The Inadequasy of Existing Concepts of Corporate Group Liability and New Doctrines

Abstract

Since end of 19th century Salomon principle has been at heart of English company law. The facts in Salomon v Salomon & Co Ltd (1897) are well known and need not to be repeated here. In essence, this principle provides that, upon incorporation, a company becomes a separate legal entity which, in eyes of law, is not different from a human being. A corporation has rights, duties and obligations of its own which are different from those of its incorporators. As a result, companies can hold properties, they can contract in their own name, they can sue and be sued and, more importantly, companies can be liable for their own debts. The latter provides justification for limited liability. This principle was conceived by House of Lords in order to allow a sole trader (Mr Salomon) to avail himself of benefits of limited liability by conducting business activities through a corporation. The House of Lords did not realise what consequences of their decision would be in following decades because there were not corporate groups at that time. During course of last century, principle of separate corporate personality was applied to groups of companies in order to allow a parent company to avail itself of limited liability in relation to activities of its subsidiaries just like Mr Salomon did in relation to activities of his own company. Whether House of Lords intended to give rise to such an outcome remains doubtful. Nevertheless, limited liability has benefitted our global economy as no other legal fiction has ever done and it has been described as the corporation's most precious characteristic. On other hand, it is often claimed that this regime encourages excessive risk-taking in running of company's affairs. After all, the riskier more profitable is a basic rule in investment activities. In such scenario, it is not hard to envisage a potential danger of moral hazard. The business owners lose nothing when things go wrong but become richer if risk does not materialise. As a result, limited liability may give rise to unfairness particularly in cases involving tortious liability for personal injuries by externalising risks and costs that ought to be internalised by corporation as a better risk taker and cost bearer. Liabilities can be avoided by interposing a subsidiary or, more commonly, different layers of subsidiaries between injured party and decision-making centre, be it a parent company or its controlling shareholders. The situation is further exacerbated when it comes to multinational groups. Not only will ultimate controller be protected by corporate veil but also by a jurisdictional veil. The combination of corporate and jurisdictional veils makes attribution of liability to parent in home country almost impossible. The difficulties mentioned above are graphically illustrated by seminal case Adams v Cape Industries Plc (1990). The effect of this is that a corporate group acts as a single living being for a single economic purpose but when it comes to liabilities then it consists of separate legal entities and only entity which happens to be in a direct relationship with injured party will bear responsibilities. This is most unfair when injured parties are tort victims who are often referred to as involuntary creditors. Unlike voluntary creditors, they have limited ways of assessing and mitigating their risk when dealing with companies. They have no chance to bargain with corporation over allocation of risk. Yet, they will bear risk of loss if subsidiary has insufficient assets to provide adequate compensation. They will not be able to rely on assets of parent since, as shareholder in subsidiary, its assets can be touched only up to unpaid amount on its shares. A modification of existing concepts of corporate group liability is clearly required if justice is to be achieved in such cases. Hence, in first part, this paper seeks to identify shortcomings of current approach to attribution of liability in corporate groups and analyses adequacy of exceptions to otherwise inviolable separation of personality in a parent/subsidiary relationship. Secondly, it explores new approaches and doctrines put forward by eminent academics such as Philip Blumberg, Nina Mendelson, Hannsman & Kraakman and many others in an attempt to address unfairness and inefficiencies generated by existing concepts of intra-group liability.