Separate Legal Personality of a UK Company Incorporation with Reference to Case Study of Salomon v A Salomon & Co Ltd


The separate legal personality of a UK company incorporation has remained under debate for years. It has been argued that whether in certain situations of liquidation the company can be allowed for piercing the veil by setting aside the concept of isolated lawful existence or not. The case of Salomon provides the most basic and detailed view of the separate legal personality at the time of bankruptcy of a company. This article discusses the Salomon case in detail.

Separate Legal Personality of a Company

A company when defined in terms of law, is a separate lawful existence. The fact may be explained as it has rights and responsibilities that are free from its members, that are the legal persons of the company. The actions taken by a company cannot be attributed solely to a particular person. Every step taken by the company should be owned by the company as a whole. It is stated that:

“A company is an isolated body with legal rights and responsibilities that are distinct and isolated from its members”.

Salomon Case

It is a case related to one of the company formation of UK that was private and also related to the legal personality of such a company at the time of bankruptcy of the company.

Background

It was a company that manufactured boot and shoe and belonged to Mr. Salomon. He had an experience of 30 years in trade. Although he had setup his business with little or no capital, yet his business was flourishing. The surplus assets were in great amount. Mr. Salomon had five sons, four of whom were working in his company but as servants only. His sons would pressurize him to allot them shares in the company. Therefore Mr. Salomon transformed his company into limited. He did this to expand his business and provide more for his family.

Transformation of the Status of the company

All the requirements mentioned in Companies Act 1862 were fulfilled for the transformation of company’s status. The memorandum and articles of association were prepared. A capital of 40000 pounds was decided, and there were 40000 shares whereas each share costed 1 pound. The appointment of initial directors was done by majority of the persons who had subscribed in the memorandum of the company. The directors were given authority to use all the powers that were not given in the statue or the articles for exercise in the general meeting. They were also given an express power of borrowing via debentures. The company held the status of a private company throughout its existence. The subscribers included his family members. Mr. Salomon and two of his elder sons were chosen as the initial directors of the company. The transfer was done and the payments under the contract were made duly. The price of the business was too much and apparently it rather depicted that the sum was decided by someone who was too fond of his business and there was no sound estimation done for the business. When the money started coming, sums of 20000 pounds were paid to Mr. Salomon for the payment of shares. Shares that were fully paid were given in return of the amount given to the company.

Downfall of the Company

The company did not survive for long. There was a great loss and depression in the company. The workmen went on strikes. The contracts of public bodies were split up and subjected to division between a number of firms. These contracts were the main source of income for Mr. Salomon. Efforts were made to save the company from loss but it only resulted in cramming the stores of the company with stock that could not be sold. Mr. and Mrs. Salomon gave loans to the company. The debentures of Mr. Salomon were cancelled by him. He reissued them to Mr. Broderip and gave the money he received in return to the company on loan. However, this only resulted in more devastation of the company. The interest on the loan could not be paid to Mr. Broderip. He immediately went for lawsuit. This resulted in the windup of the company and auction of the assets. The amount generated from the auction was enough to pay Mr. Broderip but not enough to pay on the debentures. The creditors who were not secured were ignored.

Liquidator’s Claim

To counter the claim of Mr. Broderip, the liquidator claimed that the debentures were fraudulent and also claimed that the agreement which ratified the transfer of the business should be cancelled along with all the debentures. In return Mr. Salomon may pay the amount of purchase-money. An alternative solution given by the liquidator was that the payment of 20000 pounds should be made to Mr. Salomon as he had not been paid that amount.

Vaughan Williams J Held

The case was brought before Vaughan Williams J

  • The claim made by Mr. Broderip was just.
  • The case made by the liquidator had no sound basis.
  • The payment of 20000 pounds had been made duly.
  • However, the company could in contradiction to Mr. Salomon claim its indemnity right. As the subscribers of the company were mere dummies of Mr. Salomon. The company acted as an agent to Mr. Salomon. Hence the company could claim indemnity.

After the suggestion given by the judge, the claim made by the liquidator was altered and brought in to accordance with the suggestion of the judge. Hence, the judge passed a verdict on the basis of his suggestion.

