When it comes time to look beyond your own borders and start thinking about global growth, there’s more to do than just pick a country and start trading. The process of incorporation must start again, with every jurisdiction having its own regulations guiding what to do and how to do it – despite the increasingly common governance and compliance needs in most major financial centers thanks to globally developed regulation.
Like in all good stories, there are two routes an organization can take when expanding overseas. Standing at the proverbial fork in the road, those advising the board must choose the best course for their business strategy, and the entity form for the new market is one of the biggest and most important decisions to make at the start of that journey.
The road sign at that junction reads “branch vs. subsidiary,” with one road leading to more control at the center and the other leading to local representation. Which road the organization ultimately takes will have a profound impact on the way it can conduct business and grow further.
But what is the difference between a branch and a subsidiary? Each form has its own advantages and disadvantages, and we’ll take a high-level view in this article.
Branch: when you want to control from the center
A branch office is, quite simply, a location other than the main office where business is conducted. It can also be referred to as a representative office or local establishment. It will typically have a branch manager reporting directly to the main office, and may also feature smaller divisions of teams such as human resources, marketing and accounting. It’s an option to increase reach while maintaining control.
Organizations tend to choose to set up a branch vs. a subsidiary to allow many client-specific administrative considerations to be conducted closest to local clients, and to be better informed of the local market needs. It can be a way for large companies to satisfy the customer need for face-to-face interaction without setting up or incorporating an entirely new entity.
Some structures opt to use a “hub and spoke” method to serve clients, where the home office sits at the center to serve the spokes, or branch offices, by carrying out administrative functions. This enables quick scaling of operations and in-market presence. Indeed, the branch allows a greater level of control by the parent entity. It will also be subject to the laws in the parent company’s jurisdiction so there is a degree of familiarity when first setting out, though there may be local filing requirements.
However, the branch does not come without risks. The parent company will be fully liable for the liabilities of the branch, and the financial statements of the parent must normally be filed at the branch’s local companies registry. The branch is under the same obligations as its parent – including filing VAT returns, employee returns and corporate tax returns – which means there are few administration savings, and it will have limited powers. It’s rarely an option for substantial projects, as the parent company runs the full risk of undertakings.
Subsidiary: when you want more authority at a local level
If the international venture in sight is a substantial one, or if you’ve already explored the market potential through a branch office, it’s time to consider the road marked “subsidiary.” Every jurisdiction allows for different types of entities when it comes to incorporating a subsidiary, so it’s best to seek guidance from a local expert before making any final decisions. For example, would you be better off opening a public or a private limited company in the UK? A Kabushiki Kaisha (KK) or Godo Kaisha (LLC) in Japan?
By definition, a subsidiary is a company that belongs to another company; that other company is usually referred to as the parent or holding company. The parent holds a controlling interest in the subsidiary, which means it controls more than 50% of its stock. If a parent owns 100% of stock, that subsidiary is referred to as a wholly owned subsidiary. It is, however, a completely separate legal entity from the overseas parent company, which is an important distinction for the branch vs. subsidiary. The parent organization has no liability for the subsidiary.
In terms of governance and compliance needs, the subsidiary can maintain its own processes, although many parent companies do choose to provide central guidelines. The subsidiary’s accounts are maintained separately from those of the parent organization, and it will have local reporting requirements, too. The makeup of the board of directors will be subject to local regulation; some jurisdictions require local representation, some require no directors to be shared, and so on.
A subsidiary does offer more flexibility than the branch, in the sense that it may issue or transfer shares to third parties such as partners, investors or venture capitalists, so it may be easier to raise funds for local growth without the parent needing to finance operations. A subsidiary can also be listed on the stock exchange, whereas a branch cannot.
However, the lack of parental control does mean inherent risk in choosing a subsidiary. If the subsidiary runs into compliance trouble, it can cause a ripple effect up to the parent or holding company and cause reputational damage – or worse.
Keeping track of a branch vs. subsidiary for entity management
Whatever the difference between a branch and a subsidiary, and whichever way the board chooses to go for its new market venture, there will still be entity data that must be tracked and stored correctly at both the group level and the local level. Even though a branch has fewer reporting obligations, it still has obligations nonetheless, and with limited boots on the ground, it could be easy for the head office to lose track of the local state of compliance.
The entity form will have implications for all manner of entity management requirements, including local taxes, employment matters and reporting duties. It’s best practice, whether locally or centrally controlled, to maintain a central repository for all entity data. For a branch, this means that the head office compliance team can manage the entity and ensure the full structure’s reports are up to date and based on accurate data; for a subsidiary, a central repository means the parent can keep an eye on things devolved to local managers.
Installing a single source of truth for all entity management can mean more efficient, more robust, more accurate and more secure entity management for both branch and subsidiary. Diligent Entities helps organizations to centralize, manage and effectively structure their corporate record to improve entity governance. This, in turn, allows both branch and subsidiary to better ensure compliance, mitigate risk and improve decision-making through an integrated governance solution.
Diligent Entities also integrates with Diligent Boards and a secure file-sharing system to create the Governance Cloud, an all-in-one governance ecosystem that helps to streamline governance and compliance across borders by providing a secure cloud-based central repository for all entity documents and data.
Yes, there is a difference between a branch and a subsidiary, but entity management software can help in all cases. Get in touch and request a demo to see how Diligent’s suite of governance and compliance software can help both your branch and your subsidiaries to maintain robust records.