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Feb. 5, 2002 Cybill Uytiepo

CORPORATION LAW

BACKGROUND

They claim that in Roman times they had this counter-part organization, which is like “Kolegiak(?),” which exists for mutual benefit, providing, for example, burial benefits to themembers. During the Middle Ages, the so-called corporations were actually religious organization forthe administration of the temporalities of the Church. After the end of the Civil War in 1865, U.S.started getting industrialized and it was the corporate vehicle that enable the U.S. to beindustrialized. Why? Because of the limited liability of the stockholders. Exposure is limited tosubscription, so people were willing to venture into business risks because if the business enterpriseturns out to be unsuccessful, you don’t lose everything but your losses will be limited to yoursubscription. And the advantage of the corporate vehicle is that you can raise a large sum of money—billion of pesos, which may be needed to run a business, but the management can be efficient,because the management is concentrated in the hands of a small board of directors. For e.g. SanMiguel, with about 30,00 stockholders.

CORPORATION CODE

SECTION 2. Corporation defined .—A corporation is an artificial being created by operation of law, having the right of succession and the powers, attributes and properties expressly

authorized by law or incident to its existence.

AN ARTIFICIAL BEING

A corporation is an artificial being. It is an artificial person—it is not a natural person. Why?Well, one said, “You can never smell the armpit of a corporation.” One American writer said that thecorporation has no body to kick and no soul to damn.

It is an artificial person, that is why the Court has said in many cases, like the ABS-CBN case,that a corporation, as a general rule, can not recover moral damages. Being an artificial person, ithas no feelings, it can not experience wounded feelings, anxiety, mental anguish. HOWEVER, thecourt said, in the SEMEX case and also in the recent JARDIN LAND case, that a corporation has a

reputation which can be besmirched and therefore it can recover damages for besmirchedreputation. In American law, what we call moral damages in our Civil Code are also treated as partof actual damages- the rule is that what we call as moral damages would be called actual damages.Under such law, you can only recover actual damages for the besmirched reputation of thecorporation if the act by its very nature is something that undermines the reputation. In otherwords, it must be libel. You can recover damages for libel. In that JARDIN case, the Court awardedmoral damages to the corporation, it said that its reputation has been besmirched because it wasnot paid on time—its credit standing was impaired. That is not allowed in American Law.

CREATED BY OPERATION OF LAW

A corporation is created by operation of law. It is a person because of legal fiction. It is not anatural person, it only exists as a person because of legal fiction. That is why a corporation is

different from a natural person. A natural person, under the Civil Code, can perform any act exceptwhat is prohibited by law. In the case of a corporation, it can perform all the acts authorized bylaw---anything not authorized, it cannot perform---it would be ultra vires. In other words, its powersare limited.

RIGHT OF SUCCESSION

A corporation has a right of succession. In other words, stockholders come and go but thecorporation continues to exist as the same corporation. It will have succession in its existence, in itsname, even if there is a change of the stockholders. One English writer has said that a corporation is

Jimenez Transcripts (Corporation Code) of 46



like the River Thames and the stockholders are like the waters of the river, waters are constantlyflowing—there is a constant change in the waters of the rivers—but it is the same river.

POWERS, ATTRIBUTES AND PROPERTIES EXPRESSLY AUTHORIZED BY LAW OR INCIDENT

TO ITS EXISTENCE

There are many consequences that will arise from the fact that a corporation has a separateand distinct personality from that of its stockholders. It has the guarantees of the Bill of Rights, likethe guarantee of due process, equal protection, against unreasonable searches and seizures. In thecase of Stonehill v. Diokno, it was held that if the rights of the corporation are violated, thestockholders cannot assert those rights. The Court said that Stonehill could not question the searchwarrant against the corporation, for which he is a stockholder, because it was not his rights thatwere violated, but that of the corporation.

Likewise, the debts of the corporation are not the debts of the stockholders. A stockholder, asa general rule, ca not be held liable for the debts of the corporation. In the same way, a corporationcan not be held liable for the debts of a stockholder. Time and again, the Court said that you can’tgarnish the properties of a stockholder because of the judgment against the corporation. And theproperties belonging to a corporation are owned by it, they do not belong to the stockholders. Thatis why the Court said that a stockholder could not intervene in an action involving property of acorporation, he has no interest. In that case involving the Hidden valley, the corporation can sue astockholder to recover a parcel of land belonging to a corporation because the stockholder was

occupying the land.

And because of that also, there is this so-called DOUBLE TAXATION. When a corporationearns profits, it pays income tax, when the corporation distributes the profits to the stockholders,the income will again be subject to tax---as you know, dividends are subject to withholding tax.

Moreover, a stockholder can not be held liable for the contracts entered into by thecorporation, and in the same way, a corporation can not be held liable for the contracts entered intoby the stockholders. That is why the Court said that where a stockholder sued to annul theconveyance of a parcel of land by a corporation, it can not have the notice of lis pendens annotatedbecause he is not the owner of the property, therefore, he has no rights to protect. A stockholdercan not be held liable to a lawyer who is claiming atty.’s fees against the corporation—and thelawyer of the stockholder can’t sue the corporation for the payment of atty.’s fees. The Court saidthat this is Reverse Piercing of the Corporate Veil—you pierce the veil to run after the stockholder,

now, he is running after the corporation because of the debts of the stockholder.

