Effects of corporate separate personality

“A company is, in law, distinct from its members. The shareholders or the directors are neither the agent nor the trustees of the company"- Analyze the statement with reference to leading cases.

Introduction

A company is a legal entity that is separate and distinct from its members and shareholders. When a company is formed, it is said to have become "incorporated". [1] A company is capable of owning property, making contracts, employing people and being sued or of suing. Under the eye of the law, anything that is capable of rights and duties is a person and thus has a personality. Persons can be of two types under the eye of law (i) natural persons and (ii) artificial persons. Natural persons are human beings and artificial persons are those created for the purpose of laws known as corporations or companies. As soon as a company is registered under the company act, it attains the status of a person which can buy, lend money, file and defend suit, sell goods and hold property.

Company’s [2] classification and characteristics:

The term Company is used to describe an association of a number of persons, formed for some common purpose and registered according to the law relating to companies.

There are various types of company that can be formed in different jurisdictions, but the most common forms of company (generally formed by registration under applicable companies’ legislation) are:

A limited-liability company. It is a company—statutorily authorized in certain states—that is characterized by limited liability, management by members or managers, and limitations on ownership transfer.

A company [3] limited by guarantee. Mainly seen when companies are formed for non-commercial purposes, such as clubs or charities. The members guarantee the payment of certain (usually nominal) amounts if the company goes into insolvent liquidation, but otherwise they have no economic rights in relation to the company.

A company limited by shares. It is the most common form of company used for business ventures. Specifically, a limited company is a "company in which the liability of each shareholder is limited to the amount individually invested" with corporations being "the most common example of a limited company."

An unlimited liability company. A company where the liability of members for the debts of the company are unlimited. Today these are only seen in rare and unusual circumstances.

However, a distinction that is broader is in terms of legal and regulatory purpose. These are Public limited company and Private limited company

4Public limited company: Public companies are companies whose shares can be publicly traded, often (although not always) on a regulated stock exchange. It must act in accordance with its charter and the laws of the state in which it exists. These laws vary by state.

The [5] Nature of Corporate firm

After a company registers or is incorporated, it gains the following properties –

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2Perpetual succession: the members of a company may come and go but a company never dies. It is an entity with perpetual succession. The members and other peoples including the directors in the company may change from time to time but that does not affect the company’s continuity. An incorporated company never dies. It is an entity with perpetual succession. Members of a company may come and go but a company goes for ever. A member may die, may become an insolvent, he may withdraw from the company or transfer his shares to any other person, yet the life of company does not come to an end. For example A, B & C are the only members of a company holding all of the shares. There shares may be transferred to or inherited by X, Y & Z who may therefore become the new members and manager of the company. But the company will remain same entity.

Different personality or Independent Corporate Existence: Section 24 (2) of The Companies Act – 1994, when a Company is registered is becomes a corporate large entity distinct from its member. So, a Company is an independent corporate existence; as soon as it is registered it becomes an individual with all legal rights, duties & liabilities. It is the foremost feature of a company. Under the eye of the law, a company is seen as having a different personality. It can thus attain some characteristics. The leading case on the point is Solomon Vs Solomon Company.

3Mr. Avon Solomon was an owner of a boot and shoe manufacturing business and later converted his business into a limited liability Company under the companies Act 1862. The memorandum of Association contained the names of subscribers- Solomon the appellant, his wife, a daughter and four sons, each of them subscribing one share. The company named Avon Solomon and Co. was incorporated on July 20 1892. Then the appellant sold his business to the company with fir a $10,000 in debentures and $20,000 in full paid up shares. Solomon was appointed the managing director of the company. Because of the depression in the show market, Solomon borrowed money on the security of the debentures and lent it to the company. Thereafter, the company was wound up by the court and the assets of the company were not enough to pay back the debentures in full leaving nothing for the unsecured creditors. The Liquidator of the company claimed that the company was entitled to be indemnified by Solomon against the company’s unsecured liabilities on the ground that the company was “mere nominee and agents" of Solomon. The trial judge made the declaration in favor of the company. Solomon then filed an appeal at the Court of Appeal. The court of Appeal agreed with the Trial judges and dismissed the appeal. Solomon appealed to the house of lord and then the order was ultimately reversed in order of Solomon. The point of consideration by the House of Lords in a very technical word was that –

