Apr 03 Q2 (part) Oct 03 Q2 Apr 04 Q7 Oct 04 Apr 05 Q1
Oct 05 Q5 Apr 06 Q5 Oct 06 Q3 Apr 07 Q7 Oct 07 Q7 Apr 08 Q8 Oct 08 Mar 09 Q2 Oct 09 Mar 10 Oct 10
This is a fundamental topic of company law. It is asked on virtually every exam paper in some form. It is most commonly asked as an essay question on either the principle of separate corporate personality or the circumstances in which the veil of incorporation will be lifted. It also forms a significant part of an answer to an essay question on the consequences of incorporation (see chapter 2). As is evident from the exam grid, it has been on every paper since April 2003 with the exception of two.
[3-1] Upon incorporation, a company becomes a separate legal entity, distinct from its members. Thus it acquires rights, obligations and duties which are different and distinct from those of its members. Assets, debts, and obligations all belong to the company and not the members. This is the corporate personality used by the company to conduct its business.
THE SALOMON VEIL
[3-2] The seminal case which established the concept of the registered company having a corporate personality is Salomon v Salomon & company (1897)1.
[3-3] Mr Salomon ran a successful leather business as a sole trader. He then set up a company with 20,007 shares, of which he held 20,001 shares and his wife and five children one each. He sold the business to the company for £38,782. The company was to pay him 20,000 fully paid-up £1 shares and £8,782 in cash. [3-4] The balance £10,0000 remained payable to Mr Salomon. He secured the payment of this debt when the company issued 100 debentures (loans) at £100. Each loan was secured by the creation of a floating charge in favour of Mr Salomon in the sum of £10,000 covering all the assets of the company. [3-5] Company law was at all times observed. There were seven members of the company, but Mr Salomon held all of the shares except six (held by his wife and five children). Thus he was the majority shareholder and the main creditor (owed £10,000 under the debentures) when the company was wound up.
[3-6] The question for the court to decide was whether his secured debt of £10,000 should take precedence over unsecured creditors who were owed approx. £11,000 having regard to the fact that company law gives precedence to the payment of secured debts when a company is wound up. The unsecured creditors would receive nothing if Mr Salomon won.
 A.C. 22.
© Griffith College Professional Law School 2011-2012
[3-7] The liquidator argued that the sole purpose of transferring the business to the company was to use it as an agent for himself and accordingly he should, as principle, indemnify the company against the debts of unsecured creditors.
Court of First Instance
[3-8] At first instance, the liquidator’s view was accepted and it was held that the creditors should be paid by Mr Salomon. The decisions were rooted in notions that the company was his nominee or agent.
Court of Appeal
[3-9] The Court of Appeal held that the creditors should be paid by Mr Salomon. This was because he had abused the privileges of incorporation and limited liability provided by the Companies Acts. These should only be enjoyed by “independent bona fide shareholders” who had a mind and will of their own and were not “mere puppets” of the individual who carried on his business in the same way as before, when he was a sole trader.
House of Lords
[3-10] In the House of Lords, however, this view was unanimously rejected and the cornerstone of modern company law was put in place. It was held that the company was a separate legal entity and separate from its members. All that company law required was that...
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