Critically evaluate the House of Lords decision in Salomon v. A. Salomon & Co Ltd. [1897] AC 22
Salomon v. A. Salomon & Co Ltd. [1897] AC 22 is a prominent case in English law that has often been used in legal practice (Hare 2013; Lim 2014); the decision of the House of Lords is of particular interest here.
The crux of the case is as follows. Aron Salomon was a successful manufacturer of leather footwear. At a certain point, his sons decided to become partners in his business. Mr. Salomon incorporated his business, becoming the owner of 20,001 out of 20,007 shares; the rest of the shares were split between his four sons, wife, and daughter. In such a way, they were able to comply with the law according to which, to create a corporation, its shares had to be owned by at least seven persons. Thus, the company – a juridical person was created, and the shareholders achieved limited liability (Duhaime 2014).
However, somewhat later, the company went insolvent and had to pay its debts. The High Court’s decision (judge – Vaughan Williams J.) ruled out that Mr. Salomon was de facto the only owner of the company, and the company’s debts were his debts. The Court of Appeal made a similar decision, stating that the incorporation of the business was only a mechanism to enable Mr. Salomon to continue his business, but under limited liability (Duhaime 2014).
However, the House of Lords ruled out that the company was a full-fledged legal person, that all the requirements for incorporating it were fulfilled because there were no legal requirements regarding how the shares must be split among the shareholders, or regarding the balance of power among the shareholders, etc. It was also stressed that a company is a legal person that is completely different from its shareholders and that shareholders only must have limited liability for the actions of the company (Duhaime 2014).
The decision of the House of Lords is completely based on the letter of the law. It is possible to assume that the requirement for shares to be split among at least seven individuals was aimed at avoiding the situation where one individual would be the sole proprietor of a business, but, since there were no further requirements about how to split the shares, the requirement turned out to be ineffectual. Mr. Salomon found a loophole in the law and used it. The House of Lords refused to freely interpret the law but decided to understand it literally. Of course, this decision was formally correct at the time. If the “spirit” of the law was to prevent a corporation from being de facto owned by fewer than seven natural persons, further legal requirements should have existed to ensure this.
Directors’ fiduciary-based duties are inadequate
A fiduciary-based duty is one according to which an entity is obliged to act in the best interests of another entity. Therefore, fiduciary-based duties of a director towards their company include the requirement that the director should act in the best interests of the organization and its owners (shareholders). Once an individual has accepted the responsibility of a director, they are considered to have willingly taken upon themselves the fiduciary duties and are forbidden by the law to act contrary to them (Mitchell 2013).
There are some prominent cases of the breach of fiduciary duties. For instance, in Hogg v Cramphorn Ltd [1967] Ch 254, some corporate directors attempted to dilute the shares of the company to prevent its takeover by its rivals, which they perceived as an adverse option; but it was ruled out that the directors breached their fiduciary duties while doing so. However, in Howard Smith Ltd v Ampol Petroleum Ltd [1974] UKPC 3, the utilization of directors’ power given to them to fulfill their fiduciary duties to apportion shares to dilute the power of shareholders took place; it was stated that it is important to consider whether directors acted bona fide towards their company (DLS 2015). The vagueness of the fiduciary duties caused a problem.
The fiduciary duties were further formalized in the Companies Act 2006. They now include the duties to take actions that are within their powers (section 171), to advance the success of the organization (section 172), to judge independently (section 173), to demonstrate the reasonable amount of skill, care, and earnestness (section 174), to avert possible conflicts of interest (section 175), to refuse from gaining benefit from third parties (section 176), and to declare interest in offered arrangements or transactions (section 177) (Doyle 2010). These duties are enforceable (Gibbon et al. 2016). However, the spectrum of fiduciary duties remains rather large, and a wide range of actions may fall under these quite vague definitions.
It is possible to state that currently, the fiduciary-based duties remain inadequate because their definitions do not always allow to identify which actions of directors are done according to them, and which ones are not. Directors acting bona fide to fulfill their fiduciary duties still may be judged as ones that breach their duties. For instance, if a case such as Hogg v Cramphorn Ltd [1967] Ch 254 took place nowadays, it would be possible to state that directors acted in the best interests of the company, but it would still be possible to decide that the directors carried out an improper issuance of shares.
Directors’ negligence-based duties are inadequate
The negligence-based duties of a director appear when a director is found to have violated some of their responsibilities, or some of their duties to the company (for instance, the fiduciary-based duties) or other parties (for instance, to the society). It is also stressed that, according to the Companies Act, any provisions aimed at limiting the director’s liability for negligence, breach of duty, and so on, towards their organizations, are to be considered legally void (Gibbon et al. 2016). Besides, even the company itself in most cases is not allowed to indemnify its director against various liabilities (Gibbon et al. 2016).
An example of an early case about directors’ negligence is Re v Cardiff Savings Bank [1892] 2 Ch 100; here, it was ruled out that directors did not fail in their duties while being absent at bank meetings, and did not commit negligence.
However, it is argued that it is not a significant challenge to have a director of a company remedy the adverse consequences of their actions under English law nowadays (Doyle 2010). For instance, from the case Gamlestaden Fastigheter AB v. Baltic Partners Ltd [2008] 1 BCLC 468, it can be seen that an unfair prejudice petition doesn’t have to be demonstrated to have led to a drop in the price of the shares of the shareholder that submits the complaint to hold the director liable (Doyle 2010, p. 6), even even though it was established that directors should only have duties of loyalty towards companies, but not particular shareholders (see, for instance, Percival v Wright [1902] 2 Ch 401).
