PRACTICAL PROBLEMS IN COMPANY LAW

P.1 .S & Co. was formed with S, his wife, daughter and four sons as its subscribers and the only
members. The company took over the shoe business of S for Rs.30,000 giving him, as
consideration, 20,000 shares of Re.1 each and debentures worth Rs. 10,000 with a charge on the
companys assets. All members, except S, purchased one share each. S and his two sons
constituted the Board of directors purchased one share each. S and his two sons constituted the
Board of directors of the company. Due to general trade depression, the company went into
liquidation. The assets of the company amounted to Rs.6, 000 whereas its creditors amounted to
Rs.17, 000-Rs. 10,000 due to S (secured by the charge on companys assets) and Rs.7, 000 due to
unsecured creditors. S claims the assets of the company as his debt is secured by the charge over
them. On the other hand, the unsecured creditors are contending that they should be paid the
priority over S as the company and S in one and the same person. Who is entitled to the assets?
Ans. S is entitled to the assets of the company and the contention of the creditors that S and S &
Co. is one and the same person is untenable. A company comes into existence when a certificate
of incorporation is issued in its name. On its incorporation, it attains the characteristic of separate
legal entity. In the eyes of law, it is a person altogether different from the subscribers to its
Memorandum of Association or the members who constitute it. Even if, after incorporation, the
company carries on the business which its subscribers were carrying on before and they are its
manager or the same hands receive the profits, the company cannot be regarded as their agent or
trustee. The magic of separate legal entity makes it possible for the company and its members to
enter into contract with each other. Consequently, a company and its members can be a debtor or
creditor of each other. In the given problem, S &Co., therefore, was an entity separate from its
subscribers, i.e., S, his wife, daughter and sons. It did not lose this separate entity by issuing bulk
of its shares to S and by appointing him as its directors. The contention of the unsecured
creditors thus is wrong. Further, S could validly be a creditor of S & Co.
A Secured creditor of a company has an option either to claim the assets securing his
debt, or the surrender the assets for the benefit of the creditors of the company generally and then
claim repayment of his debt as unsecured creditor. In the given problem, therefore, S has a right
to claim the assets of the company which secured his debt. In Salomon and Salomon & Co. Ltd.,
a case with facts similar to those given in the problem, a similar view was also upheld by the
Court.
P.2 A husband and wife, who were the only two members of a private limited company, are
shot dead by dacoits. Does the company also die with them?
Ans. No, the company does not dies with the death of any or all of its members. A company is
an artificial person created by law, having a distinct entity its own, with a perpetual succession
and a common seal. This personality is in no way influenced by the death of its members as its

existence is independent of them. Therefore, death of both the members in this case does not
mean the death of the company.
P.3 A company was promoted to carry on the business of crop-spraying from the air. X, one
of its promoters, held bulk of its shares and was its Managing Director. Subsequently, the
company entered into a service agreement with him and engaged him, as its chief pilot also.
While piloting one of the aircrafts of the company, in the course of latters business, he was
killed in air-crash. His wife has claimed compensation under the provisions of the
Workmens Compensation Act. The claim is being resisted by the solicitor of the company
who contends that X and the company were one and the same person and a person cannot
employ himself, no compensation is payable. Decide.
Ans. Xs wife is entitled to compensation and the plea of the solicitor is untenable. A company,
on its incorporation, is bestowed with the characteristic of a separate legal entity which implies
that the law treats it and its members as different entities. Even if a member holds majority of it
shares and managers its affairs, the company retains its distinct personality (Salomon and Co.
Ltd). In the given problem, therefore, X and the company were two distinct entities and not one
and the same person as alleged by the solicitor. Further, being different entities, they could enter
into contracts with each other. As such the company could validly appoint X as its employee
under an agreement of service.
Under the provisions of the Workmens Compensation Ac t, an employee (his dependants
in case of his death) is entitled to claim compensation if he suffers and injury due to an accident
arising out of and in the course of his employment. A X was killed in an air-crash while piloting
one of the aircrafts of the company, his dependant, i.e. his wife, is entitled to receive
compensation from the company. In Lee vs. Lees Air Framing Co., a case with facts similar to
those of the given problem, the court also delivered a similar verdict.
P.4. A was employed as an accountant with P, a sole trader, under an agreement of service
for ten years. Before the expiry of the agreement, Ps business was purchased by a company
and all his assets and liabilities were transferred do it. All employees of P reported for duty
at the company but A did not. The company charged A with being unlawfully absent from
work in contravention of his service agreement. State whether in your opinion there is any
default on the part of A.
Ans. There is no default on the part of A. This stems from the fact that A entered into an
agreement of service with P and, as such, was under a duty to serve him only and cannot be
forced thereunder to serve any other persons against his wishes. This is based on the principle
that a person cannot be compelled to enter into a contract with someone against his wishes. On
the basis of the rule, it was held in Nokes vs. Doncaster Amalgamated Collieries Ltd. that where
the entire business of a person is taken over by a company, even though all his assets and
liabilities are transferred to the latter, the benefits of the contract of a personal nature like service

