How to invest in holding companies in Iran
Holding company, FDI, portfolio investment, mother companies, merger
It is reported on the website of tehrantimes.com on February 19, 2014:
The Industrial Management Organization of Iran has released the list of 400 leading Iranian companies in terms of sales in Iranian calendar year 1390, which ended on March 19, 2012.
The Esfahan Oil Refining Company topped the list with 176 trillion rials (about $13.8 billion) of revenues, ISNA reported.
The Iran Khodro car manufacturing group and the Bandar Abbas Oil Refining Company ranked second and third respectively.
The Bandar Abbas Oil Refining Company was the leading exporter with $2.9 billion of exports.
Iran Khodro, with 53,000 workers, had the highest number of personnel, followed by the Saipa car manufacturing group with 43,000 and Saderat Bank with 33,000.
The total sales of the top 100 Iranian companies amounted to 2.64 quadrillion rials (about $215 billion), which was a 30 percent rise year on year.
In the next report of the Industrial Management Organization of Iran about the Top 500 Iranian companies published on February 17, 2015, holding companies take a prominent place on the list of the richest companies of the country. For instance:
a) Among the first 10 richest companies of Iran, 8 are holding companies. The highest rated holding company on this list is the Persian Gulf Petrochemical Industries Company.
b) Among the first 50 richest companies of Iran, 38 are holding companies. The last holding company on this list is Gol Gohar Mining and Industrial Company that stands in the fiftieth place.
c) Finally, among the first 100 richest companies of Iran, 65 are holding companies. The last holding company on this list is Alborz Distribution Company that takes the 100th place.
The above figures show the importance of holding companies in the economy of Iran. This calls for a special legal analysis of the following issues:
Ø What is the technical definition of a holding company in the laws of Iran?
Ø How could it be distinguished from similar concepts such as parent companies?
Ø What are the practical methods of investment in holding companies?
I. Definition of holding companies in the law of Iran
The concept of holding company is not defined in any laws or regulations of Iran. In Article 4 of the Executive Regulations of the Securities Market Act, some specific explanation/definition in this respect is provided but it does not apply to the concept of “holding company” in general. Therefore, it is necessary to look at the definition provided for this term in other sources.For instance, in an article written by Dr. Alireza Aminaei (Donyaye Eqtesad Newspaper, No. 2347, April 30, 2011, p. 9), the following key elements of holding companies are analyzed:
1) Holding companies are major shareholders of their subsidiaries.
2) Strategic management of these subsidiaries is to be carried out by the holding company.
3) Subsidiaries of holding companies may come together to establish a group company. In this way, they may assist each other in their activities and avoid outsourcing of their needs and requirements.
4) As a result, strategic management of the subsidiaries would be the main function of the holding company. In other words, holding companies do not involve themselves in day to day activities of their subsidiaries but exert their control on them through managing their main plans and helping them to achieve their strategic objectives.
5) Holding companies exert control on their subsidiaries through the following ways:
- By getting ownership of shares;
- Through appointing members of the subsidiary companies’ board of directors;
- Through fixing the budget of subsidiary companies; and
- By preparing the consolidated financial statements of those companies.
II. Holding company and similar concepts
The concept of holding company may be confused with similar concepts such as mother company, investment company, controlling company, etc. It is, therefore, indispensable to make a distinction between these close, but not identical, concepts.
2.1. Mother (or parent) company
According to Christine Aldridge at Demand Media (smallbusiness.chron.com):
A parent company, by definition, is virtually the same as a holding company. Parent companies usually acquire subsidiaries either through mergers or through acquisitions. Many companies buy out other, smaller companies in order to alleviate competition, broaden their operations, increase their net operating income or receive greater tax benefits. Buying a related organization can reduce the expenses associated with the production of certain items. The subsidiaries also benefit by reducing expenses or increasing sources of funding through affiliation with a larger firm.
If a parent company is ‘virtually’ the same as a holding company, what is the difference(s) between these two concepts? Christine Aldridge provides us with the following explanations on the website of Demand Media:
While no significant legal differences exist between a parent company and a holding company, the legal implications as to the status of the company is usually different. Generally, a holding company is inactive except for the purpose of holding other companies. A parent company, however, typically has its own business ventures and purchases its subsidiaries for investment purposes or to aid in its own operations.
