Affiliated Companies: Definition, Criteria, and Example

What Are Affiliated Companies?

Companies are affiliated when one company is a minority shareholder of another. In most cases the parent company will own less than a 50% interest in its affiliated company. Two companies may also be affiliated if they are controlled by a separate third party.

In the business world affiliated companies are often simply called “affiliates.” The term is sometimes used to refer to companies that are related to each other in some way. For example, Bank of America has many different affiliated companies, including Bank of America, U.S. Trust Company of Delaware, BofA Securities, First Franklin Financial Corporation, and Merrill Lynch.

Companies may be affiliated with one another to get into a new market, to maintain separate brand identities, to raise capital without affecting the parent or other companies, and to save on taxes. In most cases affiliates are associates or associated companies, which describes an organization whose parent has a minority stake in it.

Understanding Affiliated Companies

There are several ways that companies can become affiliated. A company may decide to buy out or take over another one, or it may decide to spin off a portion of its operations into a new affiliate. In either case the parent company generally keeps its operations separate from its affiliates. As the parent company has a minority ownership, its liability is limited, and the two companies keep separate management teams.

Affiliates are a common way for parent businesses to enter foreign markets while keeping a minority interest in a business. This is especially important if the parent wants to shake off its majority stake in the affiliate.

There is no single bright-line test to determine if one company is affiliated with another. In fact, the criteria for affiliation changes from country to country, state to state, and even between regulatory bodies. For instance, companies considered affiliates by the Internal Revenue Service (IRS) may not be considered affiliated by the Securities and Exchange Commission (SEC).

Affiliates vs. Subsidiaries

An affiliate is different from a subsidiary, in which the parent company's stake is more than 50%. In a subsidiary the parent is a majority shareholder, which gives the parent company’s management and shareholders voting rights. Subsidiary financials may also appear on the parent company’s financial statements.

Still, subsidiaries remain separate legal entities from their parents, meaning they are liable for their own taxes, liabilities, and governance. They are also responsible for following the laws and regulations where they are headquartered, especially if they operate in a different jurisdiction from the parent company.

An example of a subsidiary is the relationship between ABC, Inc. and sports network ESPN. ABC owns an 80% interest in ESPN, making it a majority shareholder. ESPN is its subsidiary. Interestingly, because ABC is an indirect subsidiary of the Walt Disney Company, having been bought by the company in 1995, ESPN is also a subsidiary of Disney.

SEC Rules Surrounding Affiliates

Securities markets around the world have rules that concern affiliates of the businesses they regulate. Here again, these are complex rules that need to be analyzed by local experts on a case-by-case basis.

Examples of rules enforced by the SEC include:

• Rule 102 of Regulation M prohibits issuers, selling security holders, and their affiliated purchasers from bidding for, purchasing, or attempting to induce any person to bid for or purchase, any security that is the subject of a distribution until after an applicable restricted period has passed.
• Before disclosing nonpublic personal information about a consumer to a nonaffiliated third party, a broker-dealer must first give a consumer an opt-out notice and a reasonable opportunity to opt out of the disclosure.
• Broker-dealers must maintain and preserve certain information regarding those affiliates, subsidiaries, and holding companies whose business activities are reasonably likely to have a material impact on their own finances and operations.

Tax Consequences of Affiliates

In nearly all jurisdictions there are important tax consequences for affiliated companies. In general, tax credits and deductions are limited to one affiliate in a group, or a ceiling is imposed on the tax benefits that affiliates may reap under certain programs.

Determining whether companies in a group are affiliates, subsidiaries, or associates is done through a case-by-case analysis by local tax experts.

The Bottom Line

When one company is a minority shareholder of another, they are affiliated companies. The parent company will usually own less than a 50% interest in its affiliated company. Two or more companies may also be affiliated if they are controlled by a separate third party.