Business Entities Research Assignment Session 2 2014 - Daniel Goh z3418055

Introduction
To advise the Australian Pilots Association (hereafter APA) on the legality of the proceedings
undertaken by Kwik Air Ltd (hereafter K) and its wholly owned subsidiary Xpress Air Ltd
(hereafter X) in respect to the redundancy and immediate rehiring of pilots under new and
unfavourable conditions, it is imperative that the legal effects and characteristics of
incorporation are to be examined, namely the doctrine of separate legal personality and the
conditions surrounding the lifting of the corporate veil. Investigating the restructure along
with the intentions and actions of directors and executive management in reference to relevant
precedent and/or the Corporations Act will establish whether rehired pilots are entitled to
former contractual employment entitlements.
Separate legal Personality
The incorporation of a company engenders a new and separate artificial entity, independent
from the obligations and benefits of its founder, shareholders and directors bringing with it
limited liability.1 This principle is founded on the ruling in Salomon v Salomon & Co Ltd
which recognizes also that a company is not treated as an agent but a separate existence under
ordinary circumstances.2 Furthermore, the separate personality of a company is not
compromised by the fact that it is wholly controlled by another separate legal entity. The
decision in Salomons case provides precedent that extends also to the treatment of
companies within corporate groups irrespective of consolidation or economic

G Puig, A two-edged sword: Salomon and the Separate Legal Entity Doctrine Murdoch University Electronic
Journal of Law, 7 (3), 2000, p. 2.
2
J Harris, A Hargovan, M Adams, Australian Corporate Law, LexisNexis Butterworths, 4th ed, 2013, p. 165169.
1

interdependence.3 Court rulings in Walker v Wimborne4 and Industrial Equity Ltd v

Blackburn5 exemplify this, where it is observed in the former that based on legal separation,
creditors cannot seek repayment from another company within a conglomerate in the absence
of a contract creating some additional right, and in the latter that the separate nature of
subsidiaries are not be denied based on the payout and consolidation of profits between a
parent company and its subsidiary. Thus prima facie given that X was validly incorporated in
adherence to company law, it can be concluded that X exhibits the rights of legal separation
from parent company K. This implies that X has the right to its own constitution and the
power to contract with companies and employees6 and the right to limited liability from all
other interests.
Defence to a separate legal personality
APA has refuted the actions of K and hold that the incorporation of X is deemed strange and
suspicious, implying that X may not have the right to legal independence and instead is an
apparent agent of K. This is based primarily on two main factors:
1. The significant degree in overlap in the directorship of the two companies
Windeyer J, in Peate v Federal Commission of Taxation noted that that if a company is duly
incorporated and registered with appropriate documentation and record, the company is a
reality and not a sham. 7 Conversely denying separate legal personality can only be based
upon defective registration and defective incorporation within the scope of the corporate veil.
In paralleling circumstances to the creation of X, ruling by Gordon J in BHP Billiton and
Finance Ltd v Federal Commissioner of Taxation held the mere fact that corporate boards

A Hargovan, J Harris, Together Alone: Corporate group structures and their legal status revisited Australian
Business Law Review, 2011, p. 85.
4
Walker v Wimborne (1976) 137 CLR 1
5
Industrial Equity v Blackburn (1977) 137 CLR 567
6
Lee v Lees Aim Farming Ltd, (1961) UKPC 33
7
Peate v Federal Commissioner of Taxation (1964) 111 CLR 443
3

