In the Court of House of Lords Equivalent citation: (1896) UKHL 1, (1897) AC 22. Appellant Aron Salomon Respondent A Salomon & Company Ltd. Decided on 16th November 1896 Bench Lord Halsbury L.C. , Lord Watson, Lord Herschell, Lord Macnaghten, Lord Morris, Lord Davey
A separate Legal Entity is one of the significant features of Company Law. It distinguishes a company as a legal artificial person in the eyes of law, distinct from its members. The case of Salomon vs. Salomon holds significant importance not only in English Company law but the universal commercial law.
Mr. Aron Salomon [hereinafter referred to as the “Appellant”] was a wealthy person dealing in the manufacturing of shoes and boots under his own proprietary firm named “A. Salomon & Co. Ltd.” For 30 years.
Due to the surplus of assets over liabilities the appellant converted his sole business into a limited company. The seven subscribers to the memorandum of the company were the appellant, his wife, his four sons, and a daughter.
On 1st June 1892, the sole business was taken over by the company for £39,000 and the appellant was appointed as the director of the company.
The purchased money was paid to the appellant by way of issuing shares amounting to £20,000 (£1 per share) and created a charge over the company by issuing debentures worth £10,000 and the balance in cash. A share was provided to all remaining members of the company. As a result out of the total 20,007 shares issued by the company, 20,001 shares were held by the appellant alone.
Shortly after incorporation, the company went into a financial crisis. The appellant canceled his debentures and re-issued them to Mr. Broderip who in return lent £5,000 as a loan to the company.
Within a year, due to non-payment of dues, a receiver was appointed and the company went into liquidation. The realizable value of the company on liquidation was: Assets: £6000, Liabilities: £7,000 to unsecured creditors, and £10,000 towards the debenture holders.
The liquidator contended that there would be nothing left for unsecured creditors if debentures were paid in full. The unsecured creditors claimed priority over the debenture holder on the grounds that the company was a sham and so the company had a right to indemnity against the appellant for the debts. As the appellant and the company was in fact one and the same and a vast majority of shares were held by the appellant himself, making the company his mere agent.
The Court was of the view that according to the Companies Act, 1862 the memorandum of association should be signed by seven persons and each such member must be held at least one share and if this condition is satisfied the matter whether the members are strangers or related does not matter.
The Court stated that just because the majority of the capital is issued to one person that doesn’t affect the individuality of the body corporate granted by the statute.
The Court further stated in the eyes of law a company is different from its subscribers, although the business is the same as prior to the incorporation of the same persons are members and receiving profits, even then the company is a separate legal entity in law and not to be considered as an agent or trustee of the same and nor are the members liable to the company except to the extent mentioned in the Act.
The Court observed that there was no evidence to support that the appellant acted fraudulently or dishonestly as all the requirements complied with the provisions mentioned under the Act and so the company is a separate legal entity.
The Court stated that though the ruling may seem unjust or unfair it cannot be denied that a company is a separate entity independent from the members who constitute it, thereby emphasizing the most fundamental principle of company law.
Based on the observations mentioned above the House of Lords held that the appeal should be allowed.
The Court in the above case relied on the strict applicability of the Act. Taking in view that there was no fraud or sham and that the company was legally corporated, the debenture holder had the right to be paid before the unsecured creditors at the time of winding up of the company.
However, the concept of the corporate veil was later introduced which stated that in the case where a company is corporated to commit fraud or improper or illegal acts, to identify the persons who are really guilty the corporate veil shall be lifted.
Salomon vs. Salomon (1896) UKHL 1, (1897) AC 22