Lecture 3: Piercing the Corporate Veil

Separate Legal Entity

- Doctrine: a company is a legal person different from its members.
o The powers and liabilities of a company and the rights of members, creditors
and others dealing with a company are in fundamental respects determined by
the separate entity doctrine.
o Company different person even if effectively operated by one person.
- Members will enjoy limited liability and the liability of the co itself is unlimited.
o Limited by shares: the liability of members is limited to any unpaid amounts
on the shares held by the members.
o Limited by guarantee: the members are liable for the company’s debs only up
to the amount stated in the articles of association as the maximum amount for
which members can be liable.
o Unlimited liability: the members can be personally liable for all of the
company’s debt.
- The co can sue and be sued in its own name, can enter into contracts in its own
name, purchase property in its own name etc.
o The company can contract with its own members:
 Mr. Salomon contracted with the company (controlled by him) in the
sale of his business to the company.
 Lee v Lee’s Air Farming Ltd.

o Can own property including land; members do not have legal or beneficial
interest in property.
 - It gives legal status to an artificial entity (legal person).
o Legal personality = ‘artificial person’ or ‘body corporate’
o The company has its own rights and liabilities which are not regarded as the
rights or liabilities of its members (nor of the company’s directors).

Lifting/piercing the Corporate Veil

- The separate legal entity principle – corporate veil
o This means that as a general rule, once incorporated, the Courts will not look
at why the company was formed or see who is actually in control of the
company or the relationships as between its members.
- Separate entity and limited liability can be abused.
o E.g., creditors of a company can be prejudiced where a company is
deliberately undercapitalized so that it does not have sufficient funds to meet
the claims of creditors, or where assets are removed form the company for the
purpose of defeating creditors’ claims.
- Cap 622 contain a number of provisions that empower the Court to lift the corporate
veil as a means to bring about justice and/or fairness.
o Meanings: rights or liabilities of the company are treated as rights or
liabilities of persons behind the company (shareholders or directors), or vice
versa, by disregarding the separate personality of the company.
Company as a “mere facade” – abuse of the corporate form
- Company is “mere facade”.
o Broad test: The courts can pierce the corporate veil where there are special
circumstances which exist indicating that the company is a mere façade
concealing the true facts.
- Under “mere facade” principle necessary for there to be illegitimate purpose.
o Windland Enterprises Group Inc v Wex Pharmaceuticals Inc: “the court will
lift the corporate veil of a company if it is a façade or a puppet of the
controller used to perpetrate fraud or evade legal obligation and liability”
(The three blue ones are not very important)
1. Misdescription of name of company
a. The person who signs the contract as an agent on behalf of the company will
also be held liable.
2. Misapplication of fund
a. When winding up the company, the officer who enters the contract on behalf
of the company, if they mis-applicate the fund by distributing the money or
using the money for personal reason before winding up, is held liable.
3. Transfer the business, the transferee (new company) will pick up the liability of
transferor.

Common Law Rules on Piercing the Corporate Veil

Fraudulent or Improper purpose (evasion of existing legal obligations) -
Gilford Motor Co v Horne [1933] Ch 935
- H was employed as Managing Director of G Co. He covenanted that after the
termination of his employment he would not solicit his former employer’s customers.
- H then set up a new co in which his wife and an employee were the sole shareholders.
H used the new co to solicit G’s customers. G sued H for breach of the covenant.
- Held: The new co was a cloak or a sham to enable H to engage in business which was
in breach of the covenant. Veil lifted.
Fraudulent or Improper purpose (evasion of existing legal obligations) -
Jones v Lipman [1962] 1 WLR 832
- L entered into a contract to sell land to J. L subsequently acted in breach of contract
by selling the land to a co formed by himself.
- J sued for specific performance. L argued that a 3/p (the co) had already acquired
interest in land.
- Held: Veil lifted and made an order for specific performance against L & the co.
o Specific performance: court remedy – court will ask the defendant the perform
their liability in their contract (transfer the property to J with proper
consideration)
Fraudulent or Improper purpose (fraud or other illegality) - HKSAR v Leung
YatMing [1999] 2 HKLRD 402 CA
- Chinese University of HK offered a rent allowance to employees on condition that the
proposed accommodation was “not owned by the employee, her spouse or relatives
and should not have any financial interest in the property”.
- L’s husband purchased a shelf co which he controlled, and an apartment was
purchased in the co name & L applied for rent allowance. Convicted under Prevention
of Bribery Ordon using false docs to deceive.
- Held: where the justice of the case required, it was permissible to go behind the corp
veil, particularly where it was a cloak for deception. Veil lifted.
 - Veil pierced where company established or used for purposes of fraud or
illegality.
o The courts have accepted that the corporate veil can be pierced where the
corporate form is established or used for the purpose of fraud or a crime or
some other unlawful conduct.