overlap is insufficient to defeat the presumption of separate existence.8 Therefore the fact
that the only four directors of X are also directors of K does not nullify the legal distinction
between the two entities.
2. The very large degree of control exercised over the directors of X by K
The separate legal entity principle cannot be overturned by degrees of control under normal
circumstances. A discussion of abnormal circumstances and misconduct will be evaluated in
an analysis of the corporate veil. Precedent in Briggs v James Hardie Co Ltd illuminates the
control issue where the court held that denying separate legal personality in circumstances
where one company exercises complete dominion and control over another is too simplistic. 9
Rogers JA held also that such a proposition ignores the reality that conglomerates, more often
than not, exercise this power over subsidiaries legitimately for mercantile activity. If this
argument by APA were to be held absolute, outcomes of cases such as Walker and Industrial
Equity would need to be amended in common law, which in turn questions countless issues of
agency and legal separation established in Salomons case. Thus APA cannot rely on this
factor in advancing claims of illegitimacy on the incorporation of X.
Lifting the Corporate Veil
The court has also recognized that the separate legal personality and limited liability doctrines
at incorporation are not sacrosanct in the face of corporate misconduct and do not cast a veil
through which the courts cannot see.10 For this reason APA can proceed with action against
the restructure undertaken by K and X. The issue at hand is whether corporate misconduct
arose from the intentions of, and the proceedings of the strategic restructure which
conveniently benefited shareholders as remuneration and additional benefits to pilots were

BHP Billiton Finance Ltd v Federal Commissioner of Taxation (2009) 72 ATR 746
Briggs v James Hardie & Co Pty Ltd (1989) 16 NSWLR 549, 577.
10
Littlewoods Mail Order Stores Ltd v McGregor (1969) 3 A; ER 855, 860
9

reduced. It is observed under common law precedent that the corporate veil is to be lifted in
special circumstances; those which are relevant to APA are when a company is used:
-

In corporate groups on agency grounds in group enterprises

To escape an existing legal obligation

Veil lifting on agency grounds in group enterprises

The existence of an agency relationship between a parent and subsidiary has been relied upon
to lift the corporate veil. The decision in Smith Stone & Knight Ltd v Birmingham Corp
pioneered the grounds on which agency can be relied upon and establishes six criteria with a
heavy reliance on corporate control.11 Under S50AA (1), an entity controls the second if the
first entity has the capacity to determine the outcomes of the financial and operating policies
of the second. Responding to the case law criteria, it can be concluded that K has all elements
of complete, constant and effectual control relating to the conduct, capital and directive mind
and will on company X. Atkinson J noted that the subsidiary is an agent if there was nothing
that prevented the parent company at any moment to say that the activities of the subsidiary
were to be eliminated and carried out in the parents name, or that replacing the subsidiaries
name and changing papers and forms would lead to no apparent change in the company as a
whole. Although the subsidiary X has no apparent impact on the corporate group as a whole,
the implied agency relationship based in Smith Stone & Knight case can be fiercely
contended. Detailed analysis on Australian law concerning the corporate veil and agency
reveals that even overwhelming control is insufficient in creating implied agency between
parties.12 Besanko J criticizes the decision in Smith Stone & Knight and states that agency can
only be established if profits of the subsidiary are owned and controlled by the parent, not

11

Smith Stone & Knight Ltd v Birmingham Corp (1939) 4 All ER 16

J Harris, Lifting the Corporate Veil on the Basis of an Implied Agency: A Re-Evaluation of Smith, Stone and
Knight, Company and Securities Law Journal, Vol. 23, 2005, p. 6-7
12

