Company Law

Salomon v. A. Salomon & Co. Ltd.

[1897] AC 22

Citation: [1897] AC 22
Court: House of Lords
Date: 16 November 1896
Bench: Lord Halsbury LC; Lords Watson, Herschell, Macnaghten, Morris and Davey

Facts

Aron Salomon had operated a successful business as a leather merchant and boot manufacturer for several years.
He decided to transfer this sole-proprietorship business to a limited company called A. Salomon & Co. Ltd.
The Companies Act, 1862 required at least seven members to form a company.
The company was therefore incorporated with Salomon, his wife, his daughter and four sons as its seven shareholders.
Each family member held one share, while Salomon ultimately held 20,001 out of the company’s 20,007 issued shares.
The company purchased Salomon’s existing business. Part of the purchase price was paid through shares and part through secured debentures issued to Salomon.
Salomon was also appointed managing director and exercised effective control over the company.
The business was solvent when transferred, but later suffered financial difficulties and entered liquidation.
The company’s assets were insufficient to pay both the secured debenture debt and the unsecured creditors.
Since Salomon held secured debentures, his claim would take priority over the ordinary unsecured creditors.
The liquidator argued that the company was merely Salomon’s alias or agent and that Salomon should personally indemnify it for its debts.
The lower courts accepted that argument, treating the incorporation as an improper device for obtaining limited liability and priority over creditors.

Whether A. Salomon & Co. Ltd. was a legal person separate from Aron Salomon.
Whether Salomon’s overwhelming control made the company his agent, nominee or mere alias.
Whether Salomon was personally liable for the company’s unsecured debts.
Whether his secured debentures were valid and entitled to priority.

Once a company is validly incorporated in accordance with statutory requirements, it becomes a separate legal person.
Its rights, property, debts and liabilities belong to the company itself and not to its shareholders.
The extent of one shareholder’s control does not destroy the company’s separate personality.
Courts cannot insert additional incorporation requirements that the legislature has not imposed.
A company is not automatically the agent of its controlling shareholder merely because that shareholder manages or dominates it.
Limited liability is a lawful consequence of incorporation, not evidence of fraud.

The House of Lords began with the Companies Act itself.
Seven living persons had subscribed to the memorandum, and each legally held at least one share.
The Act did not require:
equal shareholding;
independent economic interests;
unrelated shareholders; or
equal participation in management.
Therefore, the fact that Salomon’s family members held only one share each did not make them fictitious shareholders.
Salomon’s motive of converting his personal business into a limited company was also irrelevant.
The very purpose of incorporation was to enable business to be carried on through a legal person with limited liability.
The company could not simultaneously be recognised as a legal person for incorporation purposes and dismissed as unreal when it incurred debts.
No agency relationship was proved:
the business had been transferred to the company;
the company owned and operated it;
Salomon acted as its managing director; and
there was no agreement making the company his agent.
There was also no established fraud.
The business was solvent when sold, all existing shareholders knew the terms of purchase, and no material fact was concealed from them.
The secured debentures were issued under the company’s powers and were not prohibited by the Act.
Consequently, Salomon’s status as controlling shareholder did not prevent him from also being a secured creditor of the company.
The company’s later insolvency could not retrospectively convert a lawful corporate structure into a fraud.

The House of Lords unanimously reversed the decisions of the lower courts.
A. Salomon & Co. Ltd. was a validly incorporated company and a legal person distinct from Salomon.
The company was not Salomon’s agent, nominee, trustee or alias.
Salomon was not personally liable for the company’s unsecured debts.
His secured debentures were valid and ranked ahead of the unsecured creditors.
The case established the foundational doctrine of separate corporate personality.
Use this case for: once validly incorporated, a company is separate from its members, even where one shareholder owns and controls almost the entire company.