Chapter 2: Corporate Personality

Question 1

1.1 Limited liability

Answer 1

Limited liability: Limited liability means that all debts incurred by a company are the company’s liabilities and are not the liabilities of the shareholders or of the directors.

A company’s liability is limited. This means that shareholders are not liable to pay debts which the
company owes to its creditors because it is the obligation of the company (usually through a
contract) to pay its creditors.

Section 74 Insolvency Act 1986 enshrines the concept of limited liability, confirming that the
shareholders of a limited company are, generally speaking, not liable to a liquidator in the event of the company’s insolvency.

Question 2

1. Legal personality and limited liability

Answer 2

In this section you will learn about the separation of the personality of the company and its
members and the practical consequences of this. You will also consider the seminal case of
Salomon v Salomon. Viscount Haldane LC: ‘a company is an abstraction. It has no mind of its own any more than it has a body of its own […]’ (Lennard’s Carrying Co Ltd v Asiatic Petroleum Co Ltd [1915] AC 705 p. 713)

Question 3

1.2 The separate personality of a company

Answer 3

A company is a legal entity that is distinct from its owners - the shareholders - as well as from its
directors, creditors and employees. It has a separate legal personality.
The concept of separate corporate personality and the related issue of limited liability are fundamental to company law.

Question 4

Continual existence

Answer 4

Directors, in general, owe their duties to the company, not to the shareholders. Shareholders
usually have rights against the company, rather than against the directors, and third parties with
whom the company does business contract with the company, even though they negotiate with
the directors. A company continues to exist even if its shareholders and/or directors change.

Question 5

1.3 The significance of limited liability

Answer 5

Limited liability is the quality that has caused companies to become such useful commercial tools. The personal assets of shareholders are entirely separate from the assets of the company.

Concept of limited liability:

(a) Passive investment - shareholders can invest in a company following an assessment of the risks of losing that investment, knowing that the rest of their personal assets are safe and
without having to take an active role in management;

(b) Why many entrepreneurs seek to conduct business through the medium of a limited liability
company; and

(c) Why groups of companies have developed - riskier business divisions can be conducted through separate companies within the group without the less risky companies becoming
vulnerable to creditors of the riskier companies

Question 6

Key case: Salomon v A Salomon & Co Ltd [1897] AC 22

Answer 6

Facts: Mr Salomon (S) was a sole trader who specialised in manufacturing leather boots. For
many years he ran his business as a sole proprietor. In 1892 S decided to incorporate his business as a limited company, A.

Salomon & Co. Ltd (the ‘Salomon Company’) and sell the sole trader business to the Salomon Company for almost £39,000. S was paid £9,000 in cash, £20,000 in
shares and £10,000 by way of debenture for the business

Question 7

The decision of the High Court

Answer 7

Vaughan Williams J: agent-principal analysis (the company was an agent of S) with S being required to indemnify the company for the losses sustained

Question 8

The decision of the Court of Appeal

Answer 8

Lindley LJ: the company as a trustee for S as beneficiary – a trustee improperly brought into existence. Due to the requirements of the legislature not being complied with (ie 7 active members) the company was created for an illegitimate purpose. It must therefore follow that the company did not exist

Question 9

The decision of the House of Lords

Answer 9

Lord Macnaghten delivered the leading judgment, but all were in agreement that a literal interpretation of the Companies Act 1862 should be used and as such the company was validly incorporated and therefore had a separate legal personality. S was liable neither to the Salomon Company nor to creditors of the Salomon Company.

The debentures were validly issued. The House of Lords noted that after registration of a company, although the business may be the same as before and the same hands receiving profits, in law the company is not an agent of the subscribers or members

Significance: Following this judgment, it is clear that a company is a separate person and not the
agent or trustee of its controller. The fact that some shareholders may take no part in the management of the company is irrelevant. Companies can therefore be validly used by individuals to carry on what is in economic reality the business of an individual.

The conclusion is that the Company has a separate legal personality.