Lord Macnaghten about the verdict of Vaughan Williams J

  • The verdict passed by Vaughan Williams J seems to have misunderstood the scope of the provisions given by Companies Act 1862. It is a compulsion under the Act to have at least 7 subscribers of the memorandum at the time of formation of the company. Each of them should take minimum one share. If those obligations are fulfilled, then it does not matter whether the subscribers are relatives or not. As there is no such condition in the act.
  • When the memorandum is properly signed by 7 subscribers, the company is registered and is entitled to enjoy all the authorities given to an incorporated company. It seems unreasonable to believe that just by giving majority of the capital to one person the company loses its separate legal identity. The company has a separate existence, independent of the subscribers. The company cannot be lawfully termed as an agent to the members.
  • According to Mr. Palmer, most of the private companies are formed because they provide more facilities for borrowing money and the avoidance of bankruptcy. Trading can be possibly done with limited liability in a private company. Moreover, a company has the option to raise its money via debentures. The members working in fair dealing are entitled to hold the debentures of the company just like any creditor outside the company.
  • However, if the court questions Mr. Salomon’s honesty, there is no solid evidence proving the fraud of Mr. Salomon. The objective for the incorporation of the company was legitimate. The creditors who had no security cannot blame Mr. Salomon for the fraud. Because they were not dealing with one person but with a number of persons who were responsible for the payment.
  • The trend is to call companies like A Salomon and Co. as one man shows. However, if this term refers to the influence of one man on the company, there is nothing wrong or against the provisions of Companies Act 1862 and even it is not harming any of the public or creditors’ interests.
  • Regarding the authenticity of the agreement signed for the transfer of the business, it is argued that no board was available at the time of signing the agreement and the value paid for the property was extravagant. However, it should not be forgotten that the directors acted according to the memorandum and hence there was no fraudulent done. Moreover, the company had withdrawn the power to restore its sold property.

Lord Halsbury LC Held 

  • A question that is raised in the case under study is that whether this England company register was done legally enough to state it as a company or not. The statute must be taken into consideration to know the answer to this question.
  • The statute’s first condition of having 7 shareholders as members in the company initially was fulfilled. Moreover, even if 6 out of 7 members were entitled as trustees to the 7th shareholder, the statute would term them as shareholders and give them all their rights and liabilities.
  • It is inevitable to treat a company that has been incorporated as a separate legal body and the statute should recognise its rights and responsibilities. It cannot be argued after the legal incorporation that the intentions of any promoter of the company were unfair at the time of the formation of the company.
  • According to Vaughan Williams J the company was an agent to Mr. Salomon. It seems impossible to term the company at the same time as existent and non-existent. According to Lindley LJ, the first 6 members of the company were just given the membership to enable the 7th member to run the company on his own with limited liability.
  • The statute does not manifest any such intention. Giving any proposition stating about the contradiction of the intention with the legislature is easy. However, it gets tough to determine what the legislature actually prohibits. 
  • To determine the expanse of prohibition, it may be known that whether all the 7 members hold all the shares of the company. Are they independent from each other in terms of beneficial interest? The legislature does not define the prohibition about shareholders being independent in terms of beneficial interest. Hence, it is not easy to answer these questions.
  • As the learned judges seemingly were not clear about the reality of existence of a company, if the company had a real existence, it had the right to enjoy all the rights and liabilities given to it. Moreover, the transactions and agreements that the company had entered could not be questioned upon their validity.

Inference from the Judgements regarding Salomon

Until 1992, the limit of members at the time of registration was first 7 and later reduced to 2. After the introduction of 12th Directive of EU, also known as Single- Member Companies in 1992, the limit was reduced to one member. Prior to the 1992 regulation, setting up a limited company UK that is private with one member was not possible. However, it was allowed for the companies having public formation of UK.

Companies (Single Member Private Limited Companies) Regulations 1992 states that:

  • In spite of any act or law in contradiction to the provision of this regulation, setting up a limited company UK that is private can be formed by including just one member in it.
  • Any provision related to a private limited company may be subjected to necessary changes and made implementable on single member companies in the same manner as it is implemented for any more than one member companies. However, it must be made sure that no express provision exists in contradiction to that provision.

However, even before 1992, it was allowed for all the shares to be held by a single member. Moreover, the member holding all the shares could simultaneously choose nominees for some of their shares. The nominees had to act in accordance with the original shareholder. Hence, single member companies have been accepted by different jurisdictions in the history.

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