History of the Modern Company
Initially companies started off in Britian as large partnerships. Perpetual succession was only to be had through royal charter. The Joint Stock Companies Act of 1844 made the incorporation of a joint stock company with perpetual succession independent of governmental approval. Limited liability for the shareholders was introduced eleven years later by the Limited Liability Act, 1855. In the Joint Stock Companies Act a year later, the minimum number of subscribers was reduced from 25 to 7 and, in the laissez faire spirit of the times, the minimum capital requirement was negligible.
Then came the “calamitous” House of Lords’ decision, Salomon v Salomon and Co. Ltd. Reversing the Court of Appeal, the Law Lords effectively allowed a sole trader to obtain the benefits of incorporation by simply following the formal requirements laid down by the legislature.
The decision has had the effect of firmly entrenching the idea of a company as a fiction divorced from reality.
Early company legislation kept intact the idea of a company as the pooling of resources of a significant number of individuals. This idea in its true form was preserved by the Court of Appeal as may be seen from an extract from the judgment of Kay L.J.:
The statutes were intended to allow seven or more persons bona fide associated for the purpose of trade to limit their liability under certain conditions and to become a corporation. But they were not intended to legalise pretended association for the purpose of enabling an individual to carry on his own business with limited liability in the name of a joint-stock company.
How form prevailed over substance is reflected in the speech of Lord Macnaughten:
There is nothing in the Act requiring that the subscribers to the memorandum should be independent or unconnected, or that they or any one of them should take a substantial interest in the undertaking, or that they should have a mind and will of their own, as one of the learned lords justices seems to think, or that there should be anything like a balance of power in the constitution of a company. In almost every company that is formed, the statutory number is eked out by clerks or friends, who sign their names at the request of the promoter or promoters without intending to take any further part or interest in the matter.
The facts were that Salomon converted his business into a company. The required minimum of 7 shareholders was made up of himself, his wife and five grown-up children. Salomon continued to run the business as before. While all this did not necessarily give rise to the inference that the family members were puppets, it is lamentable is that this possible conclusion was cynically passed off as no consequence.
Salomon in its near blind allegiance to the fictional corporate personality has been dutifully followed in Commonwealth jurisdictions over the years and is always the first point of reference when considering whether to pierce the corporate veil.
Piercing of the Corporate Veil
Where there is evidence of a fraudulent intention or a sham from the outset then the court will “pierce the corporate veil”. This has the effect of the company being treated as an illicit subterfuge. A sham was defined as follows:
[A]cts done or documents executed by the parties to the “sham” which are intended by them to give to third parties or to the court the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligations (if any) which the parties intend to create.
A less precise test was formulated in Woolfson v Strathclyde Regional Council stating that it is appropriate to pierce the corporate veil where special circumstances exist indicating that the company is a mere façade concealing the true facts. Effectively, third parties are given relief where they have been victims of a direct assault but not when they have fallen into a trap.
Discomfort in the Salomon strait-jacket was displayed by Staughton LJ in the Coral Rose:
The creation or purchase of a subsidiary company with minimal liability, which will operate with the parent’s funds and on the parent’s directions but not expose the parent to liability, may not seem to some the most honest way of trading. But it is extremely common in the international shipping industry, and perhaps elsewhere. To hold that it creates an agency relationship between the subsidiary and the parent would be revolutionary doctrine.
In the EEC case of Istituto Chemioterapico Italiano SpA and Commercial Solvents Corp v EC Commission Joined Cases 6 and 7/33, the following presumptions were held to apply:
1. … there is a presumption that a subsidiary will act in accordance with the wishes of its parent because according to common experience subsidiaries generally do so act. ;
2. … unless the presumption is rebutted, it is proper for the parent and the subsidiary to be treated as a single undertaking…
Looking behind the Veil
The metaphor has been dissected into “piercing” and “looking behind” the veil. The first expression is reserved for an outright denial of the corporate identity whilst the latter is employed in interlocutory applications, freezing orders and sister ship arrests. In looking behind the veil, the court does not say that the company in whose name the ship registered is a sham but that the ship belongs to someone else.
To pierce the corporate veil is an expression I would reserve for treating the rights or liabilities or the activities of a company as the rights or liabilities, or activities of its shareholders. To lift the corporate veil or look behind it, the on other hand, should mean to have regard to the shareholding in a company for some legal purpose.
The International Convention on the Unification of Certain Rules Relating to the Arrest of Sea-going Ships, 1952 (the “Arrest Convention”) which enjoys world wide acceptance provides for the arrest of any ship in the same ownership as the ship which caused the damage or incurred the liability. The ship which caused the damage or incurred the liability is often referred to as the “guilty” ship and the related or targeted ship variously as the “sister”, “surrogate” or “associated” ship.
To avoid the effects of the Arrest Convention large ship owning companies fragmented their fleets into one ship companies. “Looking behind” the corporate veil is the judicial counter.