Fraudulent: Group of Companies - Bakri Bunker Trading Co Ltd v Neptune

[1986] HKLR 345
*Many of the cases involving groups of companies have concerned the issue of companies
being formed to evade legal obligations as distinct from using the corporate structure to
avoid incurring obligations.
- X controlled 3 cos. Each co owned a ship. The 3 ships were provided with supplies
from the same creditor. 2 ships ordered goods and failed to pay the creditor after
delivery.
- Creditor sued the 2 cos holding their own ships and obtained judgment, but was
unable to enforce judgment. The creditor then arrested the 3rd ship, on the grounds
that all 3 ships were owned by X.
- Held: Court refused to lift the veil as there was no improper use of the separate
corporate entity principle.
Fraudulent: Group of Companies China Ocean Shipping Co v Mitrans
Shipping Co Ltd [1995] 3 HKC 123
Using the corporate structure to avoid incurring obligations.
- COS chartered a ship to a company called Mitrans Martitime Panama SA (MMP) to
carry cargo from China to North Korea. A dispute between COS and MMP was
referred to arbitration( 仲裁 ). The arbitrators awarded that MMP pay COS $150,000.
MMP failed to pay COS. COS claimed that MMP’s parent co (MS) was liable to pay.
The argument was that MS controlled MMP and acted as a façade for MS to evade
legal obligations.
 - Q: Should the veil be lifted?
o No.
o Held: it was MMP who had chartered the ship and that the claim against MS
should be struck out. MS had not evaded their legal obligations; they had
simply used a corporate structure to avoid incurring obligations.
- The Court is not entitled to lift the corporate veil merely because the corporate
structure has been used to ensure that certain liabilities fall on another company
within the group

- If you evade the liability: you will lift the veil.

- If you avoid incurring future obligations: you will not lift the veil.

Fraudulent (Agency): Group of Companies - Adams v Cape Industries plc

[1990] 1 Ch 433
- Cape (UK) company had subsidiaries in the U.S. Cape was sued by U.S. employees
for asbestos-related injuries. The employees seek to enforce the U.S. judgement in the
U.K.
- Issue: Whether Cape could be said to be “present” in the U.S. through its subsidiary
or the other company who carried on business in the U.S.?
o Single economic unit?
 Judge: Subsidiary is a creature of the parent company.  We cannot
treat creatures as a separate entity.
o Is the subsidiary a mere façade?
 It depends on the relationship between the parent and subsidiary. If the
parent company has 100% control over subsidiary company (wholly
owned = full control  control what is wrong), it is façade.
 However, if not in control of day-to-day management, don’t lift the
veil.
o Avoiding future liabilities?
 It is fine to set up the company to avoid future liabilities.

- Agency not true ground for piercing veil.

o If the company is regarded as an agent for another person, there is no denial of
the separate entity of the company.
 o If the company is to be regarded as an agent of its controlling shareholder, this
arises from an application of agency law principles rather than through a
piercing of the corporate veil.

