Corporate group structures are often complex and comprised of vast networks of subsidiaries and associated entities, often with the same or similar directors and ultimately owned by the same parent company.
There are legal and business risks with corporate group structures, which are often overlooked because the risks can be hidden and not imminent. However, as this article will explore, complex corporate group structures, if left unchecked, can expose the group (and usually the parent company) as well as directors of the various subsidiaries within a group to significant liabilities.
It is essential that directors and officeholders are aware of the legal and business risks inherent in corporate group structures. Additionally, corporate groups must be structured to reflect the group’s needs and should implement appropriate governance procedures that delineate responsibilities and authority.
This article examines the key risks and liabilities associated with corporate group structures and provides some practical tips in getting the balance right in corporate group structuring.
Why have a corporate group?
Corporate groups are attractive for a range of legal, business, tax and governance reasons, and are often very important for financial growth and in the mitigation of risk. For instance, the creation of a subsidiary allows a corporate group to reduce commercial risk by importing that risk to the subsidiary, which will act as a separate legal entity. In mitigating this risk, subsidiaries also allow for diversification of a corporate group’s business and can provide a vehicle for holding companies to enter into acquisitions or joint ventures.
The use of subsidiaries as a risk mitigation tool can also be seen when subsidiaries are used to quarantine assets, liabilities and risks. Within large companies, in particular, the quarantining of assets through the use of a special purpose subsidiary can be an effective means of safeguarding assets from external liabilities. This quarantining will also facilitate a more efficient and cost effective mechanism to exit a particular investment or asset portfolio if the group wishes to consider divesting certain operations or assets.
Effective group structuring can also provide tax and debt structuring benefits to the overall corporate group. In particular, utilisation of finance subsidiaries within a corporate structure will help to mitigate the risk of the parent company for subsidiary debts and can also act as a tax shield when subsidiary loans fail.
Key issues with corporate group structures
Particularly in periods of growth, corporate groups can easily become complex and unwieldy. This growth can occur organically or as a result of merger and acquisition activity and, if left untamed, this may cause unnecessary complexity and uncertainty for stakeholders and also potentially expose shareholders and directors to liabilities.
Two of the key issues arising as a result of complex or ill-thought-out corporate governance structures are examined in further detail below. First, complex group structures increase the liability of the officeholders within the group and the parent company. Secondly, inherent within any parent company and subsidiary relationship are governance issues, which tend to be exacerbated in large, complicated structures. These governance issues have the potential to adversely impact on the success and profitability of a corporate group.