Introduction to Corporate Law

The corporate sector, i.e. the part of the economy made up by companies, can greatly contribute to the development of our economy. It is the government’s responsibility to provide the necessary legislative and regulatory environment enabling businesses to play their part. Thus, corporate law is the body of laws, rules, regulations and practices that govern the formation and operation of corporation

Preamble of the Companies Act, 2017:

                “Whereas it is expedient to reform company law with the objective of facilitating corporatization and promoting development of corporate sector, encouraging use of technology and electronic means in conduct of business and regulation thereof, regulating corporate entities for protecting interests of shareholders, creditors, other stakeholders and general public, inculcating principles of good governance and safeguarding minority interests in corporate entities and providing an alternate mechanism for expeditious resolution of corporate disputes and matters arising out of or connected therewith”

Legal character

The Social contract, is a 1762 book in which Rousseau theorized about the best way to establish a political community in the face of the problems of commercial society. For this reason, human beings are subject to the legal system with the exception of children under 18.  Children cannot vote and are not required to pay taxes

corporate law

Human character & legal character

Legal character or personality is an artificial construct. By logic, it can be conferred onto non-humans. Association of persons register themselves as company X which has a legal character subject to the same legal system humans are and have rights and duties

Historical background of Corporate Law

There were religious orders which had property in the name of its leaders. The Crown (Monarchy) would levy death taxes on the leader’s lands. Orders wanted separate legal personality so the land would be in the order’s name rather than the leader and they could avoid the death tax. Ultimately the Crown would confer separate legal personality in the form of a charter or grant by incorporating the order, essentially giving tax concessions

Parliament

Eventually, parliament overtook the crown. First charters were granted by the Crown but then confirmation by Parliament was required to grant a charter. Ultimately charters were conferred through Acts of Parliament

18th and 19th centuries

By the 18th and 19th century, there was an active market in trading of shares of companies. Irrational speculation coupled with clumsy governmental intervention led to a stock market crash called the South Sea Bubble. Resultantly, officials were wary of granting charters and when they did, they imposed restrictive conditions. Trusts were formed as an alternate form of business organization through which a lot of fraud was committed. Ultimately Parliament intervened and passed a series of Acts

Joint Stock Companies Act 1844 which provided for:

  • Incorporation by simple registration
    • Full publicity thereby curbing fraud
    • Registrar of Companies to hold companies’ public documents
  • While it conferred corporate status (separate legal personality), it did not provide for limited liability as members could still be held liable for company’s debts

Limited liability

According to the principle of limited liability, company is liable for its own debts and if its runs out, creditors cannot go after members’ assets. This is a logical consequence of separate corporate personality. X Ltd. means members’ liability is limited to the amount unpaid on their shares (should have been no liability). Limited Liability Act 1855 provided for limited liability – subsumed into Joint Stock Companies Act 1856. Company became the most common form of business organization.

Advantages

  • Members’ risk minimised – encourages investment
  • Members’ risk minimised – encourages managerial risk taking
  • Facilitates public share market – if liability was unlimited the value of shares would depend on the wealth of the individual holder (his wealth had to be assessed first)
  • Protects shareholders’ personal assets from the company’s creditors, and biz. assets from personal creditors. If insolvent, personal creditors can take the shares but not biz. assets
  • Risk shifted from shareholders to creditors, so creditors also benefited. They monitor and protect against risk more effectively by using ‘secured lending’

Disadvantages

  • Not all creditors can protect themselves against risk (e.g. small trade creditors and involuntary creditors); besides, powerful secured creditors have priority during liquidation
  • Group structures – double insulation – puts parent’s business assets away from subsidiary’s creditors

Also read: Corporate law: Dodd or Berle?