(not test in the exam) National Emergency - Daimler v Continental Tyre &
Rubber Co [1916] 2 AC 307 HL
- During WW1, England & German were enemy states.
- CT was incorporated in England. However German residents held all of its shares
(except one), and all the directors resided in Germany.
- CT sue D for the price of certain goods delivered before the war.
- Daimler brough an action to determine if payment could be made to CT during
WW1.
- HELD: The company was an alien company and the payment of debt to it would
amount to trading with the enemy – considered wrong during the war time, and
therefore, the company was not allowed to proceed with the action.
- Although CT was incorporated in England, the court looked behind the veil and
ruled that the co should be regarded as a German co.

Statutory Rules on Piercing the Corporate Veil

1. Criminal Acts
- Accessorial criminal liability of directors or others.
o Legislation can also provide for a type of accessorial criminal liability of
directors or other in relation to the company’s contravention of an Ordinance.
o Under the Companies Ordinance, responsible persons can also be criminally
liable under particular provisions of the Ordinance where the company is in
default.

S 101E of the Criminal Procedure Ordinance (Cap. 221) - Liability of

directors, etc.
Where a person by whom an offence under any Ordinance has been committed is a company
and it is proved that the offence was committed with the consent or connivance of a director
or other officer concerned in the management of the company, or any person purporting to act
as such director or other officer, the director or other officer shall be guilty of the like
offence.
- Act as an agent on behalf of the company by signing the documents or entering the
contracts, the person in the management who commits the offence, will be guilty of
this offence.
- Exam: look for offence

R v Mirchandani[1977] HKLR 523

- Co was charged under the Obscene Publications Ord for distributing obscene
magazines. Co’s officers were charged under s 101E.
- It was held that the words ‘consented’ or ‘connived’ covered a situation where the
officers had deliberately shut their eyes to an obvious means of knowledge.
 o Not just the company, people behind should be guilty of the same offence.
- Both co and officers were liable.
2. Fraudulent Trading
- Statutory provisions which might be regarded as piercing veil.
o There are various statutory provisions which impose the company’s liabilities
on other persons, such as the company’s directors.
o S.275 of the Companies Ordinance: personal liability for the debts of the
company is imposed on persons who are knowingly party to fraudulent trading
by the company.
o Also, if any officer or agent of a company signs or authorizes to be signed on
behalf of the company, any bill of exchange, promissory note, endorsement,
cheque or order for money or goods in which the company’s name is not
mentioned, that officer or agent is personally liable to the holder of the bill of
exchange, promissory note, endorsement, cheque or order for money or goods
for the amount of it.

S 275(1) Companies (Winding Up and Miscellaneous Provisions) Ordinance

(Cap 32) -Responsibility of directors for fraudulent trading

- When the company owe the money to the creditors when winding up, the business
cannot carry on.
o Still carry on the business to defraud the creditors.
o No limitation, the person should pay the debts personally.

Re White & Osmond (ParkstoneLtd) [1960]

- Buckley J said: ‘[T]here is nothing wrong in the fact that directors incur credit at a
time when, to their knowledge, the co is not able to meet all its liabilities as they fall
due. What is manifestly wrong is if directors allow a co to incur credit at a time
when the business is being carried on in such circumstances that it is clear the co
will NEVER be able to satisfy its creditors.’
- However, there is nothing to say that directors who genuinely believe that the clouds
will roll away and the sunshine of prosperity will shine upon them again and disperse
the fog of their depression are not entitled to incur credit to help them get over the bad
time.”
o Subjective test: directors of the management - whether they believe the
company will survive.
Aktieselskabet Dansk Skibsfinansieringv Brothers & Others [2000] 1 HKC
511 CFA
- WMI, a subsidiary of WM (parent co), obtained loans from ADS when there was no
reasonable prospect of repayment.
- CFA upheld (=stick) the decision that the directors of WMI had not been fraudulent.
They honestly believed that the co would return to prosperity. [In the past, parent co
had always supported WMI].

- WMI - obtain the loans, they knew the sunshine would not come out again.
o But WM don’t support for this time.