made to define the transparency of the information provided to the market regarding the company, parents and subordinates, establishing the effects that derive from control situations.

Definition of parent company

The principle for defining when an entity is a parent is the control it has over an investee. Control is exercised when the decision-making power of a company is directly or indirectly subject to the will of one or more other persons; the controlling party is called the parent.

Definition of subsidiary

A company will be a subsidiary or controlled when its decision-making power is subject to the will of another or other persons who will be its parent or controller, either directly or indirectly, is called an affiliate or subsidiary.

Although the parent company can usually control most of the shares of the subsidiary companies, it allows it to take control and assume responsibility for all its decisions related to the financial and operational system.

What is control?

It is the power to direct the financial and operational policies of an entity, in order to obtain benefits from its activities.

An investor controls an investee when he is exposed to, or is entitled to, variable returns from his involvement in the investee, and has the ability to influence those returns through his power over the investee. In order to determine whether an investor controls an investee, the investor will assess whether all of the following elements are present:

  1. Power over the investee;
  2. Exposure, or entitlement, to variable returns from his or her involvement in the investee;
  3. The investor’s ability to use his or her power over the investee to influence the amount of income for that investor.

Presumptions of control

The majority participation in the capital of a company, i.e. when more than 50 % of the voting shares of a company are held.

When you have the votes of the minimum decision-making majority or the votes to elect the board of directors.

Contractual subordination that is presented by reason of an act or legal business with the controlled company and its partners, for example when there is a shareholders’ agreement exercises a dominant influence on the decision of its administrative bodies.

Accounting requirements

A parent company shall prepare consolidated financial statements using uniform accounting policies for transactions and other events that, although similar, have occurred in similar circumstances.

The valuation by holding companies of permanent investments in companies over which they exercise total control (controlled companies or subsidiaries) or significant influence on their decisions (related companies), as well as the recognition of the results produced by such investments, must be carried out following the equity method.

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