agreements, do not devolve upon it. In the given problem, therefore, the benefit of Ps agreement
of service could not be availed of by the company, an entity distinct from P unless he agreed to
it. As he did not report for duty, it means that he did not consent to the change of employer. He,
therefore, was not required to report for duty at the company and has not committed any default
by not so reporting.
P.5. B agreed to supply K, a cake manufacturer, with all the eggs that he might require for
a year. K transferred his business to a limited company to which he assigned the benefit of
the contract with B. B refused to supply the eggs to the company. Is Bs refusal justified?
Give reasons.
Ans. Yes, Bs refusal to supply the eggs to the company is justified. A company is an entity
from the persons who bring it into existence or from the persons who transfer business to it.
Here, B had agreed to supply eggs to K a cake manufacturer. The contract was thus between B
and K. A company, being a distinct artificial person K cannot force B to supply eggs to the
company instead of him as B is contractually bound to supply eggs to K only and not to any
other person. Therefore, Bs refusal is justified.
P.6. X,Y and Z, carrying on a partnership business in cloth, formed a private company and
acquired all the shares in it. They sold certain premises to the new company and thereby
earned a huge profit. The profit so earned was assessed to tax by the income-tax officer. X,
Y and Z objected to such assessment contending that it was a mere transfer from self to
self. Is there objection valid?
Ans. No, the objection of X, Y and Z is invalid. The cardinal principal of company form of
organization is that a company is a legal entity distinct from the members who constitute it. In
the eyes of law, a company and its members are different legal persons. Therefore, a sale by one
to another shall constitute a transfer from one entity to another. In the given problem, therefore,
the sale by X, Y and Z to the company is not a transfer from self to self but from one entity (X, Y
and Z) to another (the company). As such, the profits earned by X, Y and Z from such transfer
are liable to taxation. Their contention, therefore is wrong and objection invalid. In C.I.T vs
Associated Clothiers Ltd., a case with facts similar to those given in the problem, a similar
decision was announced by the Court.
P.7.40% of the income of a tea company was taxable as income from manufacturer and sale
of tea, and the rest 60% of its income was exempt from income tax as it was deemed to be
agricultural income. X, as a member of the company, was in receipt of dividend from
shares held by her in the company. She claimed tax exemption in respect of 60% of her
dividend income received from the company. Income-tax Officer, however, refused to
accept Xs claims and taxed the whole of her income without any exemption. Is is right?
Ans . Yes, the Income-tax Officer is right in the whole of Xs income received by her from the
company and rejecting her claim as to tax exemption.
A company is an entity distinct from its members who constitute it. The rights and duties
of a company, therefore, are not necessarily the rights and duties of its members. The exemption

available to a company in tax matters shall not be allowed to its members, even in respect of the
income received by them as dividend from the company. Therefore, in the given problem, X
cannot claim exemption from tax in respect of 60% of her dividend income on the pretext that
this income accrues to her from a company whose 60% income is exempt from tax. The I.T.O as
such is right. In In Bucha F. Guzdar vs C.I.T., a case with similar facts, a similar view was upheld
by the Court.