A financial holding company, also known as “holding companies”, is a company whose assets are shares of other companies.
The relationship model between the central office and the companies is usually that of financial control. Its objective is to maximize dividend flows and capital gains, hence its only financial nature.
They do not usually have activities for the production of goods or services, nor do they usually have a political control of the shares, but only act as a majority shareholder with financial interests. Therefore, the holding company does not produce, it only groups companies (these companies are the ones that produce).
This business structure is frequent in groups that have been growing through the search for investment opportunities in unrelated businesses and external growth . The holding model is usually conglomerated, although some investee companies may be headlines of new groups.
Unrelated or conglomerated diversification is a form of business growth (as opposed to that carried out in the parent company structure – related diversification), which implies a greater degree of rupture with the current situation since new products and Markets do not have any relationship with the traditional company, compared to the related diversification strategy.
Therefore, it is the most drastic form of growth for the company, since there is no relationship between traditional activity and new business. Represents a break with the previous situation, the company ventures into industries far from its traditional activity.
The objectives are usually raised around the achievement of greater profitability when going to highly attractive industries and reducing the overall risk of the company by acting in very diverse activities. The different businesses are observed as components of an investment portfolio in which financial synergies are sought , through the best possible allocation of financial resources between the different businesses, so that the surpluses would finance others that are deficient.
Since the activities are not related to each other, it is quite difficult to generate other types of synergies between the different businesses. Apart from the financial ones, perhaps the only synergies that could appear are the directives, derived from the possibility of applying to the new businesses the generic capacity of the management to face and solve problems.
In summary, the reasons that can lead companies to carry out this type of unrelated strategy are the following:
- Reduction of the overall risk of the company: When businesses are not linked to each other, the risk of the variability of profits tends to decrease. However, entering new completely different businesses implies assuming an additional risk derived from ignorance.
- Search for high profitability: A company with significant financial surpluses or installed in a mature sector with low growth prospects can seek, through unrelated diversification, investment opportunities that increase overall profitability.
- Better allocation of financial resources: Obtain synergies in the management of the business portfolio, avoiding the cost of going to the financial markets to provide funds to deficit businesses.
- Managementobjectives: Achievement of objectives of the management class, such as power, status, promotion possibilities, increase in remuneration, etc., can justify an unrelated diversification strategy.