What Is an Associate Company, and How Does It Work?

What Is an Associate Company?

An associate company, in its broadest sense, is a corporation in which a parent company possesses an ownership stake. Usually, the parent company owns only a minority stake of the associate company, as opposed to a subsidiary company, in which a majority stake is owned.

The actual definition varies greatly from jurisdiction to jurisdiction and in different fields, as the concept of the associate company is used in economics, accounting, taxation, securities, and beyond.

Key Takeaways

  • An associate company is a firm owned in part by a parent company.
  • Unlike a subsidiary company, the parent will only own a minority or noncontrolling stake in the associate company.
  • Associate company relationships often occur with joint ventures.
  • Firms that possess stakes in associate companies must accurately report those investments on their consolidated financial statements.

How Do Associate Companies Work?

If a firm invests in a smaller company, but obtains a minority stake or noncontrolling interest in it, the company in which they have invested is called an associate company.

An associate company may be partly owned by another company or group of companies. As a rule, the parent company or companies do not consolidate the associate company’s financial statements, as is the case with a subsidiary (where the parent company usually consolidates the financial statements). Typically, the parent company records the associate company’s value as an asset on its balance sheet.

Consolidated financial statements are the combined financial statements of a parent company and its affiliated companies or subsidiaries. While there is usually no mandatory consolidation of an associate company’s activities, in most countries, there are tax rules that need to be considered when preparing financial statements and tax returns.

Investing in a minority stake in an associate company may be a simple means of entry into a new market for companies seeking to make foreign direct investments.

Example of Associate Companies

Associate companies may also be used in the context of a joint venture among several different partners, each of whom brings a different element to the group. For example, one partner may own production facilities, a second might possess the technology for a new product, and the third may have access to financing. Together, they can form a new company, which is an associate of all three without being the affiliate of any of them.

For example, in July 2015, software giant Microsoft Corp. (MSFT) invested $100 million in Uber Technologies Inc. (UBER), thus taking a foothold in the ride-sharing industry—which is not directly Microsoft’s usual line of business. However, the industry is heavily reliant on software and is a path to diversification and growth for Microsoft.

What is the difference between an associate company and a subsidiary?

An associate company is one in which a parent company owns a minority stake. With associate companies, the parent does not consolidate the financial statements of the associate company.

By comparison, a subsidiary is a company with a parent company that owns a majority share. In this case, the parent company will often consolidate the financial statements of the subsidiary.

What percentage qualifies as an associate company?

A company qualifies as an associate company when a parent company has a stake that is typically 20% to 50%. When the ownership exceeds this level, the company is considered a subsidiary.

What is the purpose of an associate company?

Under the law, an associate company indicates that a parent company has significant influence over the associate company due to its significant level of ownership (typically 20% to 50%). This may provide a number of advantages.

For the associate company, it could mean more financial backing and support from the parent. For the parent company, it may provide exposure to technological innovation and advancement. In addition, the associate company may help increase the overall profitability of the parent.

Why do companies invest in associate companies?

Increasing profitability, growth potential, diversification, and gaining exposure to new markets and business segments are among the many reasons for a parent company having an associate company. Sometimes, a parent company may be unable to acquire a majority stake in a company, and an associate company creates a viable alternative.

Article Sources
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  1. The New York Times. “Microsoft Said to Invest Big Sum in Uber.”