Also, it is stressed that directors may be held criminally liable for some breaches about activities in the organization (Gibbon et al. 2016). However, it is argued that no criminal responsibility should be imposed on directors (Liau 2014).
Therefore, the parties whose interests may have been affected by a director’s decisions are more often capable of having the director remedy these interests than not (Doyle 2010). Thus, it might be argued that the directors’ negligence-based duties provide the shareholders with a significant chance to remedy their interests. However, directors may have to be liable for actions that did not cause harm to the shareholders. Therefore, from a certain point of view, it might be considered that the directors’ negligence-based duties are somewhat biased in favor of the shareholders of a company or other parties who might wish to impose liability on a director.
Corporate manslaughter regulation in the United Kingdom is ineffectual
In the UK, it is considered that a company or an organization is capable of committing manslaughter; see the case R. v. P & O European Ferries (Dover) Ltd [1991] 93 Cr App Rep 72. It is stated that before 6 April 2008, when the Corporate Manslaughter and Corporate Homicide Act 2007 (CMCHA) became effective, it was possible but difficult to prosecute a company or other juristic person for the occasion of manslaughter that occurred due to the fault of that juristic person, because it was a necessity to find an individual having a high position inside that company who would have such a degree of control over the company that they could be named its “controlling mind” (as an example, the case R v OLL Ltd [1994] CA might be cited); therefore, CMCHA was introduced to enable the courts to hold organizations responsible for crucial failures of their leaders that led to serious adverse consequences (The Crown Prosecution Service n.d.).
However, it is argued that the law failed to provide adequate means of addressing such cases; among other critical remarks, it is claimed that CMCHA is limited in the range of individuals who can be liable for the crime and that the scope of the law is also significantly restricted.
Also, the law contains several terms whose exact meaning is unclear. For instance, it prosecutes a “‘gross breach’ of a relevant duty”, and the “gross breach” is understood “as conduct which falls ‘far below what could reasonably have been expected of the organization in the circumstances’” (Gobert 2008, p. 417), but it is hard to explain how far a breach must fall below the reasonable expectations, and what kind of expectations can be considered reasonable in which cases. Besides, it is highlighted that the law causes certain faults that originate from the structural organization of a company to be viewed as individual faults (Gobert 2008).
Another serious issue that was left mainly unaddressed by the CMCHA was the problem of accountability of the police for the deaths of individuals that took place while these individuals were held in custody; it is argued that this type of accountability was not extended significantly by the new law (Griffin & Moran 2010). While this issue was partially addressed by a 2011 amendment (The Crown Prosecution Service n.d.), several problems remain.
Thus, it is possible to consider the manslaughter regulations in the UK ineffectual, because they fail to precisely define in which cases organizations are to be prosecuted for manslaughter, do not completely cover the cases of death in custody, may lead to the perception of structural problems as individual failures, etc. The introduction of CMCHA, despite being a significant advancement failed to properly address all the existing issues (Gobert 2008).
Reference List
DLS 2015, Howard Smith Limited -v- Ampol Petroleum Limited; PC 1974. Web.
Doyle, L 2010, The susceptibility to meaningful attack of breaches of directors’ duties under English law. Web.
Duhaime, L 2014, 1897, the Salomon case: judicial life breathed into corporations. Web.
Gamlestaden Fastigheter AB v. Baltic Partners Ltd [2008] 1 BCLC 468.
Gibbon, N, Peel, G, Garston, C & Salaman, B 2016, Corporate governance and directors’ duties in the UK (England and Wales). Web.
Gobert, J 2008, ‘The Corporate Manslaughter and Corporate Homicide Act 2007 – thirteen years in the making but was it worth the wait?’, Modern Law Review, vol. 71, no. 3, pp. 413-433. Web.
Griffin, S & Moran, J 2010, ‘Accountability for deaths attributable to the gross negligent act or omission of a police force: the impact of the Corporate Manslaughter and Corporate Homicide Act 2007’, Journal of Criminal Law, vol. 74, no. 4, pp. 358-381. Web.
Hare, C 2013, ‘From Salomon to Spiliada: orthodoxy and uncertainty in the Supreme Court’, The Cambridge Law Journal, vol. 72, no. 2, pp. 280-284. Web.
Hogg v Cramphorn Ltd [1967] Ch 254.
Howard Smith Ltd v Ampol Petroleum Ltd [1974] UKPC 3.
Liau, T 2014, ‘Is criminalising directorial negligence a good idea?’, Journal of Corporate Law Studies, vol. 14, no. 1, pp. 175-209. Web.
Lim, E 2014, ‘Of “landmark” or “leading” cases: Salomon’s challenge’, Journal of Law & Society, 41, 4, pp. 523-550. Web.
Mitchell, C. 2013, ‘Equitable compensation for breach of fiduciary duty”, Current Legal Problems, vol. 66, no. 1, pp. 307-339. Web.
Percival v Wright [1902] 2 Ch 401.
R. v OLL Ltd [1994] CA.
R. v. P & O European Ferries (Dover) Ltd [1991] 93 Cr App Rep 72.
Re v Cardiff Savings Bank [1892] 2 Ch 100.
Salomon v. A. Salomon & Co Ltd. [1897] AC 22.
The Crown Prosecution Service n.d., Corporate manslaughter. Web.