June Blog – Importance of Company Group Structure
In this review, we examine the importance of considering the group structure when analysing a company’s financial health.
What is meant by group structure? This is all about the ownership levels within a set of companies where an ultimate holding company has a controlling interest (typically owns more than 50% of the share capital) in the other companies (the “subsidiaries”). The ownership levels/structure occurs where the top Company A owns Company B, which in turn owns Company C, etc. All levels are considered to be in the same group with Company A being the ultimate holding company.
A screenshot of our group structure page:
When looking at the financial health of an individual company within a group, we strongly recommend you consider it in light of the whole group and not in isolation. Often a subsidiary in a group is the trading entity (i.e. doing business with other companies, has customers, suppliers and so on) whereas all the finance can be held in the parent (holding) entity. Consequently, the financial health of a parent can clearly impact the financial health of the subsidiaries. For example, if the subsidiary relies on cash from the parent to support its trading activities anything which might disrupt the flow of cash from the parent to the subsidiary can have a substantial impact.
With subsidiaries, it is possible to have the worst of both worlds – in the case of a strong parent company but a weak subsidiary; the parent may allow the subsidiary to fail – perhaps by not providing continued cash to support a weak business (although if you are dealing with the subsidiary, you can consider taking a guarantee from the strong parent company to mitigate this risk). Alternatively you can have an apparently strong subsidiary (where, for example, just the profitable trading may be recorded) and a weak parent (where all the finance is recorded) and usually if the parent should fail, the whole group is brought down. The failure of the whole group may be as a result of the parent company taking money out of the subsidiary to settle the group’s obligations.
A typical example is House of Fraser Stores, the subsidiary looked in reasonable financial health, however the parent House of Fraser Group Limited was exceptionally weak & when it failed, all companies in the group failed. Prior to the group’s failure, the subsidiary’s balance sheet showed significant group balances on both the debtors and creditors side and was therefore very inter-connected with the overall group.
Both our Credit Risk Score (on the Snapshot Report) and our Credit Limit will typically highlight when a subsidiary has a weak parent – in both cases the scores incorporate the financial health of the parent and give a good quick indicator as to when more investigation could be required.