Question 10

1.4 The consequences of separate legal personality

Key case: Macaura v Northern Assurance Co [1925] AC 619

Answer 10

1.4 The consequences of separate legal personality

Macaura (M) was the owner of the Killymoon estate in County Tyrone, Ireland. He sold the whole
of the timber on the estate to a company which he set up, in consideration of the allotment to him
of 42,000 fully paid £1 shares. M and his nominees owned all the shares in the company, and M was also a creditor of the company in the amount of £19,000.

M took out insurance policies in his own name with Northern Assurance Co, covering the timber against fire. Two weeks later a fire destroyed almost all the timber. M brought a claim on the insurance policy. The House of Lords held that the timber belonged to the company and not to M, therefore he was unable to claim on the insurance policy, despite owning almost all the shares in the company

Question 11

1.4.2 The company enters into its own contracts

Answer 11

A company enters into contracts on its own behalf and the benefits and liabilities under the contract belong to the company, not to the shareholders or directors. This is true even where the contract is between the company and its sole director and shareholder

Question 12

Key case: Lee v Lee’s Air Farming Ltd [1961] AC 12 (Privy Council)

Answer 12

Mr Lee (L) incorporated Lee’s Air Farming Ltd in New Zealand in 1954. The nominal capital of the company was £3,000 divided into 3,000 shares of £1 each. L held 2,999 shares and the final share was held by a solicitor (as the New Zealand legislation at the time required companies to have two shareholders).

L was also the sole director of the company and was appointed as an employee (the chief pilot) in the company’s articles. In 1956 L was killed in a plane crash whilst working,
leaving a widow and four infant children.

L’s widow brought a claim under the Workers’ Compensation Act 1922. The Privy Council found that the company and L were distinct legal
entities and therefore L under his contract of employment was a ‘worker’ as defined under the Act.
The widow therefore was entitled to compensation and it was irrelevant that L was also the vast majority shareholder and sole director.

Question 13

1.4.3 The company sues and is sued on its own liabilities

Key case: Adams v Cape Industries plc [1990] Ch 433 (Court of Appeal)

Answer 13

Cape, an English company, was the parent company of a group of wholly owned subsidiaries, some of which mined asbestos in South Africa and others marketed the asbestos in other countries, including the US. The employees of the Texas subsidiary company NAAC became ill with
asbestosis and sued Cape and NAAC in the Texas court. J

The requirement for this
was either that Cape consented to the Texas jurisdiction (which it did not) or that Cape was ‘present’ in the US in Texas:

(a) That Cape and its subsidiaries should be treated as a single economic unit;
(b) That the subsidiaries were used as a façade concealing the true facts; and that
(c) An agency relationship existed between Cape and NAAC

The Court of Appeal rejected all these arguments and held that the judgment could not be enforced against Cape. Note that this case was a leading authority on ‘piercing the corporat veil’ prior to the 2013 case of Prest v Petrodel and you will return to look at it again in this context in the next element.

Question 14

1.5 Legal personality – current position

Answer 14

• Section 16 CA 2006 sets out clearly that a company becomes a body corporate. From this
  date, the company has its own existence and personality.
• Under the CA 2006, a private limited company can be formed with just one director and one shareholder. The company will continue to exist when the shareholders or directors change.
• Shareholders: pay for their shares and are entitled to profit. Shareholders own the company but do not have a day to day control on it
• Directors: have day to day control of the company under Model Article 3. As a company is inanimate, it must act through human beings.

Question 15

1.6 Limited liability – justification and issues

Advantages

Answer 15

The justification behind limited liability is that it encourages investment and encourages
businesses to take risks, which generates money and therefore benefits the wider community.

Creditors will be aware that they are
contracting with a limited company as the requirements of s 59 and s 60 CA 2006 are that all company names must end with ‘Ltd’ (for private limited companies) or ‘plc’ (for public limited companies).

