Academic journal article Management Dynamics

Corporate Managers and Their Potential Liability for Company Debts in Terms of Section 424 of the Companies Act

Academic journal article Management Dynamics

Corporate Managers and Their Potential Liability for Company Debts in Terms of Section 424 of the Companies Act

Article excerpt

ABSTRACT

Upon registration, a company acquires juristic personality. The company as a distinct legal entity has a separate existence and neither directors nor shareholders are personally liable for the company's debts. This is the principle of limited liability.

Limited liability has merits, but it also has its drawbacks. The principal drawback is that creditors of a company, especially creditors who hold no security, bear a risk when the company is liquidated owing to its inability to pay its debts. Sometimes the legislature or the court disregards the separate corporate responsibility of a company, "lifts the corporate veil" and fixes liability on the natural persons behind the company or in control of its activities.

In Section 424 of the Companies Act the legislature has provided protection to creditors against the misuse of their powers by corporate managers. This literature study explains the current legal position regarding the application and interpretation of Section 424 of the Companies Act, and provides an exposition of its implications for corporate managers.

INTRODUCTION

It is a fundamental principle of company law that from the moment of registration a company exists as a separate entity with legal personality. The company is a body corporate and is therefore a person in the eyes of the law, distinct from the individuals who are its members (section 65(1) of the Companies Act 61 of 1973, as amended; Dadoo v Krugersdorp Municipal Council, 550). As a distinct legal entity, the company can own property, have rights and be subject to liabilities. Members of the company, individually or collectively, can only in exceptional circumstances enforce the rights of the company, and because they cannot be held personally liable for the debts or responsibilities of the company, shareholders stand to lose nothing more than what they have invested in the company. This is the principle of limited liability.

"Limited liability" means that neither directors nor shareholders are personally liable for the debts of the company. In certain circumstances a court may disregard the separate personality of a company to give effect to the reality behind the façade of a company, or even to ignore the separate existence of the legal person, so as to fix liability elsewhere for what appears to be the acts of the company. The Companies Act also makes provision for circumstances wherein the separate corporate personality of a company may be disregarded (sections 66, 344(h) and 424). This ruling is generally referred to as "lifting or piercing of the corporate veil". The focus then shifts from the company to the natural person behind the company or in control of its activities. The law is a long way from being settled with regard to the circumstances wherein it would be permissible to lift the corporate veil. Each case involves a process of enquiring into the facts, which once determined, may be of decisive importance (Cape Pacific v Lubner Controlling Investments, 802). Over the years it has been accepted that fraud, dishonesty or improper conduct in the establishment or use of a company, the conduct of its affairs or the misuse or abuse of corporate personality, could provide grounds for lifting of the corporate veil (The Shipping Corporation of India Ltd v Evdomon Corporation, 566C-F).

PROBLEM STATEMENT

Limited liability has its merits. It encourages entrepreneurship and potentially productive, though risky, investments. Limited liability also has its drawbacks. The principal drawback is that it fails to discourage undercapitalised companies from trading and incurring debts when they have no means of repaying the debts. Under these circumstances, creditors, especially unsecured creditors, bear the entire risk when the company is liquidated due to its inability to pay its debts (Fourie, 1994: 148). On the other hand, the principle of limited liability has more than once been referred to as "the engine room of the free enterprise system and has to this day continued the beneficent operation of venture capitalism" (Rogers, 1991:15). …

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