What is a holding company? How are holding companies different from operating companies? Why are holding companies are traded at a big discounts? What are the types of holding companies. And finally should you by holding companies? We will touch upon all these points in this article.
So let’s begin.
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What is a holding company ?
Section 2(46) of the Companies Act, 2013 defines holding companies.
Holding company by its virtue of control, controls the management aspect i.e. composition of Board of Directors, management rights, voting rights, etc of a subsidiary company. Holding company also controls more than one-half of total shares of it’s subsidiary company.
You can put it in a simple way that holding companies control subsidiary companies indirectly.
Before exploring further let’s understand the why is the use of holding companies in first place?
Advantages of a holding company
This advantages are more of promoter’s point of view than small investors point of view.
- Competitive advantage: If both the companies are in the same space then, one company will not compete with another rather they will complement each other.
- Dealing with Bankruptcy: If the company is operating though holding-subsidiary mode then any loss in subsidiary will not have same magnitude of impact had it been standalone entity. Holding company can monetise the holdings and start afresh.
- Better decisions can be made: Since the holding company will have hawkish view on subsidiary company and in some cases they have experience of dealing with multiple companies, better management decision can be made.
Types of holding companies
Holding companies can be a pure holding company or it can also have own business operations along side holdings from different subsidiary companies.
Pure Holding companies
Pure holding companies mostly get benefit from appreciation of their assets and on a regular basis they earn dividends from it’s subsidiary companies.
Holding companies with core core business
There are some companies like Amtek auto where they have significant investment in other companies as well as they have their own business to grow.
While choosing which holding company to invest, above categorization will play a good role.
Why do holding companies trade at a discount?
Usually holding companies trade at a discount as compared to it’s subsidiary company. When in bull market most companies move up sharply, holding companies don’t goes up in the same speed.
Holding company usually hold multiple subsidiary companies. For holding company to do well most of it’s subsidiary companies have to do well. Sometime due to negative sentiment in one or two of the subsidiary companies, holding company valuation gets impacted heavily.
Holding companies have always less information available in public domain. These factors make these companies less interesting for investors.
Since holding company profit is mostly dividends, it is hard to analyse the profit loss statement for these companies.
Let’s move to understand types of discount holding companies provide.
Types of discounts by holding companies
Here is few key factors.
Discount due to low liquidity: Holding company always has less liquidity compared to subsidiary that itself makes it less interesting for investors to consider.
Less control discount: Since holding companies are not directly involved in daily operational activities they have less control over subsidiary companies.
Discount due to irregular profit: Holding company mostly derive profit from the dividends it gets from subsidiary company. If the dividend it receives is good then company may decide to pass on some dividend profit to share holders. This is a two phase process.
Few tips on selecting holding company for investment
Preferably select holding companies which have holdings in quality companies.
Select holding companies which also have their core business apart from investments.
Choose holding companies with good dividend history.
Check for percentage of holding, a holding company has in all of it’s subsidiary companies.
Finally look for market capitalization, net current assets, total assets and total investments of a holding company in proportion of their percentage of holding with subsidiary company.
This is the end of article on holding companies. We started with what is a holding company then touched upon different factors. It covered advantages and disadvantages of a holding company. Now let’s see what is the correct discount, an investor should be interested in.
In west it is a common practice to consider a holding company to be good when it offers 20% discount. But in India it is usually a 40-50% discount that is considered as good for investment in a pure holding companies.
So just because a holding company provides discount don’t jump on to buy without doing thorough research.
Hope you come to know what is a holding company and why do they provide a big discounts. Do share with others of you feel this will benefit them.
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