DEFINITION of 'Interlocking Shareholdings'

Interlocking shareholding is a method of creating a unified business group by exchanging shares. By exchanging shares, a business group remains composed of a variety of distinct legal entities, rather than all being part of the same legal entity. This method of business organization has advantages in defending against hostile takeovers since the business is composed of many legal entities. However, this system can complicate the ownership position structure of the group, especially when there are many shareholders.

BREAKING DOWN 'Interlocking Shareholdings'

In the U.S. and Britain, business favors the use of a single primary legal entity which holds all other entities and business divisions. For example, a holding company may have many different business areas operating worldwide, but all are consolidated under a primary U.S. parent company. However, in many other parts of the world interlocking shareholding is a common tactic used to form diversified business groups.

Although interlocking ownership interests can make an effective deterrent to unwanted corporate advances, the practice invites a range of questions and concerns surrounding corporate governance. Critics of interlocking shareholding, as well as interlocking corporate boards, worry the interconnected relationship of ownership/control encourages entrenchment and the status quo. Hence, academics and corporate leaders alike are continuously exploring ways to balance the benefits and drawbacks on the path to sound corporate governance best practices.

For example, the keiretsu maintained dominance over the Japanese economy for the second half of the 20th century. As an informal business group, a keiretsu is a system or group of enterprises with interlocking business relationships and shareholdings. Often held together by a key bank, the system insulates member firms from unwanted corporate advances and other market forces. In theory, the protection offered by membership encourages a long-term outlook. However, these arrangements are a natural incubator for crony capitalism and similar negative effects.

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