distributed to the parent via dividend as is the case in ACN 007 528 207 Pty Ltd (in liq) v Bird
Cameron (Reg).13 Likewise the board of directors agreed to distribute profits of X to K
expressly via dividend, which in regards to APA may in fact defeat the apparent agent
relationship between K and X based on the above precedent. Thus the chances of successful
prosecution under agency is slim.
Veil lifting regarding the escape of an existing legal obligation
The corporate veil can be lifted to enforce a contract or duty if a legal structure is used to
escape an existing obligation.14 Jones v Lipman exemplifies this principle, recognizing that a
subsidiary or a wholly controlled company cannot be incorporated to fulfil a transaction
whereby escaping the obligation to transact with the original party, and to limit the liability of
the parent or original contracting company. The significance of this case as noted by Russel J
is that the defendant company is the creature of the first defendant, a device and a sham, a
mask which he holds before his face in an attempt to avoid recognition by the eye of
equity.15 Reinforcing this notion is Creasy v Breachwood Motors Ltd (hereafter BM), where
a wrongfully dismissed employee was successful in claiming contractual compensation
against BM instead of his former now shell company Breachwood Welwyn, due to the
intentional restructure and transfer of assets to avoid a legal obligation to repay Creasy.16
Whilst this challenges precedent in Walker v Wimborne, it is essential to note that the
corporate veil was lifted as directors of BM acted to escape an existing contractual obligation,
and in breach of their fiduciary duties to stakeholders. In both these cases, whist there was no
direct sham due to proper incorporation, a faade company was used to mask the fraudulent
activities of the main company. Likewise, in applying the precedent from above, it is

13

ACN 007 528 207 Pty Ltd (in liq) v Bird Cameron (Reg) (2005) 91 SASR 570
J Harris, A Hargovan, M Adams, Australian Corporate Law, LexisNexis Butterworths, 4th ed, 2013, p. 179
15
Jones v Lipman (1962) 1 WLR 832, 836
16
Creasy v Breachwood Motors Ltd (1993) BCLC 480
14

convincing that the directors of K incorporated a subsidiary, faade company X to mask their
contractual obligation to pay the pilots their full amount. For this, the corporate veil should be
lifted on the corporate group.
Tentative Conclusion
It is obvious that the intentions of the directors of K planned and executed the corporate
restructure to deliberately reduce their operational costs by cutting employee salaries. This is
revealed through their initial intention to offer a voluntary acceptance of a lower salary to
employees, which when rejected was immediately followed by a forced redundancy and
immediate rehire under poorer contractual conditions by the newly formed subsidiary X.
Furthermore, the subsidiary served no apparent purpose to the parent company, other than the
name it was operating under. For these reasons the corporate veil should be lifted as a
contractual obligation to pay the initial contracting salary made to employees of K was
intentionally and unlawfully avoided. Thus it is concluded that APA has a high chance of
success in reclaiming initial contract conditions from K.
Words: 1612
Bibliography
ACN 007 528 207 Pty Ltd (in liq) v Bird Cameron (Reg) (2005) 91 SASR 570
BHP Billiton Finance Ltd v Federal Commissioner of Taxation (2009) 72 ATR 746
Briggs v James Hardie & Co Pty Ltd (1989) 16 NSWLR 549, 577.
Creasy v Breachwood Motors Ltd (1993) BCLC 480
J Harris, Lifting the Corporate Veil on the Basis of an Implied Agency: A Re-Evaluation of
Smith, Stone and Knight, Company and Securities Law Journal, Vol. 23, 2005, p. 6-7

J Harris, A Hargovan, M Adams, Australian Corporate Law, LexisNexis Butterworths, 4th

ed, 2013, p. 165-169, 179
A Hargovan, J Harris, Together Alone: Corporate group structures and their legal status
revisited Australian Business Law Review, 2011, p. 85.
Industrial Equity v Blackburn (1977) 137 CLR 567
Jones v Lipman (1962) 1 WLR 832, 836
Lee v Lees Aim Farming Ltd (1961) UKPC 33
Littlewoods Mail Order Stores Ltd v McGregor (1969) 3 A; ER 855, 860
Peate v Federal Commissioner of Taxation (1964) 111 CLR 443
G Puig, A two-edged sword: Salomon and the Separate Legal Entity Doctrine Murdoch
University Electronic Journal of Law, 7 (3), 2000, p. 2
I Ramsay, D Noakes, Piercing the Corporate Veil In Australia, Company and Securities
Law Journal, Vol. 19, (2001), p. 250-271
Smith Stone & Knight Ltd v Birmingham Corp (1939) 4 All ER 16
Walker v Wimborne (1976) 137 CLR 1