Creditors are therefore on notice and also have the opportunity of assessing the financial viability of a company by checkin the publicly filed documents at Companies House

Question 16

1.6 Limited liability – justification and issues

Disadvantages

Answer 16

Creditors of companies and claimants in court actions risk being unable to receive monies due to them as the concept prevents them
from going behind the corporate structure to seek monies from those controlling the company. Accounts are only filed once a year so may not represent the current position. Small private companies’ accounts do not give much information.

These issues have come before the courts in a variety of cases where claimants have sought
to request the courts to go behind the corporate structure to find shareholders liable. This concept is known as ‘piercing the corporate veil’. You will study this in the next
section.

Question 17

1.7 Summary

Answer 17

• A company is a separate legal person. This was established in the seminal House of Lords case
  of Salomon v Salomon. This is a key case which you must read.
• This means that a company:
• Owns its own property
• Enters into its own contracts
• Sues and is sued on its own liabilities
• Shareholders have limited liability. Their liability is limited to the amount of their shares even when a shareholder in reality is the controlling mind of the company (eg sole shareholder and
  sole director).
• It is the dual concepts of separate legal personality and limited liability that make companies
  such attractive and ubiquitous business models.
• Section 16 CA 2006 confirms that a company comes into existence as a separate legal person
  on the date of incorporation (date of issue of certificate of incorporation).

Question 18

2 Piercing the corporate veil

2.1 The doctrine of piercing the corporate veil – does it exist?

Answer 18

Veil piercing or lifting: ‘Piercing’ (also referred to as ‘lifting’) the corporate veil refers to situations in which the courts may go behind the corporate framework and the company’s
separate legal personality to make the shareholders of a company liable. This is an exception
to the rule that shareholders’ liability is limited to any unpaid amount owing on their shares.

Question 19

Prior to the Supreme Court decision in Prest v Petrodel Resources Ltd (see below):

Answer 19

There was some uncertainty and inconsistency in the case law and even as to whether the doctrine of piercing the corporate veil in fact existed. The Supreme Court in Petrodel however clarified that the doctrine does exist and can be invoked on public policy grounds but in extremely narrow circumstances
where there is no alternative remedy.

Question 20

Following Petrodel

Answer 20

The law is clearer. The court may pierce the corporate veil only where a person under an existing legal obligation or restriction deliberately evades or frustrates that
obligation or restriction by setting up a company.

Question 21

2.2 Historical development

Answer 21

Historically, prior to Petrodel, there was a lack of coherence in the case law as to whether and when the court can look behind the corporate veil. What is clear, however, is that the ability of the courts to look behind the corporate veil has always been a very narrow jurisdiction, and used sparingly so as to maintain certainty and respect the principle of separate legal personality encapsulated in Salomon. Even when the courts have concluded that the corporate veil should be pierced, the members have been found liable only to the extent required to right the wrong.

Question 22

Cases upto 2013

Answer 22

• Application of statute
• Common law
• Application of a contractual term (intention of parties – rare). We will not consider this category further

Question 23

2.3 Statutory examples

Answer 23

There are a number of instances in which statutes allow the members of a company to become liable in certain situations. These are not examples of piercing the corporate veil, rather they are instances in which those behind a company can be treated by statute as liable in specific circumstances.

Question 24

Example

Answer 24

(a) Taxation - tax legislation recognises that group structures need to be treated differently for
disclosure and financial reporting purposes eg s 399 CA 2006 requires parent companies to produce group accounts and s 409 requires parent companies to provide details of the
names of subsidiaries and the shares they hold in a subsidiary.

(b) Employment - the Employment Rights Act 1996 protects employees’ statutory rights when transferred from one company to another within a group, maintaining continuity of
employment.

(c) Corporate insolvency – ss 213–215 Insolvency Act 1986 provide offences of fraudulent trading and wrongful trading where those involved in a company may in certain circumstances be liable to contribute to the debts of an insolvent company.