“ when the memorandum is duly signed and registered, though there be only seven shares taken, the subscriber are a body corporate capable forthwith of exercising all the functions of an incorporated company [7] ……… The company is at law a different person altogether from the subscribers of the memorandum; and though it may be that after incorporation the business is precisely the same as before, the same persons are managers, and the same hands receive the profits, the company is not in law their agent or trustee. There is nothing in the act requiring that the subscribers to the memorandum should be independent or unconnected, or that they should have one mind or will of their own, or that there should be anything like a balance of power in the constitutions of the company"

The principles stated in the above cases is that, as mentioned earlier, the company is at law different person and is not an agent of the subscribers or trustees and also, the company’s motives and artificial existence is quite apart from the interest and motives and conducts of the subscribers. The main point of emphasize is that after a company is incorporated it is a different person and must be treated like any other independent person, with its liabilities, rights appropriate to itself. Here, the motives of those who took part in the promotion of the company are absolutely irrelevant in discussing what the rights of the company and its liabilities are. This can satisfactorily fulfill the fact that a company gains a separate personality after its incorporation.

Interestingly, this principle of separate entity and personality by a company has been recognized in India even before Solomon Case. The decision in Calcutta High Court in Kandoli Tea Company Ltd, Re 1886 seems to be first on the subject.

Limited liability: Being a separate person, the company is the owner of its assets and bound by its liability. The share holders are not liable except to the extent of their shares in the company. According to the Companies Act 1994 of Bangladesh, the liability of the share holder may be limited by share under section 6(a) 4 or limited by guarantee under Section 7(a) (4).

Separate property: Being a legal person the company is capable of owing, enjoying and disposing of property in its own name. The company becomes the owner of its capital and assets. The shareholders are not the several or joint owners of the company’s property. Here the case of Macaura Vs Northern Assurance Co. Ltd 1925 can be mentioned as an example. There the court held that no share holders has any right to any item of property owned by the company.

Transferable shares [8] : Shares are movable properties and they can be transferred anytime. If the shares were not transferable, the shareholders would feel insecure and afraid of the fact that they are bound and no freedom is there. Moreover, the shares being transferable in the open market, the company need not pay money to the shareholder in exchange of his share; the clients are interchanging between themselves. This liquidity factor is very attractive to the investor and stabilizes the company. In the company act this property of the transferability of shares is mentioned in Section 30(1)

Capacity to sue and be sued: A Company, being a body corporate, can file a suit in a court of law and be sued in its own name. In case of criminal case, a criminal complaint can be filed by the company but it must be represented by a natural name. It can sue for such defamatory statements/remarks against it as are likely to damage its business or property, etc.

Financial Power: A company is given exclusive power and the only medium of organizing business which is given the privilege of raising capital by public subscription either by way of shares or debentures. Moreover, public financial institutions or private investors lend their resources more willingly to companies than to other forms of business organization.

9Directors and Shareholders

A corporation works trough living persona not by itself. The human agencies that mainly run the company’s business are called directors. According to Companies Act—1994,

“Director includes any person occupying the position of director by whatever name called" and according to section 90(1), every public company must have at least three directors and every private company shall have at least two directors [10] ."

The companies Act tries to distinguish the area of proper management control and proper shareholders control. But even, there is always conflict between shareholders and directors as to their respective powers which is the agency problem as in Automatic Self –Cleansing Filter Syndicate Co. Ltd vs. Cunningham—1906

Directors as agent: It is a well establish principle that directors are the agents of the company. Where the directors contact in the name of the company and on behalf of the company, it is the company which is liable on it, not the directors personality as in Ferguson vs. Wilson—1866, “ The company has no person; it can act only through directors, merely the ordinary case of principal and agent."