F. Guanzon and Sons Inc. CaseFACTS: the corporation was dissolved and so its properties were conveyed to the stockholders asliquidating dividends. The government is claiming that they should pay tax on the gain they made.The stockholders said NO—there was no conveyance of property. They said that this is a case of partitioning what they own, so there’s no taxable transaction.HELD: The Court said NO—the properties do not belong to you, they belong to the corporation—sothey were conveyed to you—there was a taxable transaction.

PIERCING THE VEIL

Whenever the law creates a legal device, the objective of the law is justice and fairness—if

you use that device to perpetrate fraud---the law will not allow that---so you have the doctrine of piercing the veil of corporate fiction

When the separate juridical personality of a corporation is used to defeat public convenience,to justify wrong, to protect fraud, to commit a crime, its separate juridical personality will bedisregarded. BUT, time an again, the Court said that the mere fact that one stockholder is thecontrolling stockholder of a corporation, is not sufficient for disregarding the separate juridicalpersonality. Mere control, in other words is not enough to constitute a ground for disregarding theseparate personality. It must be CONTROL + something else, like fraud. For example, somebodyis sued—there is a judgment against him—so what does he do----he forms a corporation and




transfers his properties to that corporation so that they can’t levy upon the property by saying thatthey belong to the corporation.

LIDELL AND CO. CASE

FACTS: Liddel and Co. was importing cars and selling them to the public. The initial sale of the carwas subject to percentage tax. To avoid paying higher tax, the wife of the controlling stockholderformed another corporation—Liddel Motors Inc. Liddel and Co. stopped selling cars to the public,they would only sell cars to Liddel Motors Inc. at a very low price, and so they would pay the

government a small amount as percentage tax. Then Liddel Motors then turn around and wouldresell the cars to the public at a big mark-up.HELD: Liddel and Co. and Liddel Motors were organized for the purpose of tax evasion thereforeseparate juridical personality may be disregarded.

If in the internal dealings of the stockholders, they are disregarding the separate juridicalpersonality of the corporation---typical of a family corporation, then that would be a ground to piercethe veil.

MARVEL BLDG. CASE

FACTS: Ma. Paz was the controlling stockholder of the corporation. She had a few employees whowere given qualifying shares, but the shares were endorsed in blank and in her possession. Thecorporation never held stockholder’s meeting nor Director’s meeting. It was not keeping separatebooks of account, they were confusing personal affairs with affairs of the corporation.HELD: Since Ma.Paz was in the internal dealings, she was disregarding the corporation’s separatepersonality. That would be a ground to pierce the veil of corporate fiction or if the corporation ismerely conduit or alter-ego of the controlling stockholder.

PVD(?) CASE:HELD: If the corporation is exercising control over the management of another corporation—thatwould be a ground to pierce the corporate veil.BUT, in a recent decision: the Court said that control over management is not enough. You mustshow that it is being used for a fraudulent purpose. Many corporations are subsidiary of anothercorporation. An example of a fraudulent purpose is one common in labor cases—a worker filed acase against a garment factory, the company closes, then form a run-away shop—transfers all the

machines and equipments in the name of another corporation which will resume the business.

LUXURIA HOMES CASE:

FACTS: The landowner entered into a contract with somebody to develop his land—joint venture.The landowner then transferred the land to another corporation, and now the developer is claimingthe separate juridical personality be disregarded.HELD: It cannot be in fraud. The developer knew because he even signed the contract of conveyance as a witness. He was told about it. It was not something done behind his back

PSVSIA CASE:FACTS: There are three security agencies being managed by PSVSIA. The guards were freelytransferred from one agency to another. They have a common payroll, and in fact they have thesame mutual benefit system. Every year, they hold that 1 occasion where the guards of the threeagencies attend and participate in the award ceremony.HELD: Separate juridical personality should be disregarded

CASE:

FACTS: An employee was supposed to have resigned from a corporation. On the next day, he wasworking for the 2nd corporation, performing the same job as the 2nd corp is engaged in the same lineof business. The 2nd corp is using the payroll of the old corp—in fact, his ID card for the old corp isthe one he is using in order to enter the premises of the 2nd corp.




HELD: Separate juridical personality should be disregarded.

CASE:FACTS: The corp filed a case, then the stockholder filed another case involving the same matter. Hefiled the case in his own name to avoid forum shopping.HELD: This was a scheme to circumvent the prohibition against forum shopping. Actually, what he isasserting is the right of the corp—separate juridical personality should be disregarded.

When we talk of piercing the veil of corporate fiction, it does not only involve a mothercompany as controlling stockholder, but also affiliate companies. Separate juridical personality couldbe disregarded.

