Free Law Essays - Company Law Entity
Separate Legal Entity
Separate legal entity means that is a different legal existence to individual members or stockholder who as natural person of company. A company may sue and be sue in its own name and holds property separately to its shareholders, directors and officers. They do not own the assets of the company and personally liable for its debt and obligation. In many aspect, company are treated as artificial person under the law. As an artificial person, the company is subject to many of the same rights and obligations under the law as a natural person (Dheeraj, 2009).
It can rename to corporate veil which is separates the personality of a corporation from company shareholders and protects them from being personally liable for the company's debts and other obligations. In other words, the corporate veil or protection available to companies would be lifted to establish who is behind the procurement of the loans or commission of the frauds.
Where a court determines that a company's business was not conducted in accordance with the provisions of corporate legislation. It may hold the stockholders personally liable for the company's obligations under the legal concept of lifting the corporate veil (BusinessDictionary, nd).
In Saloman v Saloman Co (1987) case, Salomon incorporated a company named “Salomon & Co. Ltd.”, with seven subscribers consisting of himself, his wife, four sons and one daughter. This company took over the personal business assets of Salomon for £39000 and in turn, Salomon took 20,000 shares of £1 each, debentures worth £9,000 of the company with charge on the company’s assets and the balance in cash.
His wife, daughter and four sons took up one £ 1 share each. Subsequently, the company went into liquidation due to general trade depression. The unsecured creditors contended that Salomon could not be treated as a secured creditor of the company, in respect of the debentures held by him as he was the managing director of one-man company which was not different from Salomon and the cloak of the company was a mere sham and fraud.
This case was taken to court and the High court held that the creditors could not recover their debts as their contract were with the company and not with Salomon. On furthe appeal to the House of Lord, it was held that Slomon case is a twin concepts of separate company and limited liability. Therefore, the company are liable to its debts and not its members.
A company can entry contract with its shareholder if there is necessary, the company can be sue to recover its losses if any wrong has been committed against the company and comapany can own assets but the shareholders have no obligation to hold the interests of the assets.
Lifting of the corporate veil
However, the courts have not always applied the separate legal entity principle as the Salomon case. In certain circumstances, the court will lift the corporate veil or will ignore the corporate veil to reach the person behind the veil or reveal the true form and character of the concerned company.
Another meaning of corporate veil is lift is a legal term where the court allows a lawsuit or prosecution to proceed against the individual shareholders or directors of a corporation instead of allowing them to be protected from individual liability due to their corporate status. This qualification prevents the possible abuse of the separate entity principle by unscrupulous traders. Therefore, there are statutory as well as common law exception to the principle in Salomon’s case.
Lifting of the veil by statute
Malaysia’s legislature has seen fit to provide for many situation in the Companies Act 1965 that allow the courts in dealing with the lifting of the corporate veil. in some situation, the lifting of veil makes the reader officers criminally liable for their company’s beaches of the act. Section 67 (3) allows the officers guilty of the criminal offence.
In others situation, the Act makes the officer personally liable for to creditors for debts incurred by the company. Section 169 refer to the requirment of preparation consolidated accounts of financial position of the parent company and its subsidiaries. This preparation is done by directors of the parent company. View from this point, the act is recognize group of related companies function as a single entity. (Arjunan, 1998)
According to Arjunan, personal liability is imposed under section 36 of the act. Under this provision, if the membership falls below the statutory minimum of two. Any member who knowingly ran on business for more than six months is personally liable for all debts of the company incurred after the six months.
Under section 121 (2), any person who is an officer of a company was liable to the holder of the bill or other negotiable instrument if he signs, issues or authorizes to be signed on the company’s behalf any bill of exchange, cheque or promissory note on which the company’s name is not properly or legibly written.
Section 303 refer to where a company wound up and it is found that proper accounts had not been kept for up to 2 years before that time, every officer in default faces 3 years prison or RM 10,000 fine and a company is being wound up and it is found that debts were contracted without a reasonable or probable expectation that it would be paid.