Directors as Trustees: Directors are always considered to be trustees of the property or assets of the company, which comes to their hand and which is actually under their control. They are to make good of moneys which they have misapplied as if they were trustees. Again in the case of exercising their powers, they are bound to act like a trustee for the benefit of the company only.

Shareholders are the actual owner of the company. But when a company is formed and registered in the stock exchange under the company Act—1994 it becomes a separate legal entity or personality. Then everything (ownership and liabilities) goes under the name of the company. No one is liable for any kind of act done by the company. It is totally a different entity. On the other hand directors are in the duty of managing the corporation. These directors may be form the shareholders or they can be employed as well. We can say the directors as employee of the corporation. They cannot be treated as agent or trustee of the company.

Related case references

Following cases can be mentioned as reference cases regarding the issue discussed:

Macaura was a landowner who sold timber from his estate to a company of which he was the sole owner. He insured the timber that lay on his land in his own name as the person insured under the policies issued by the insurance company. A few weeks later the timber was destroyed by fire. Macaura claimed on the insurance policy. Northern Assurance claimed that the timber belonged to the company and as a consequence it was not properly insured.

Held: the timber belonged to the company and not to Macaura. As a result his claim failed as he did not have an insurable interest in the property.

In Aberdeen Ry vs Blaikie 1854, lord Cranworth stated in his judgement that - "A corporate body can only act by agents, and it is, of course, the duty of those agents so to act as best to promote the interests of the corporation whose affairs they are conducting. Such agents have duties to discharge of a fiduciary nature towards their principal. And it is a rule of universal application that no one, having such duties to discharge, shall be allowed to enter into engagements in which he has, or can have, a personal interest conflicting or which possibly may conflict, with the interests of those whom he is bound to protect... So strictly is this principle adhered to that no question is allowed to be raised as to the fairness or unfairness of the contract entered into..."

The case of Foss vs Harbottle (1843) 2 Hare 461; 67 ER 189 requires the company itself to be the person enforcing the rights. Members generally cannot do this on their company’s behalf although a company may sue and be sued by its own members.

Abdul Aziz Bin Atan & 87 ORS vs Ladang Rengo Malay Estate SDN BHD (1985) 2 MLJ 165 is another case where all the shareholders of the company sold and transferred their entire share holdings to a certain buyer. Therefore, the court had to determine whether a change of employer took place.

Held: An incorporated company is a legal person separate and distinct from its shareholders. The company, from the date of incorporation, has perpetual succession and did not change its identity or personality even though the entire share holding of the company changed hands.

In the case of Lee vs Lee’s Air Farming Ltd (1961) AC 12, Lee was a pilot, who conducted an aerial top-dressing business, formed a company to conduct the business. Lee holds 2999 shares of the 3000 shares in the company. The remaining one share was taken by his solicitor as nominee for Lee. Under the articles of association, Lee was governing director with very wide powers. Workers’ compensation insurance was taken out, naming Lee as an employee. Lee was killed when his aero plane crashed while engaged in aerial top-dressing. His widow made a claim for payment under the Workers’ Compensation Act 1922. Her claim was initially rejected on the ground that as Lee had full control of his company he could not be a "worker" within the meaning of the Act. "Worker’ was defined under the Act as a person "who has entered onto or works under a contract of service ... with an employer."

Held:

The company was a separate legal entity distinct from its founder, Lee

Lee could enter into a contract of employment with him

Conclusion

In conclusion, the effects of corporate separate personality are far-reaching. A company is regarded as a legal entity in its own right and, as such, its members have limited liability for its debts and obligations. The company is able to own property in its own name and issue shares to raise capital. It is able to sue debtors and similarly be sued by its creditors. Besides, shareholders and directors cannot be considered as the agents or trustees of a company. Finally, a fundamental characteristic of corporate separate personality is that of perpetual succession, which results in a continuation of the company’s existence regardless of its members.