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Investment holding company

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Descriptions of the investment holding company and details of its objectives etc.

Investment Holding Company

A Holding Company is the mother ship. It holds various businesses within one corporate entity. That means, it is the perfect way to structure various services or products within one corporate group without having to keep them all within one company.

An investment holding company may provide a vehicle for multiple investors to pool their funds and collectively invest them in assets based on a specific investment objective or strategy. Alternatively, investment holding companies may be wholly owned by one person, a trust, or a family. In each case the purpose is the same: to limit risk, minimize taxes, maximize returns and enhance privacy.

Thousands of South Africans use a holding structure to setup their business. This structure can limit financial risk and assist you with branching out to new industries.

Why Choose a Holding Company?

A Holding Company is perfect for entrepreneurs looking to branch out to new business prospects; prospects that do not quite fit into their existing companies.

It is also great for business owners who want to compartmentalize different departments, services or products. Anyone looking to limit the financial risk of having various trades within one company can opt for a holding company to keep risk factors limited to specific divisions.

A Holding Company also makes it less risky to team up with business partners in new ventures as you will not have to expose your existing company to the risk of failure which your new business poses.

How does a Holding Company Work?

In essence, a Holding Company is a parent company, which owns various businesses (or at least 30% of their issued shares). A Holding Companies does not trade in services or products itself, it merely has ownership in various companies that do, holding them together in one corporate entity.

It is interesting to note that Investment Holding Companies use this holding structure to attain shares of various promising or profitable businesses within one Investment Company.

It is also common in global and local capital markets for an investment holding company to trade at a discount to its net asset value.

What are the Disadvantages?

The paperwork and start-up costs and will be slightly higher. You will have to register every business you would like to run as a Subsidiary Company to your Holding Company.

Furthermore, if the Subsidiary Companies to your Holding Company have various owners, it can be difficult to close a Holding Company, as there are multiple owners to consult.

However, if this business structure might help you better manage various parts of your business or numerous Companies, the long-term benefits are worth considering.

Understanding an Investment Holding Company

The business of an investment holding company differs substantially from that of an operating company. In the latter case products and/or services are being sold at a certain gross profit margin, thereby creating revenue and cash inflows for the entity concerned.

Strong cash flows and shareholder value are accordingly created by increasing revenue, as well as by limiting expenditure and optimising operational efficiencies, thus increasing the net profit from which dividends can be paid to shareholders.

In the case of an investment holding company no products and/or services are being sold. This, together with the specific accounting treatment that is required for different classes of investments in terms of International Financial Reporting Standards, has the effect that the net profit of an investment holding company is not always a fair reflection of its underlying cash flows and financial soundness.

Similarly, the variance in net profit between reporting periods will not always be a good indication of the trend in dividends to be paid to shareholders. The value and performance of the underlying investments, rather than the activities at holding company level, will thus to a large extent determine the value created by investment holding companies for their shareholders.

Holding Company Benefits

An investment holding company can be used to invest in a variety of different assets:

• Stocks;
• Bonds;
• Intellectual Property;
• Loans;
• Real Estate; and
• Shares in other investment companies.

Those who own and operate multiple properties often use an investment holding company strategy in much the same way that the owner of a single business uses a corporate or LLC structure to create separation between his or her business activities and personal affairs.

Most investment holding companies are created for one, or a mix, of the following goals: managing risk, minimizing taxes, ensuring privacy or offering a vehicle that investors can use.

Asset protection - Your investment activities can expose you to liability associated with a particular investment. An investment holding company shields its owner from personal liability and exposure to investment risks. For example, if you have invested in rental property, you may get sued if someone gets injured on the property. If this happens and you own the property in your own name, you may be held personally responsible and liable to compensate the injured party.

On the other hand, if the property is owned by an investment holding company that you own, only the investment holding company and the assets it owns may be held liable to the injured party, not you and your personal assets.

Note: If you own multiple investments in one holding company, all of the investments in that holding company will be exposed to any lawsuit filed against it. For this reason, many investors hold each investment in its own separate company, underneath the investment holding company, to add another layer of asset protection.

Tax advantages - Asset protection is one of the biggest benefits of investing through an investment holding company. But, it also offers certain tax advantages, such as tax-free dividends and pass-through taxation.

Any income derived from the various investments can be passed through the holding company (tax-free dividends) to the individual owners, who will then report it on their individual tax returns (pass- through taxation). This will avoid double taxation if the holding company is structured properly.

The term wholly-owned subsidiaries refers to businesses that a certain holding company fully owns. This situation means that the given holding company can hire management for the company or even terminate it. In turn, those managers control the company’s operations. The holding companies will not participate in daily business operations for companies that they own. Even so, it should understand those operations so it can evaluate prospects and performance.

How Does a Holding Company Make Money?

From an investment perspective, investment holding companies will receive profit from things such as dividends, interest, profit (and losses) from realized investments, leases, royalties, tax minimization from income shifting and minimizing losses due to failed investments. Investment holding companies place a strong emphasis on controlling risks and managing cash.

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