The Legal Liability of Dow: A Response

Written by  //  March 14, 2012  //  Corporate Law and Business  //  8 Comments

 [A guest post by V. Umakanth, addressing questions of legal liability that arise as a consequence of the damage caused by the Bhopal Gas Tragedy]

Arghya has laid out the landscape for a debate on a crucial issue of liability that remains unresolved for more than a quarter of a century. I would like to step in with two simple points: (i) there is a deep chasm between the legal liability regime in these circumstances and moral responsibility; and (ii) the somewhat unsatisfactory nature of the legal regime does very little to bridge that gap.

Let me deal with the legal regime in this post. In tackling the issues of legal liability, I confine myself to issues of corporate law, which play a crucial role in determining where the liability remains fixed. Two principles come into play. The first is whether a parent company is liable for acts or omissions of a subsidiary company, and the second is what happens to the liability of company when it (or its business) is sold. Both of these have a bearing on the Dow Chemicals/ Union Carbide situation.

As far as a parent company is concerned, it enjoys the advantages of limited liability that company law bestows on a shareholder. As such, a shareholder is not liable, except for unpaid amounts into the capital of a company. The exception to this rule is when the corporate veil is lifted. That can occur either through statute or through rulings of the court. In the case of liabilities of the subsidiary for tortious claims, that falls within the remit of the courts to decide whether the veil should be lifted in a given set of circumstances. As a general rule, however, courts are slow to lift the veil and impose liability on shareholders, except when one of the grounds for lifting the corporate veil is present. The grounds include where the company is set up to evade legal obligations, as a sham or façade, and so on. This position has been established in the leading English case of Adams v. Cape Industries plc [1990] 1 Ch 433, which also involved tortious claims by victims.

One may argue that the current state of the law does not take into account the position of involuntary creditors of the company, such as tortious victims, whose relationship with the company has been established by accident and not by choice. For example, Professors Hansmann & Kraakman argue for a dilution of the principle of limited liability in tort claims (Henry Hansmann & Reinier Kraakman, “Towards Unlimited Shareholder Liability for Corporate Tort”, 100 Yale Law Journal 1879 (1991)). However, this view has not yet obtained prominence among lawmakers and judges. Hence, the conventional wisdom that enables shareholders to hide behind the corporate veil continues to receive recognition without much dilution.

Moving to the issue of third party liabilities when businesses are sold, that is governed by principles of successor liability. Since the buyer and seller of the business possess the freedom to structure their contractual obligations in a suitable manner, the law needs to step in to ensure that the liabilities do not fall between the cracks leaving the creditors (in this case tortious victims) exposed and without recourse. Issues of successor liability are dealt with based on the type of sale that takes place. Usually, in a sale of assets, the liability remains with the seller, unless it has been contractually taken over by the buyer. On the other hand, in a sale of business as a whole (as a going concern), the liabilities flow to the buyer. A third category exists, where there is a sale of shares of a company, where the liabilities of the company simply remain with the company. It appears from publicly available information that Dow Chemicals acquired the shares of Union Carbide so as to make it a wholly owned subsidiary, in which case any liabilities of Union Carbide will continue to remain with it. Again, whether Dow Chemicals as the parent is liable will depend on issue of limited liability I discussed earlier. But, in sale situations, given that parties retain a great amount of flexibility to deal with matters of liability, and that courts seldom interfere in their choice to impose successor liability where it does not contractually belong, it aggravates the vulnerability of involuntary creditors (such as tortious victims).

Even here, there have been several proposals to come up with a legal regime that benefits society in that while it encourages sales and purchases of businesses, it also takes into account the interests of stakeholders such as creditors (particularly the involuntary ones). For example, see Note, “Successor Liability, Mass Tort, and Mandatory-Litigation Class Action”, 118 Harvard Law Review 2357 (2004-2005). However, again, there has been no momentum to implement such proposals.

In order to bridge the gap between the legal liability regime and any moral responsibility on the part of a parent (in the case of limited liability) or a buyer of a business (in the case of a successor liability), there needs to be a paradigm shift in thinking as far as principles of corporate law are concerned. While there has been some scholarly movement in that direction, it has yet to be translated into practice. The situation relating to the victims of the Bhopal tragedy presents that one opportunity where some of these issues may have to be reexamined afresh.

[If you would like to weigh in on this debate, either on the corporate law question or issues of moral responsibility, with which it is inextricably linked, do comment on Arghya’s post, or send longer responses in to, which we shall then publish]

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