Question 25

2.4 Common law

Answer 25

There is little consistency in the case law prior to 2013 and many commentators disagree about
the correct interpretation of the cases. However, the cases in which the court has been requested
to allow the lifting of the veil can be categorised as follows:

(a) Façade or sham
(b) Single economic entity
(c) Agency
(d) Tort

Question 26

2.4.1 Façade or sham

Key case: Gilford Motor Co Ltd v Horne (1933) Ch 935

Answer 26

A former employee who was bound by a restrictive covenant not to solicit customers from his former employers set up a company to do so. The court held that the company was merely a front or sham and issued an injunction preventing trading.

Question 27

Key case: Jones v Lipman [1962] 1 WLR 832

Answer 27

L had entered into a contract with J for the sale of land, but later changed his mind and did not want to complete the sale. He formed a company in order to avoid the transaction and transferred the land to the company, claiming that he could not comply with the contract as he was no longer the owner of the land. The court found that the company was merely a façade and
granted an order for specific performance.

Question 28

Key case: Trustor AB v Smallbone(No 2) [2001] 2 BCLC

Answer 28

S was the former managing director of T and had transferred various sums of money (approximately £20 million) to a company he owned and controlled. T applied to the court to pierce the corporate veil and treat receipt by the second company as receipt by S on the grounds that the company had been a sham created to facilitate the transfer of money in breach of duty.

The company had been involved in the improper acts and that the interests of justice demanded this result. The court found here that the company was indeed a sham and the device through which the impropriety was conducted and therefore, because of this improper motive, the court could lift the veil and find S liable.

Question 29

2.4.2 Single Economic Entity

Answer 29

There have been arguments before the courts concerning group structures, where claimants have
sought to make parent companies liable for the debts or obligations of their subsidiaries.

However, it is now clear in the case law that the single economic entity argument is not a basis for piercing the corporate veil. Parent companies are not liable for their subsidiaries other than in specific statutory circumstances.

Question 30

Key case: DHN Food Distributors Ltd v Tower Hamlets [1976] 1 WLR 852

Answer 30

Denning LJ held that group of companies is a single economic unit and should be treated as such.

Question 31

Key case: Woolfson v Strathclyde Regional Council [1978] SLT 159

Answer 31

The House of Lords doubted Denning’s decision in DHN and held that veil of incorporation will be
upheld unless it is a sham or façade created specifically for the purposes of avoiding liability, thereby confirming that each company in a group is its own distinct entity.

Question 32

Key case: Adams v Cape Industries PLC [1990] Ch 433

Answer 32

You will be familiar with the facts of this case from the previous element. The Court of Appeal here refused to allow the corporate veil to be lifted to allow the judgment to be enforced against the parent company.

A consequence of the separate legal entity principle is that enterprises may purposely use company group structures to place more risky ventures/liability in (foreign) subsidiary companies removed from the parent company, as was the case here.

Question 33

2.4.3 Agency – liability based on law of agency not lifting corporate veil

Answer 33

Although it is possible that the company may act as an agent for its parent company or
shareholder and therefore the parent company or shareholder may be found liable on this basis,
there is no presumption that this is the case. Cases will turn on their facts and are based on the
common law of agency, not the doctrine of lifting the corporate veil.

Question 34

2.4.3 Agency – liability based on law of agency not lifting corporate veil

Answer 34

A company has the power to act as an agent for its parent company or its individual shareholders if authorised. However, there is no presumption that this is the case and in the absence of express agreement, it is very difficult to establish liability of the shareholder or parent on this basis. Even where such liability has been established, the argument in these cases is based on the law of
agency and therefore is not a true example of a situation in which the court has ordered the
piercing of the corporate veil.

Question 35

2.4.4 Tort

Answer 35

Parent companies may be liable to those dealing with their subsidiaries on the basis of tort, but again this is not an example of lifting the corporate veil.

