What Is An Affiliated Company? (With Benefits And Tips)
By Indeed Editorial Team
Published 14 May 2022
The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.
There are many ways for companies to enter a new market. An affiliated company may form the basis of a business relationship and offer access to the market through ownership, control and sharing of facilities. It is common for international companies to operate in foreign countries by establishing affiliates and subsidiaries without staking their names or stocks. In this article, we understand what an affiliated company is, learn about the differences between affiliated companies and subsidiaries and discover the benefits of being affiliated with a company.
What is an affiliated company?
Understanding the answer to "What is an affiliated company?" can help you learn about the legal relationships between companies as a business strategy. In an affiliated company, one company owns less than 50% of another company or a third company has a minority stake, i.e. less than 50% in both these companies. Parent companies of affiliated companies are minority shareholders. Although the company has less than 50% control, it can influence its affiliates' decisions, though it cannot exercise day-to-day management control.
Parent companies have no influence over the management or business decisions of the affiliated companies, nor are they able to select the board of directors. Yet, they can exert some influence in certain ways. For example, Company A in one country wants to have control over the supply chain in another country. Therefore, the first company acquires 20% of shares in Company B, situated in that country. Thus, Company A has better control over the supply chain in Company B by taking advantage of its capital gains by being its affiliate.
Terms associated with affiliated companies
Here are the terms you can come across related to affiliated companies:
Parent companies own other legal entities. The parent company may create the entity on its own or purchase the majority of voting shares. Voting shares also affect the management and operation of the other entity, which is sometimes called a controlling interest. A parent company's ownership status can change if they purchase or sell additional shares. It is possible for the parent company to actively involve itself in the decisions of its subsidiaries or to take a more hands-off approach.
Holding companies do not involve themselves in manufacturing, selling or engaging in any other business activity. They are usually corporations or limited liability companies (LLCs). The purpose is to hold shares or membership interests in other corporations. Its subsidiaries, also known as operating companies, can conduct business as manufacturers or sellers. A key difference between a holding company and a parent company is that, in contrast to a parent company, a holding company does not have direct control over its subsidiaries.
An entity that owns a minority share in another business is called an associate company. Joint ventures are common examples of associate company relationships. Parent companies typically record their associate companies' value as an asset on their balance sheets. For instance, among three partners, one company may provide production facilities, the second company may supply the necessary technology for a new product and the third company can provide financing. In this way, the three companies can start a new joint venture that is an associate of all three without being an affiliate of any of them.
When a shareholder holds a majority of the voting stock of a company, it is called a controlling interest. Holders of voting shares determine a company's management structure, especially its board of directors. A company with a controlling interest can significantly influence an organisation's operational and strategic decisions.
Sister companies are subsidiaries of the same parent company. Sister companies can operate independently with unrelated product lines and have no connection except that they share the same parent company. A sister company may be a direct competitor in the same industry. In these situations, after becoming sister companies, the parent company imposes separate branding strategies to make sure they are distinguishable.
Wholly owned subsidiary
Those companies that are 100% owned by other businesses are wholly owned subsidiaries. Majority-owned subsidiaries are companies in which a parent company owns 51% to 99% of their common stock. In contrast, a parent company may establish an affiliate or associate company in which it would own a minority stake when it is desirable to lower costs and risks.
Differences between affiliated companies and subsidiaries
Both subsidiary and affiliate refer to companies that have a portion of their shares controlled by a parent company, yet there are certain differences between the two terms. The term subsidiary refers to a company owned or controlled by its parent company. Typically, a parent company owns over 50% of a subsidiary company. By being a majority shareholder, a company can gain maximum control over another company. Wholly owned subsidiaries are companies in which a parent organisation owns all the common stocks.
It is important to understand that some affiliated companies are not directly under the parent firm but are instead independent partners who simply share their stocks with the parent firm. In addition, affiliate companies may own subsidiaries in which they own a majority or a hundred percentage of the stocks.
Benefits of an affiliated company
Affiliated companies offer the following advantages:
New market entry
In many cases, parent companies use their affiliates to enter foreign markets and retain a minority stake in the company. For parent companies that plan to sell out their majority stakes in affiliates, this is especially important. Companies opting for this strategy often minimise the research and substantial costs associated with entering a new market.
For instance, a multinational company can set up affiliate companies to access the international markets. This allows it to protect the name of the parent company if the affiliate does not succeed or if the perception of the parent company turns out to be negative because of its foreign origins. By knowing the difference between affiliates and other business agreements, companies can understand debts and other legal obligations.
A company may decide to do a buyout or take over another company or it may decide to form a newly independent company with a corporate spin-off into a new affiliate. Separating parent company operations from affiliate operations is common practice. The two companies keep separate management teams since the parent holds only a minority stake.
Investing in a company as an affiliate is an attractive proposition for many companies. Such investments can generate higher returns than others in the investment portfolio. Affiliated companies also get substantial capital gain in case of active minority interest, where a company owns 21% to 49% of another company.
Companies with competitive advantages can produce goods and services more efficiently or cost-effectively than their competitors. An entity with these factors generates higher sales or higher margins than its rivals in the market. The factors that contribute to competitive advantage often include cost structure, brand recognition, intellectual property and distribution networks.
A company that buys raw materials from another company might benefit from controlling its supplier and becoming its affiliate to gain better control of its costs. In such a case, the parent company can have a higher competitive advantage in the event of an increase in material costs.
Synergy is the idea that the combined value and performance of two companies from a merger can be higher than the sum of their individual parts. For instance, in a merger and acquisition (M&A), two companies can create a single entity to generate more revenue, streamline operations and reduce costs. As an affiliate company may be a good investment, it is possible that affiliated companies can have synergies as well. Thus, the affiliated companies can increase their value when combined. The companies can benefit from each other's complementary businesses and resources.
Affiliated companies can benefit from the following synergies:
Marketing synergy: Two companies in a merger and acquisition can avail marketing benefits and promote each other's products and services. Marketing personnel, marketing campaigns, marketing tools and research and development all contribute to synergies in these areas.
Financial synergy: A combined entity can benefit from financial synergies between two companies in the form of debt availability, tax savings and cash flow. As a result of a merger, a company inherits strong assets from the former companies, allowing it to access credit and secure loans.
Revenue synergy: Affiliated companies can generate more revenue with synergy than the two independent companies could generate on their own. Through the merged company's distribution network, both companies can have access to a wider range of products and services.
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