Section 304 refer to a company is being wound up and it is found that business was carried on with intent to defraud creditors or other fraudulent purpose. The term fraud used in section 304 includes the use of false representation to gain an unjust advantage, a dishonest artifice or trick or a person not fulfiling what is expected of him or her.
Lifting of the veil by the common law court
In malaysia, the court will lift the corporate veil when the justice of the case so require which is Hotel Jaya Puri Sdn Bhd v National Union Bar& Restaurant Workers (1980), Aspatra Sdn Bhd v Bank Bumiputra Malaysia Bhd (1988).
Situation where the Malaysia Courts did lift the veil between parent company and subsidiary companies
Fraud
The courts are tend to lift the corporate veil where an element of fraud exists or where there is abuse of the separate entity principle. The companies tend to avoid contractual obligations. Setting up companies to enable majority shareholders to remove minority shareholders. Thus, court will lend its aid where a fraudulent scheme is involved.
The separate personality of a company has often been used to disguise a fraud or enable a person to avoid his legal obligations. The two cases of the fraud exception are Gilford motor company ltd v. Horne and Jones v. Lipman.
In Gilford Motor Company Ltd v Horne (1933), Mr Horne was a former employee of the Gilford Motor company. He was bound by a covenant not to solicit customers of the company. Three years later, he was resigned and sets up his own business in competition with the former company. He company was under his wife’s name and an associate and solicited the customers from his former company.
The Gilford Motor company brought an action against him. He argued that while he was bound by the covenant the company was not. The court found that the company was merely a sham for Mr Horne which the company enble avoidance of legal obligation. Therefore, courts issued an injunction against him (Anusuya Sadhu, n.d)
In Jones v Lipman (1962), Mr Lipman had entered into a contract with Mr Jones for the sale of land. Mr Lipman then changed his mind and did not want to complete the sale. He formed a company called Alamed Ltd and transferred the house to it in order to avoid the transaction.Alamed Ltd was wholly owned and controlled it. He then claimed he no longer owned the land and could not comply with the contract. The judge found the company was a creature of Lipman as a device and a sham. Thus, both Lipman and the company were ordered to specifically perform the contract to sell the house (Anusuya Sadhu, n.d)
The two above cases were referred by the Malaysian Supreme Court in Lim Kar Bee v Duofortis Properties (M) Sdn Bhd (1992). The appellant assist the owner to register some land. The respondent company and a holding company were incorporated in order not to pay the estate duty upon appellant’s death. The appellant was sold his land to respondent company for RM18, 970,000 in consideration of allotment of shares to the holding company of 18,970,000 shares at par value of $1 each in the prospective transferee with the holding company holding the equity of the prospective transferee.
The appellant purchases with a premium of RM13 each of RM1, 355,000 RM1 ordinary shares in the holding company. Then, the appellant company applied to the courts for asking the appellant to transfer the land to the respondents company. The court was held that the appellant or defendant has been at all material times and still is the registered owner of some valuable land. Where Peh Swee Chin SCJ said that the court will lift the corporate veil to discover an illegal or improper purpose.
An example is the case of Aspatra Sdn Bhd v Bank Bumiputra Malaysia Bhd (1988). By a writ filed on 10 January 1985 Bank Bumiputra Malaysia Bhd (BBMB) and its subsidiary in Hong Kong, Bumiputra Malaysia Finance Ltd (BMF), sued Lorrain Esme Osman for a sum of RM27, 625,853.06 claimed to be secret profits made by Lorrain (the director of BBMB and chairman of BMF of the time) through various unauthorized loans and banking facilities of more than HK$3.2b to the Carrian group in Hong Kong.
BBMB and BMF also made an application for a Mareva injunction to freeze and to disclose all Lorrain’s assets. Zakaria Yatim J granted the orders on the same day, and extended them to Lorrain’s assets in 32 other banks, and shares held in 104 other companies on 15 January. On the same date, the court granted and varied on 17 January an Anton Piller order against Aspatra Sdn Bhd and other companies. Lorrain was arrested in London and extradited to Hong Kong before the appeal was heard.