It is interesting to observe that in the Iranian legal sources, three terms are used for ‘holding companies’: First, some authors use the word ‘holding’ in order to show that this term must be distinguished from other similar terms used in Persian. Second, in some legal and financial texts, the word “mother company” refers to holding companies. Finally, in the last group of texts, authors use the terms “technical mother companies” with two purposes: a) to make a distinction between ‘mother or parent company’ and ‘holding company’; and b) to avoid using the term ‘holding’ itself in Persian texts.
As a result of this mixed-up situation, it is difficult to clearly explain the position of the Iranian law on this subject. The situation becomes even more confusing when some authors, e.g. Dr. Aminaei divide parent companies into two groups:
1) Parent companies that apart from their commercial operations, spend their capital to buy shares of other companies (‘controlling companies’); and
2) Parent companies that spend all of their capital for purchasing shares of other companies so there are devoid of any commercial activities (‘owning companies’).
It is evident that the second group is closer to the concept of holding companies. As observed earlier, by definition holding companies are not involved in trade activities.
The final point to raise in this part of the report is that concepts such as “holding company”, “mother company” and “technical mother company” need to be defined and explained in detail by the legislator and the jurisprudence of Iran. The proposed “New Commercial Code of Iran” referred to the concept of mother company in five instances, namely in Articles 225, 226, 246, 268 and 371. However the New Code was silent on the exact definition of this concept. A lesson to learn from developed legal systems is to start each Act or Code with exact definitions of the relevant terms.
2.2. Investment company
Investment companies have the objective of purchasing and selling shares of other companies and to use their capital to invest in lucrative activities. Holding companies, on the other hand, own their subsidiaries but their activities are limited to controlling them. In other words, holding companies avoid involving themselves directly in any commercial activities but their subsidiaries benefit from these activities to create profit for their shareholders and the holding company, of course.
2.3. Merger or acquisition of companies
Where two companies merge together to create a new company or where a company gets some ownership in another company through acquisition of its shares, as a result of these operations, they establish a new structure to carry out their activities. These new structures must be distinguished from the complex and technically different structure of holding companies. The major distinction, and perhaps the cause of confusion, is that holding companies may use two ownership techniques of merger or acquisition in order to get some ownership in their subsidiaries. The latter person may also use the same techniques to expand their ownership and control in other companies.
III. Investment in holding companies
Two major methods of investment in Iran are foreign direct investment and portfolio investment. According to Jones and Wren in Foreign Direct Investment and the Regional Economy (2012):
The standard definition of foreign direct investment is given by the Organization for Economic Cooperation and Development (OECD, 1996). A key aspect of this is that it represents the notion of one enterprise in a particular country having a degree of control over another enterprise in a different country, as opposed to just the provision of financial capital. It is classed as, “investment that adds to, deducts from or acquires a lasting interest in an enterprise operating in an economy” arising from outside the country in order to “have an effective voice in the management of the enterprise” (OECD, 1996, p. 7). In the event that a foreign investor does not have an effective voice in the management of the company, then the investment is classified as ‘portfolio investment’ (emphasis added).
More detailed information on available methods of foreign investment in Iran is included in our Booklet of “Foreign Investment Law of Iran” that can be purchased on our website of www.lawiniran.com.
GOOD TO KNOW
To learn more about the issues mentioned in this Legal Report, you may read the following texts. If after reading this Legal Report and the following texts, you still have questions that call for detailed responses, you may send them to us by clicking on “Our Services” button on the website of www.lawiniran.com and following the procedure explained there.
RELEVANT LEGAL NEWS:
Law in Iran Legal News: Foreign Investment in Post-Sanctions Era, Wednesday, August 12, 2015.
RELEVANT LEGAL REPORTS:
1. Law in Iran Legal Report No. 2: Three Forms of Foreign Investment in Iran, Wednesday, August 12, 2015.
2. Law in Iran Legal Report No. 9: Branches and Representative Offices in the Laws of Iran, Thursday, September 24, 2015.
1. Law in Iran Booklet No. 2: Foreign Investment Law of Iran, Wednesday, August 12, 2015.
2. Law in Iran Booklet No. 9: Methods of Carrying on Business in Iran, Thursday, September 24, 2015.
1. Farhad Emam, Foreign Investment Law of Iran, Yalda Publications, 1994 (in Persian).
2. Farhad Emam, Doing Business with Iran (Part 3 on “Establishing a Business in Iran”), Kogan Page, 2002.
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