SALOMON VERSUS A. SALOMON & CO LTD

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INTRODUCTION

Separate Legal Personality (SLP) is the foundational principle of company law. It defines how a company operates and is a fundamental aspect of corporate jurisprudence. Despite historical controversies, SLP, as established in Salomon v Salomon, remains a core element of both English company law and international commercial law.

FACTS OF THE CASE

Aron Salomon, who had maintained a thriving leather merchant business for numerous years, made the decision in 1892 to transform it into a limited company. As a result, Salomon & Co. Ltd. was established, with Salomon, his wife, daughter, and four sons as members, and Salomon serving as the Managing Director.

The company acquired Salomon’s business for £39,000, with payment structured as follows: £10,000 in debentures, which held a charge over all company assets, £20,000 in fully paid-up £1 shares, and the remaining amount in cash. Seven shares were purchased with cash by the members, resulting in Salomon owning 20,001 out of 20,007 total shares issued, with the remaining six held by family members.

Shortly thereafter, the company encountered financial difficulties, leading to a Receiver being appointed by the debenture holder (Salomon had transferred his shares to another party), and the company went into liquidation. During liquidation, assets were distributed as follows: £6,000 for liabilities, £10,000 for debentures, and £7,000 for unsecured debts. After repaying the debenture holders, no funds remained for the unsecured creditors.

Consequently, the Liquidator initiated legal action against Salomon, seeking to hold him responsible for indemnifying the company against its trading debts.

ISSUE RAISED

Whether a shareholder/controller can be held personally liable for a company’s debt beyond their initial capital contribution? 

CONTENTIONS OF APPELLANT

• Mr. Salomon is not personally liable for the corporation’s debts, as the law views the company as a separate legal entity under the Companies Act, 1862.
• The limited liability applies to the shareholders, making Mr. Salomon responsible only for his share capital.
• Mr. Salomon’s majority shareholding does not make him liable. 

CONTENTIONS OF RESPONDENT

• Mr. Salomon had employed the company to evade personal responsibility for the corporation’s debts, and thus, he should be held liable for the outstanding debts.
• The Appellant held a majority of shares in the company, which he established to minimize his own financial risk. They further asserted that the appellant intentionally formed the company to deceive his unsecured creditors.
• Mr. Salomon’s primary objective in creating the company was not to enhance the members’ profits but to avoid settling debts.
• The company was a fictitious and deceptive entity that had unscrupulously accepted funds from creditors, thereby exposing them to unwarranted risk.

JUDGEMENT

After a lengthy legal process, the House of Lords, with a slight majority of 3/2, rejected the opposing party’s claims and affirmed the appellant’s assertion that the Company maintains a separate legal identity distinct from its members and shareholders. This decision strongly upholds the legal personality doctrine as outlined in the Companies Act of 1862, emphasising that creditors of an insolvent corporation do not have the right to seek payment from the company’s shareholders.

The House of Lords reiterated that a company incorporated in compliance with the Companies Act is an independent entity, not an agent of its owners or controllers. In their ruling, the House of Lords also emphasised that issuing debentures in place of shares can mitigate investor risk. On appeal, the House of Lords reversed the Court of Appeal’s judgment and unanimously confirmed that the corporation is indeed a separate and independent legal entity.

My Lordships noted that Mr. Salomon followed the necessary procedures for company formation, and the relevant legislation required only seven members, each holding at least one share. The Court further clarified that the members and shareholders of the company are protected by the doctrine of limited liability and are not personally liable for the company’s debts beyond the value of their shares. This decision solidifies the legal concept of the “corporate veil” between the company and its owners or controllers, as established in the Salomon case, as exemplified in Jennings v. Crown Prosecution Service.

CONCLUSION

The landmark case of Salomon v Salomon reaffirmed the principle of Separate Legal Personality (SLP) as the cornerstone of company law. The House of Lords, in a 3/2 majority decision, held that a company is a distinct legal entity separate from its shareholders, emphasising the doctrine of limited liability and the protection of the corporate veil. This ruling solidifies the enduring significance of SLP in English company law and international commercial law.

REFERENCE

O Kahn Freund, [1944] 7 MLR 54

This Article is written by Raj Nagre student of New Law College, Mumbai; Intern at Legal Vidhiya.

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