Companies affected were allowed to be joined as interveners in the Mareva. By 18 February 1985, 77 companies had not intervened. Of these, 12 had been discharged on the application of BBMB and BMF themselves, 65 remained in force. 27 companies intervened and were enabled to carry on with their business. Aspatra Sdn Bhd and 21 other intervened companies had appealed against the order dated 26 April 1985 against such part only of the said order the interveners’ application for dissolution of the Mareva injunction granted on 10 and 15 January 1985 and Aspatra Sdn Bhd’s application for dissolution of the Anton Piller order made against them as varied by the order dated 17 January 1985.
Where the Malaysian Supreme Court by a majority decided that it is proper to lift the corporate veil as the majority shareholder held almost all shares in several companies and was regarded to be the alter ego of the companies. The court had considered the interests of the creditors, in this case the banks, in ordering that the veil of incorporation be lifted. This was necessary to achieve justice (Mohammad Rizal Salim, n.d)
The use of corporate personality as a mere sham which is enables the majority shareholders to expropriate the shares of minority shareholders. Re Bugle Press Ltd (1996) Shaw and Jackson held 4,500 share each, out of a total of 10,000 shares. Trelby was held the rest shares which is 1,000 shares. Shaw and Jackson wanted to purchase Trelby’s shares. Thus, they formed a company called Jackson and Shaw Ltd.
Company made an offer to buy all the shares of Bugle Press. At last, they buy the shares of Bugle Press. Trelby declined. Company was purported to invoke a Companies Act section to provide that if a company had acquired 90% or more of the shares of another company, it could compulsorily buy out the remaining 10%.
The Court of Appeal not allows holdings to take advantage of the section to expropriate Trelby’s shares. It stated that although the strict terms of the section had been complied with. However, the scheme would not be approved as the section had not been used for the purposes of the law but for the quite different purpose of enabling majority shareholders to expropriate or evict the minority.
Group Entity
The veil has been lifted when the group entity is essentially a single unit. Hotel Jaya Puri Bhd v National Union of Hotel (1980), this case was related to bar and the workers of restaurant. There are some workers of the Jaya Puri Chinese Garden Restaurant Sdn Bhd were retrenched when the restaurant closed down. The subsidiary of Hotel Jayapuri Bhd is National Union Hotel.
The restaurant is site at the Union Hotel. The Union hotel was claimed that the workers had been dismissed from their employment by saying that the actual employers were the hotel which was still in business. Therefore, the workers could not have been said to have been retrenched on the closure of business.
The court in this case had departed from the separate legal personality doctrine to give effect to the claims of the employees of a company for unlawful dismissal. The court looked at the reality that both a holding and its subsidiary companies as being in one enterprise because the businesses of both the holding and subsidiary companies were interdependent and that there was functional integrity and unity of establishment between them.
Therefore the court found it reasonable to ignore the separate legal doctrine principle to give effect to claims by the employees of the subsidiary to enable them to sue the holding company. However, the English cases after this cases have advocated that caution should be applied when lifting the corporate veil between related corporations (Mohammad Rizal Salim).
Where a company is a mask to defeat justice
Furthermore, the veil has been lifted when the veil is merely a mask to defeat justice. In case Tiu Shi Kian & Anor v Red Rose Restaurant Sdn Bhd (1982). The Tiu Shi Kian, the plaintiffs ran and managed the Golden Million Cabaret & Night Club which was situated in the Red Rose Restaurant. The restaurant was owned by Red Rose Restaurant Sdn Bhd, a subsidiary of Hotel Berjaya Sdn Bhd. the plaintiff and Red Rose Restaurant had arise a dispute lead to plaintiffs applying to the court for a “Erinford Properties” type of interim injunction. On the nights of 14 and 15 March the plaintiffs can run the business but on the following day the premises were locked (Rachogan, Pascoe and Joshi, 2005)
The plaintiffs proceding against the directors of Red Rose Restaurant Sdn Bhd under the court charge in civil contempt in breaching the order in 14 March. The directors was argue that the closure of the premises was effected by a separate entity, Hotel Berjaya Sdn Bhd. The defendant company and the director should not act above. Thus, they are liable responsible for such act. (Rachogan, Pascoe and Joshi,2005)
The courts was held that the directors guilty of civil contempt due to the term of the injunction must be clear and unambigous, the respondents must have proper notice of any term, there must be clear proof that the terms have been broken and breach must be proved beyond all reasonable doubts and proof of mens rea was not necessary.