Question 36

Key case: VTB Capital plc v Nutritek International Corp and others [2013] UKSC 5

Answer 36

The claimant (VTB) lent Russagroprom LLC (RAP) money to fund the acquisition of six Russian
dairy plants and three associated companies from the first defendant (Nutritek). RAP defaulted on
the loan. VTB claimed it only lent the money on the basis of misrepresentations made by Nutritek
for which the other defendants were jointly liable. It claimed that RAP was in fact under the control of the defendants and that once the corporate veil was pierced, the defendants could be seen to have been parties to the contract, on the agency argument

Question 37

Key case: VTB Capital plc v Nutritek International Corp and others [2013] UKSC 5

Answer 37

This was rejected by the court. In this case the court left open the question of whether there exists any principled basis on which courts can pierce the veil, but refused to pierce the veil in this case, as it found that VTB could claim damages against the other defendants on the basis of the tort of fraudulent misrepresentation. The veil was not pierced because there was an alternative fraudulence of misrepresentation dedected.

Question 38

Key case: Chandler v Cape plc [2012] EWCA 525 CA

Answer 38

The parent company was held to be liable in tort for asbestos-related injuries suffered by the employees of the foreign subsidiary company, since the parent was held to owe a duty of care to the subsidiary’s employees through its control over the subsidiary’s health and safety policy. It was held that four
conditions were needed for such liability:

(a) Both companies were in the same line of business;
(b) The parent company had much experience in the industry and superior knowledge of health
and ;
(c) The subsidiary’s system of work was unsafe and the parent company knew this; and
(d) The parent company ought to have foreseen that the subsidiary and its employees would rely
on the parent company’s superior knowledge for protection.

Question 39

Lungowe v Vedanta Resources plc [2019] UKSC 20

Answer 39

Chandler provided examples of when a duty of care may be imposed on a parent company. In Lungowe, an
English parent company of a Zambian subsidiary company was held to owe a duty of care to the
claimants, a neighbouring community, whose health and farming activities were harmed by
discharge of toxic material from the mine of a subsidiary company. The parent company intervened sufficiently in the affairs of its subsidiary for it to assume a duty of care to the claimants

Question 40

Relevant factors

Answer 40

Relevant factors included that the parent company was responsible for: (1) establishing group-wide environmental control and sustainability standards; (2) for their implementation throughout the group by training; (3) for their monitoring and enforcement, and (4) there was a management agreement between parent and subsidiary.

Question 41

Okpabi v Royal Dutch Shell plc [2021] UKSC 3

Answer 41

The Supreme Court held that an
English parent company of a Nigerian subsidiary company may owe a duty of care to local inhabitants who were harmed by oil leaking from its subsidiary’s pipelines causing water pollution and environmental damage. Whether a duty of care is imposed on a parent company turns on the extent to which it assumes responsibility for managing the relevant activity of the subsidiary
and/or controls relevant activities of the subsidiary

Question 42

Parent Company incur a duty of care

Answer 42

It was further held that a parent company can incur a duty of care by: (1) maintaining groupwide environmental and safety policies and guidelines which impose mandatory standards; (2) the parent company monitors and reports on
the subsidiary’s compliance with those standards; and (3) the parent company’s CEO has overall
responsibility for implementing groupwide health and safety standards.

Question 43

Key case: Prest v Petrodel Resources Ltd [2013] 2 AC 415

Answer 43

Facts: This was a family law case concerning distribution of assets on a divorce. The husband wholly owned and controlled a group of companies which owned a number of residential properties worth over £50 million, including the matrimonial home. The wife sought an order to transfer the properties to her on the basis that they were held by the companies on trust
for her husband.

Question 44

Leading judgement in Supreme Court

Answer 44

Lord Sumption gave the leading judgment in the Supreme Court. He started off by affirming the
key principle in Salomon, that a company is a legal entity distinct from its shareholders and its
property belongs to the company, not to the shareholders. He went on to discuss that the concept
of piercing the veil refers to a true exception to the law in Salomon, where the court will look
behind the separate legal personality of a company to hold its shareholders liable.

Question 45

Two implied principles

Answer 45

He found that there were historically two separate principles in which this was alleged:

(a) Concealment principle: This doesn’t involve piercing the corporate veil. It describes cases where the corporate structure conceals the real actors, where the court will look behind the corporate structure to discover the real facts.

