Salomon Case

Basic facts: Aaron Salomon was a successful leather merchant  in Whitechapel who specialized in manufacturing leather boots.  For many years he ran his business as a sole trader/sole proprietor under name A. Salomon & Co.  By 1892, his sons had become interested in taking part in the business. Salomon decided incorporate his business as a limited liability company in accordance with the requirements set out in the  Companies Act 1862 (UK). At the time the legal requirement for incorporation was that at least seven persons subscribe as members of a company i.e. as shareholders.  The company was called Salomon & Co. Ltd.  The  7 shareholders were Mr. Salomon, his wife, daughter and four sons. Two of his sons became directors.  Mr. Salomon himself became managing director. Mr. Salomon owned 20,001 of the company's 20,007 shares - the remaining six were shared individually between the other six shareholders (one share each). - majority shareholder Mr. Salomon sold his business to the new corporation for almost £39,000, of which £10,000 was a debt to him. According to the Court, this was "extravagant" and not "anything that can be called a business like or reasonable estimate of value." (He should have got a valuation to show it was a legitimate transaction) Parts of the sale proceeds went to pay Salomon’s [then] personal business creditors. In effect  Salomon received about  £1,000,  £10,000 in debentures and just over half the company’s shares. He was thus simultaneously the company's principal shareholder, managing director  and its principal creditor. When company failed, Liquidator argued that the debentures used by Mr. Salomon as security for the debt were invalid, on the grounds of  fraud. The  initial High Court Judge,  Vaughan Williams J. accepted this argument,  ruling that since Mr. Salomon had created the company solely to transfer his business to it,  the company was in reality his agent and he as principal was personally liable for debts to unsecured creditors. Salomon appealed:  The Lords Justices of Appeal variously described the company as a myth and a fiction and said that the incorporation of the business by Mr. Salomon had been a mere scheme to enable him to carry on as before but with limited liability. Court of Appeal thus generally upheld the original High Court  decision, so Salomon further appealed to House of Lords.

Salomon v. Salomon & Co. Ltd [1897] A.C. 22 (H.L.)

Result: He was found not liable because he followed the law and the company was a separate legal entity, so the director Mr. Salomon was not personally liable for the debts The House of Lords unanimously overturned this decision, rejecting the arguments regarding agency and fraud.  [This highest level decision is the key decision]   [1897] A.C. 22 (H.L.)] The House of Lords held that the company was not an agent of Salomon;  it was a separate legal entity as permitted by the legislation. The House of Lords also found no evidence of fraud. The House further noted: "The company is at law a different person altogether from the [shareholders] ...; and, though it may be that after incorporation the business is precisely the same as it was before, and the same persons are managers, and the same hands received the profits, the company is not in law the agent of the [shareholders] or trustee for them. Nor are the [shareholders], as members, liable in any shape or form, except to the extent and in the manner provided for by the Act." Lord MacNaughton:  "Either the limited company was a legal entity or it was not.  If it were, the business belonged to it and not to Mr Salomon. Lord MacNaughton:  “If it was not, there was no person and no thing to be an agent [of] at all; and it is impossible to say at the same time that there is a company and there is not.” So the HL recognised the separate existence of the company  - S had legitimately formed the company to give his sons an interest in the business.  Also S had not gained – he ended up a pauper having gained nothing out of creating the company. The principle of this case has formed the foundation of company law in that it firmly set down judicial endorsement of a company being a separate legal entity. 

Principle: The principle of this case is that a company is a separate legal entity The reason this case is still relevant today is because the principle of this case has formed the foundation of company law in that it firmly set down judicial endorsement of a company being a separate legal entity. Section 15 Companies Act 1993

Legal issue: Whether the corporate veil should be lifted and Mr Salomon be held liable. The High Court said that the company was merely an agent, it was a mere scheme and the liquidator also argued that Mr. Salomon used the company to perpetrate fraud. All of these 3 reasons are the broad areas when the corporate veil can be lifted - whether Mr. Salomon was personally liable for the debts or if the company was.

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