Subsidiary

Definition

A subsidiary is a company that is owned or controlled by another company, known as the parent company. Subsidiaries are separate legal entities that operate under the direction and oversight of the parent company.

5 Must Know Facts For Your Next Test

1. Subsidiaries are often established to expand a parent company's reach, diversify its operations, or take advantage of local market conditions.
2. The parent company can exercise control over the subsidiary's operations, decision-making, and financial policies.
3. Subsidiaries can have their own management teams and organizational structures, but they ultimately report to the parent company.
4. Consolidated financial statements are required to present the financial position and performance of the entire group, including the parent company and its subsidiaries.
5. Intercompany transactions, such as the sale of goods or services between the parent and subsidiary, must be eliminated in the consolidated financial statements to avoid double-counting.

Review Questions

• Explain the purpose of establishing a subsidiary and the benefits it can provide to the parent company.
  • Subsidiaries are often established by parent companies to expand their reach, diversify their operations, or take advantage of local market conditions. By owning a subsidiary, the parent company can exercise control over the subsidiary's operations, decision-making, and financial policies, allowing for greater strategic flexibility and the ability to leverage the subsidiary's unique strengths or market position. Subsidiaries can also provide the parent company with access to new markets, technologies, or resources that may not be readily available to the parent company on its own.
• Describe the role of consolidated financial statements in the context of a parent-subsidiary relationship and the importance of eliminating intercompany transactions.
  • Consolidated financial statements are required to present the financial position and performance of the entire group, including the parent company and its subsidiaries, as a single economic entity. These statements combine the accounts of the parent and its subsidiaries, allowing for a comprehensive view of the group's financial activities. However, it is crucial to eliminate intercompany transactions, such as the sale of goods or services between the parent and subsidiary, to avoid double-counting and provide an accurate representation of the group's financial performance. Failure to eliminate these transactions would result in inflated revenues, expenses, and assets, leading to a distorted financial picture.
• Analyze the level of control a parent company can exercise over its subsidiary and how this impacts the subsidiary's operations and decision-making.
  • As the owner of a subsidiary, the parent company can exercise a significant degree of control over the subsidiary's operations, decision-making, and financial policies. The parent company can appoint the subsidiary's management team, set strategic objectives, and influence the subsidiary's day-to-day activities. This level of control allows the parent company to align the subsidiary's operations with the group's overall goals and strategies, ensuring synergies and maximizing the benefits of the parent-subsidiary relationship. However, the subsidiary maintains its own legal identity and may have some autonomy in certain areas, such as local market adaptations or specific operational decisions. The parent company's control is balanced with the need to allow the subsidiary to respond to unique market conditions and maintain its competitive edge.

Related terms

Parent Company: The company that owns or controls a subsidiary, typically holding a majority stake in the subsidiary's ownership.

Consolidated Financial Statements: Financial statements that combine the accounts of a parent company and its subsidiaries, presenting the group as a single economic entity.

Intercompany Transactions: Transactions that occur between a parent company and its subsidiary or between two subsidiaries of the same parent company.