(b) Evasion principle: The court may pierce the corporate veil if a person deliberately attempts to evade an existing legal obligation he is under by interposing a company which he controls. This was the case in Gilford Motor Co Ltd v Horne (1933) Ch 935

Question 46

Criteria to pierce corporate veil

Answer 46

Lord Sumption concluded that the corporate veil can only be pierced to prevent the abuse of corporate legal personality where someone deliberately frustrates the enforcement of an alternative remedy by putting a company into place

Question 47

Lord Sumption

Answer 47

I conclude that there is a limited principle of English law which applies when a person is under an existing legal obligation or liability or subject to an existing legal restriction which he deliberately evades or whose enforcement he deliberately frustrates by interposing a company
under his control.

Question 48

Presence of an alternative legal remedy

Answer 48

If there is another legal remedy then piercing corporate veil will not be necessary or available. In Prest there was no impropriety in the company holding the properties for tax purposes so piercing the corporate veil was not necessary. However, he held that the properties were held by the company on trust for husband as beneficiary, so an order was made for the sale of the property and for the money to be given to the wife.

Question 49

2.5 Following Prest v Petrodel - does the doctrine have any real application?

Answer 49

The Supreme Court in Prest confirmed that piercing the veil may exist as a matter of law but it
seems that it would be extremely rare that the principle will be invoked. The Supreme Court
reviewed the historic cases where the courts had pierced the veil and stated that in each case, liability could in fact be established under general principles without the need for the corporate veil to be lifted.

In summary, where other routes to infer liability on shareholders are available, such as tortious liability or the law of trust or agency, which do not ignore the company’s separate legal person, the courts will infer liability on these principles.

Question 50

Prest eg Antonio Gramsci Shipping Corpn v Recoletos Ltd [2013] EWCA Civ 730

Answer 50

In this case a company had entered into a contract containing an exclusive English jurisdiction clause. The Court of Appeal, following Prest, held that the corporate veil could not be pierced to regard the company’s controller as having consented to
the jurisdiction of the English courts on this basis

Question 51

Hurstwood Properties Ltd v Rossendale BC [2021] UKSC 16

Answer 51

Is another recent case where the
Supreme Court refused to piece the veil because ultimately another remedy was available (here
under statute). Hurstwood, a developer, leased properties to companies it owned. These
companies became liable to pay tax to Rossendale, the local authority. The companies were wound up or dissolved and the local authority sought recovery of the tax unpaid by the companies – one argument was to pierce the corporate veil

Question 52

Hurstwood Properties Ltd v Rossendale BC [2021] UKSC 16 Judgement

Answer 52

The Supreme Court held that the veil
did not need to be pierced as liability for tax remained with Hurstwood under statute (s 45 and s 65 Local Government Finance Act 1988). Having established that Hurstwood was liable under statute, the Supreme Court rejected the need to pierce the veil of the companies.

The Supreme Court stated: ‘whether the evasion principle is needed or provides the best justification of cases such as Gilford Motor v Horne and Jones v Lipman is itself open to debate’.

Question 53

Lord Walker’s doubts’

Answer 53

Whether piercing the corporate veil ‘is a coherent principle or rule of law at all’. Perhaps these comments further reduce future possibilities to pierce the veil. The Supreme Court held that the facts did not justify piercing the veil as the evasion ground requires imposing a company to avoid a liability but here the abuse
was that the companies were wound up or dissolved to avoid liability.

Question 54

2.6 Summary

Answer 54

• ‘Piercing the corporate veil’ refers to situations in which the courts may go behind the corporate framework and the company’s separate legal personality to make the members or
  shareholders of a company liable. This is an exception to the fundamental principle in Salomon
  that shareholders’ liability is limited to the amount of their shares.
• Following Prest v Petrodel, the position is that the court may pierce the corporate veil only where a person under an existing legal obligation or restriction deliberately evades or frustrates that obligation or restriction by setting up a company.
• Shareholders or parent companies may incur liability arising out of the acts of a company, but this liability arises under a specific statute, in tort or under the law of agency and not from the piercing of the corporate veil.