Registered owner of the surrogate ship, the “Maria Luisa”, was Everdene (Pty) Limited
(“Everdene”); Everdene was also the trustee of the Maria Luisa Unit Trust; the owner of the
Guilty ships, the “Monika” and the “Boston Bay” were AFE; AFE was both the sole shareholder of Everdene and also the sole beneficiary of the Maria Luisa Unit Trust. Determining that the thrust of the Australian Law Reform Commission (the “ALRC”) report which preceded the Australian
Admiralty Act, 1988 was to expand the rights of arrest and having regard to a similar trend in decisions in the United Kingdom and Australia, Moore J held as follows:
In my opinion there is a rational and practical basis for treating AFE, and not Everdene, as the owner of the Maria Luisa even accepting that AFE would not have an immediate right in equity to relief commensurate with beneficial ownership because of the terms of the trust. It is not based on an approach involving “piercing of the corporate veil” or an assumption that the trust was a sham. Rather, having regard to the circumstances just referred to, AFE presently enjoys a bundle of rights which enables it to exercise control over and enjoy possession of the ship, and it is able to resist any alteration to that possession. It can take steps to, and ultimately can, alienate the ship.
In the Maria Luisa, the majority took a narrow view of the definition of “ownership” and, relying on
Macaura v Northern Assurance Co. Ltd which held that a company’s assets can never be equated with those of its shareholders, it refused to regard AFE as owner for the purposes of the surrogate arrest.
The same tension between the wide and narrow views in ship arrests is found in British case law. In the Andrea Ursula Brandon J held as follows:
The words (“beneficially owned”) seem to me to be capable also of a different and more practical meaning related not to title, legal or equitable but to lawful possession and control with the use and benefit which are derived from them. If that meaning were right, a ship could be beneficially owned by a person who, whether he was the legal or equitable owner or not, lawfully had full possession and control of her, and, by virtue of such possession and control, had all the benefit and use of her which a legal or equitable owner would ordinarily have.
Applying this approach Brandon J held that a demise chatterer of the guilty ship could be the beneficial owner for the purposes of the legislation. This decision was criticized by Robert Goff J in I Congreso del Partido when considering the concept of beneficial ownership vis-à-vis the surrogate ship:
As I read s 3(4), the intention of Parliament in adding the word “beneficially” before the word “owned” in s 3 (4) was simply to take account of the institution of the trust, thus ensuring that, if a ship was to be operated under the cloak of a trust, those interested in the ship would not thereby be able to avoid the arrest of a ship.
It was held that beneficial ownership in this regard could not encompass a demise chatterer and that beneficial ownership was intended by the legislature to take account of the special English institution of a trust. It is not clear whether in referring to the trust; Robert Goff J meant to include the trustee or the beneficiaries or both. It is doubtful that he intended the interposition of the trust to satisfy the requirement of “beneficial ownership” in every case.
Subsequent to these two decisions the legislature intervened to expressly include the demise chatterer of the guilty ship in the definition of the link or relevant person. It was deduced in the
Nazym Khikmet that the legislature preferred the interpretation given to “beneficial ownership” in the I Congreso del Partido. This conclusion is a non sequitur. Three reasons consistent with Brandon J’s wide interpretation can be suggested for the change. A demise charter party being in the nature of a lease is juridically distinct from ownership and it is natural to distinguish between beneficial ownership and rights held under a lease which do not include the ius disponendi. Secondly, the assets of a trust vest neither in the trustees nor the beneficiaries and there is no basis for limiting the notion of beneficial ownership to the institution of the trust as opposed to that of the company. Thirdly, while it makes sense to include the demise chatterer of the guilty ship it would be unfair to the real owner if a demise chatterer could provide a link to the sister ship.
By fine-tuning the basic provisions of the Arrest Convention it is possible to achieve a respectable widening of the net. On the facts of the Maria Luisa the South African “Associated Ship” provisions would most certainly have secured the arrest. The South African provisions extend the Arrest Convention in the following respects:
• All chatterers (not only by demise) are liable to have other ships owned or controlled by them arrested.
• A ship is an “associated ship” if it is owned or controlled by the same person, natural or juristic who either owned the guilty ship or controlled the company which owned the guilty ship.
Surrogate arrest provisions along the lines of the South African Legislation undoubtedly go some way towards combating the abuse of the corporation in shipping. They do not, however, eliminate the root cause of the problem which is the secrecy achieved by the corporate structures including trusts floating in the amniotic fluid provided by the open register countries.
In the final analysis, the metaphor of the “corporate veil” is misleading. It is suggestive of an unreal and fictional personality in every case. The view taken here as that a true company is an abstract reality. Where the requirements of a true company are not met a separate abstract existence does not come into being and no question of a veil or mask arises. The requirements are the pooling of resources of a number of natural persons for a legitimate commercial purpose with basic rules for disclosure of interests and a minimum capital base. Adherence to these precepts will ensure the personal accountability without which it is not possible to achieve and maintain acceptable standards in world shipping.
Everybody who does wrong hates the light and avoids it to prevent their actions from being shown up. But whoever does the truth comes out into the light.