On the facts, the Hotel Berjaya Sdn Bhd was instrumental in breaching the order was not accepted as there was functional integrity between the hotel and restaurant. Hotal Berjaya and Red Rose were one single entity. The respondents should be found guilty of contempt and fined accordingly.
Where it is necessary to give to the true intentions of the parties to an agreement
In addition, the courts was lift the veil where it is necessary to give to the true intentions of the parties to an agreement. In case, Tay Tian Liang v Hong Say Tee & Ors (1995), the plaintiff was brought the shareholding of Wato Enterprise Sdn Bhd from the defendent. At the time purchase Wato Enterprise Sdn Bhd also owned the entire shareholding in Hotel Wato Inn Sdn Bhd.
In the agreement of sale and purchase was list out the obligation of defendants to indemnify the plaintiff. The Inland Revenue Department was issued notice of assessment to Wato and the hotel in payment amount of RM112,951.20 in tax per year and amount RM 98,309.68 was due from the hotel. The plaintiff paid the taxes and sought indemnification from the defendants. The defendants disputed the clain to the plaintiff, it cause the plaintiff made report to the courts in order to commence legal action against them. (Arjunan,1998)
The defendant did not want to liable for the amount to both Wato and hotel. They just willing to held responsible to the Wato and not to the hotel. Anothers support of the second argument the defendent saying that the sale and purchase agreement had expressly provided that the company Wato has no subsidiary.
Upon this view, the plaintiff urged the courts applied the lift the corporate veil of Wato so that the court may hold that the word ‘company’ in the written agreement should refer to both Wato and the hotel (Arjunan, 1998). The court held that the corporate veil of Wato should be pierces so as to reveal the existence of Hotel Wato Inn as a subsidiary of Wato for the sole purpose of achieving justice even though there was no element of fraud.
Conclusion
Where a company is procured to enable an individual to avoid liability for some existing legal obligation or to conceal some planned impropriety linked to the company structure, evidence of the intentions and motives of the controller of the comapny is also evidence that the use of the comapny structure is a facade or sham which is an abuse of the company structure from the outset.
Therefore, it is important that members of comany get a solid understanding of the issues facing the judiciary in this area. In essence the judiciary are being asked to decide who loses out when a business ends.
In contrast, sheltering behind the veil of corporate to members of company for future business activities in the absence of any specific planned impropriety linked to the company structure is simply legitimate reliance on the principle as Salomon v Salomon. In these circumstances the corporate veil will not be lifted on the grounds that the company structure has been used as facade although the veil may be lifted on the other grounds if appropriate circumstances arise.
The problem that remain for the courts is to ascertain the intentions of the controller and hence determine whether the controller should benefit from the protection provided by the veil of corporation or incur personal liability as a consequence of the facade.
Reference
Dheeraj Kr Singh (2009), “Lifting of the corporate veil”. Online data accessed on 14th July 2009. Available on http://www.caclubindia.com/articles/article_list_detail.asp?article_id=1914
Anusuya Sadhu, “ Lifting of corporate veil”.Online data accessed on 14th July 2009. Available on http://www.legalserviceindia.com/articles/corporate.htm
Marguerite Gallagher, “Separate Legal Personality - Lifting the Corporate veil”. Online data accessed on 15th July 2009. Available on http://www.efc.ie/legal_updates/legal_updates/articles/litigation/lifting_corp_veil.html
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