Indirect Shareholding, Fiduciary Capacity and Subsidiary Determination under Section 2(87) of the Companies Act, 2013

Introduction

The determination of a holding–subsidiary relationship under Section 2(87) of the Companies Act, 2013 is often assumed to be a simple mathematical exercise based on shareholding percentage. However, in practice, complex structures involving indirect holdings, nominee arrangements, fiduciary capacities, and beneficial ownership frequently blur the lines of control.

The issue becomes particularly relevant where a company holds a minority stake directly but appears to exercise influence through third parties or fiduciary structures. This article examines the legal framework under Section 2(87) and the clarification provided by MCA General Circular No. 20/2013, with specific focus on indirect shareholding and fiduciary holdings. 

Legal Framework

exact statutory definition of “subsidiary company” under Companies Act, 2013, Section 2(87)

(87) “subsidiary company” or “subsidiary.

”, in relation to any other company (that is to say the holding company), means a company in which the holding company—

(i) controls the composition of the Board of Directors; or

(ii) exercises or controls more than one-half of the [total voting power] either at its own or together with one or more of its subsidiary companies:

Provided that such class or classes of holding companies as may be prescribed shall not have layers of subsidiaries beyond such numbers as may be prescribed.

Explanation.—For the purposes of this clause,—

(a) a company shall be deemed to be a subsidiary company of the holding company even if the control referred to in sub-clause (i) or sub-clause (ii) is of another subsidiary company of the holding company;

(b) the composition of a company’s Board of Directors shall be deemed to be controlled by another company if that other company by exercise of some power exercisable by it at its discretion can appoint or remove all or a majority of the Directors;

(c) the expression “company” includes any body corporate;

(d) “layer” in relation to a holding company means its subsidiary or subsidiaries;

Understanding Section 2(87)

Section 2(87) of the Companies Act, 2013 defines a “subsidiary company” in relation to a holding company as a company in which the holding company:

1. Controls the composition of the Board of Directors; or

2. Exercises or controls more than one-half of the total voting power, either by itself or together with one or more of its subsidiary companies.

The explanation to the section further clarifies that:

• Control may be direct or indirect.

• A company shall be deemed to be a subsidiary even if such control is exercised through another subsidiary.

• Control over board composition exists where a company can appoint or remove a majority of directors at its discretion.

• “Company” includes any body corporate.

Thus, the statutory test is fundamentally a test of control, not merely registered ownership.

Clarification by MCA: General Circular No. 20/2013

After notification of Section 2(87), concerns were raised regarding whether shares held in a fiduciary capacity should be included when determining subsidiary status.

Through General Circular No. 20/2013 dated 27 December 2013, the Ministry of Corporate Affairs clarified:

Shares held by a company or power exercisable by it in another company in a fiduciary capacity shall not be counted for determining the holding-subsidiary relationship under Section 2(87).

This clarification is crucial. It establishes that voting power must be assessed based on beneficial and substantive control, not merely legal or custodial holding.

Fiduciary Capacity: What Does It Mean?

A fiduciary relationship arises where one party holds property or exercises rights for the benefit of another. The fiduciary does not act for its own benefit but for the beneficiary.

Examples include:

• Trustee holding shares for a trust

• Custodian holding securities for investors

• Mutual fund manager managing investor funds

• ESOP trust holding shares for employees

In such situations, even if voting rights are technically exercisable by the fiduciary, they are not exercised for its own benefit. Therefore, such holdings are excluded when determining subsidiary status.

The Core Issue: Indirect Shareholding through Third Parties

Consider the following scenario:

ABC Ltd directly holds 40% of the equity share capital of XYZ Ltd. ABC Ltd advances funds to Mr. X, who subsequently acquires an additional 12% stake in XYZ Ltd.

Does this create a holding–subsidiary relationship between ABC Ltd and XYZ Ltd?

The answer depends entirely on the nature of the arrangement.

Scenario 1: Nominee or Beneficial Holding

If Mr. X holds the 12% shares on behalf of ABC Ltd, and:

• There is an agreement that Mr. X will vote as instructed by ABC;

• ABC retains beneficial ownership;

• Mr. X acts merely as a name-lender or nominee;

Then, in substance, ABC controls 52% of the voting power.

In such a case:

• ABC effectively exercises or controls more than half of the total voting power.

• XYZ would qualify as a subsidiary of ABC under Section 2(87).

Indian corporate jurisprudence consistently recognizes the principle of “substance over form.” If control is effectively with ABC, the structure cannot be used to avoid statutory classification.

Scenario 2: Genuine Independent Investment by Mr. X

If Mr. X independently acquires the 12% stake using funds advanced as a loan (without any agreement regarding voting control), and:

• Mr. X exercises voting rights independently;

• There is no obligation to follow ABC’s instructions;

• There is no beneficial ownership retained by ABC;

Then ABC controls only 40% voting power.

In this case:

• XYZ is not a subsidiary of ABC.

• The mere fact that ABC financed Mr. X does not automatically transfer control.

The key determinant is not who financed the purchase, but who controls the voting rights.

Scenario 3: Fiduciary Holding Structure

If ABC holds funds in a fiduciary capacity (for example, managing employee or investor funds), and those funds are used to acquire 12% in XYZ:

• The shares are held for beneficiaries;

• Voting rights are exercised in accordance with fiduciary obligations;

• ABC does not act for its own benefit;

Then, as per MCA Circular No. 20/2013, such shares must be excluded from subsidiary determination.

Therefore:

• ABC’s effective voting power remains 40%;

• No holding-subsidiary relationship is created.

This clarification prevents fiduciaries such as asset managers or trustees from being treated as holding companies merely due to custodial holdings.

The Legal Test: Control, Not Funding

The central principle emerging from Section 2(87) and Circular 20/2013 is clear:

The test is effective control over voting power or board composition.

The following factors are relevant:

• Beneficial ownership;

• Voting agreements;

• Right to appoint or remove directors;

• Contractual arrangements;

• Ability to influence policy decisions.

The following factors are not decisive by themselves:

• Source of funds;

• Name appearing in the register alone;

• Temporary financial assistance arrangements.

Thus, subsidiary determination is a functional and substantive assessment of control.

Conclusion

The determination of a subsidiary relationship under Section 2(87) is fundamentally a test of control. While indirect control is recognized and may create a subsidiary relationship even without direct majority ownership, shares held in a fiduciary capacity are expressly excluded as clarified by MCA General Circular No. 20/2013.

Where a company directly holds 40% and indirectly influences additional shareholding through third parties, the decisive question remains whether it exercises effective control over more than half of the voting power or board composition.

Ultimately, corporate law prioritizes substance over form. Beneficial ownership and real voting control — not merely registered shareholding or funding arrangements — determine the existence of a holding–subsidiary relationship.