Examination Timing: 00H01M56S
Michael operated a business printing logos on sports clothing and equipment. Initially, he operated as a sole trader but then incorporated a company, M.J. Ltd., and sold his business to the company in exchange for the entire issued share capital of 50,000 shares with a nominal value of £1 each. His business had been independently valued at £70,000 before the sale, so Michael excluded a range of plant and machinery from the sale agreement. He then leased this equipment to the company for an agreed fee. Michael also loaned the company an additional £10,000 to purchase new computer equipment and software, securing a charge over the equipment as collateral for the loan. Due to various reasons, the company failed and owed money to several creditors.
Michael wants to know how much of his investment in the business, if any, would be returned to him.
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The principle of separate legal personality, as confirmed by the landmark case Salomon v A Salomon & Co Ltd, dictates that a company is a distinct legal entity from its shareholders. Therefore, even though Michael is the sole shareholder and sold his business to the company, M.J. Ltd. is treated as an independent entity. As a creditor, Michael can recover the plant and machinery he leased to the company because he retains ownership. Additionally, since he has a charge over the equipment purchased with his loan, he can recover his £10,000 loan by seizing the collateral or from the company's assets during liquidation, provided the charge is valid and properly registered.
Key Point: The doctrine of separate legal personality protects shareholders by limiting their liability to their investment in the company. However, as secured creditors, shareholders can recover loans made to the company based on the security provided, ensuring their rights are protected even in the event of the company's insolvency.
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