With this option enabled a source directory will be copied/moved into a new subdirectory if a target directory of the same name already exists.
e.g.
You are copying a folder DATA with files to a location that already has a DATA folder. With this option enabled mc will put the source DATA folder into the existing DATA folder, so the new data is now in DATA/DATA.
The option is badly worded since a lot of people think about it as a "recursive" option, thinking it applies to source directories, but the "subdir" is in the target location.
I just learned about this too after years of using mc.