MERRILL-LYNCH CASE:

Merril-Lynch Phils. was incorporated by Sycip, et al. According to the Articles of Incorporation, the primary purpose of the corp, is to transmit orders of customers. If you want toplay the stock market in NY, the commodities in Chicago-you go to Merril Phils., you tell them, “Iwant to buy gold, silver, ” and they will transmit your order to Chicago. You want to buy shares of stocks, they will transmit that to Merril Lynch NY. There was one man who was speculating on silver.He gave an instruction to Merril Phils. to sell the silver, so they transmitted the order—there was adelay in the implementatiom of the order to sell, when they finally implemented, the price of silverhad gone down, so he sued both Merril Phils and Merril NY. Defense of Merril Phils: no cause of action, your contract is not with me but with Merril NY, we merely transmit your order. Defense of Merril NY: We are not doing business in the Phils., so you can’t sue us.

If you look at this scheme, the end of the entire set-up is to enable Merril NY to deal withcustomers here, make profits from the orders and at the same time escape from liabilities by sayingwe are not doing business in the Phils. SEC crack down Merril Phils, saying, in effect you areoperating as a broker.

GRANDFATHER RULE

More or less, the test being used here is the nationality/ citizenship of the stockholders.However, the Foreign Investment Act has disregarded the grandfather rule. It adopted theliberalized interpretation of Filipino-ownership. According to the formula under the grandfather rule,if you have a corporation owned by another corporation, you trace who are the owners of this

owning corp. In other words if you have:

CDE (50% FIL, 50% FOREIGN) XYZ (60% FIL, 40% FOREIGN)

A B C C O R P .

Under the grandfather rule if CDE is 50% foreign and 50% Filipino, and XYZ is 60% Filipino,40% foreign, you will impute all that here and you will say a-ha, since CDE is 50% Fil, ABC CORP isnot 60% Filipino—coz you are going to trace. This is only 55% Filipino coz you trace the ownership-both CDE(50% FIL) and XYZ(60%FIL).

But according to FIA, if a corporation is 60% Filipino, it will be considered 100% Filipino. FIAdiscarded the grandfather rule.

Now, XYZ will be considered 100% Filipino, and so ABC CORP will now be considered 75%Filipino-owned(CDE 50% and XYZ 100%). It must be at least 60% Filipino-owned to be considered a100% Filipino corporation. But if it is less than 60%, then you apply the grandfather rule. That isprovided in the FIA.

SECTION 3. Classes of Corporations. Corporations formed or organized under this Codemay be stock or non-stock corporations. Corporations which have capital stock divided

into shares and are authorized to distribute to the holders of such shares dividends or




allotments of the surplus profits on the basis of the shares held are stock corporations. Allother corporations are non-stock corporations.

A stock corporation is one which has its capital divided into shares and are authorized todistribute dividend. There are two requirements:1) It must have shares. 2) it must be authorized todistribute dividends.

Manila Golf and Country Club, Manila Polo Club, etc.- they have shares, if you want to be amember, you have to buy a share. But, they are non-profit, not authorized to declare dividends—butdividend is not limited to profits—it may take the form of benefits, for example, discounts in thecommissary run by the corp.

SECTION 5. COMPONENTS OF A CORPORATION.

CORPORATORS - those who compose a corporation.STOCKHOLDERS - corporators in a stock corporation.MEMBERS - corporators in a non-stock corporation.INCORPORATORS - Stockholders or members who appear in the articles of incorporation, asoriginally forming and composing the corporation and who are signatories thereof.

The corporation law now provides that an incorporator must be a stockholder. That was not

required before in the corporation law. Moreover, only natural person may be incorporators, but acorporation may be a subscriber but not an incorporator coz he is not a natural person.

25-25 RULE

When you form a corporation, at least 25% of the authorized capital stock must besubscribed and at least 25% of the subscription must be paid. You can form a subsidiary where 5individuals will subscribe to 1 share each to qualify for the board—you must own at least 1 share tobe an incorporator, the rest of the shares will be subscribed by the holding corporation and that willsatisfy the 25-25 rule, because that holding corporation paid for the subscription. In computing 25-25 rule, subscriptions made by a corporation will be included. Corporations can be subscribers, onlythat they can not be incorporators.

Section 6. Classification of shares

The shares of stock in corporations may be divided into classes or series of shares,or both, any of which classes or series of shares may have such rights, privileges or

restrictions as may be stated in the articles of incorporation: Provided , that no share maybe deprived of voting rights except those classified and issued as "preferred" or

"redeemable" shares, unless otherwise provided in this Code; Provided , further , That

there shall always be a class or series of shares which have complete voting rights. Anyor all of the shares or series of shares may have a par value or have no par value as may

be provided for in the articles of incorporation; Provided, however, That banks, trustcompanies, insurance companies, public utilities, and building and loan associations shall

not be permitted to issue no-par value shares of stock.

Preferred shares of stock issued by any corporation may be given preference in thedistribution of the assets of the corporation in case of liquidation and in the distribution of dividends, or such other preferences as may be stated in the articles of incorporation

which are not violative of the provisions of this Code; Provided , That preferred shares of stock may be issued only with a stated par value. The Board of Directors, where

authorized in the articles of incorporation, may fix the terms and conditions of preferredshares of stock or any series thereof: Provide, That such terms and conditions shall be

effective upon filing of a certificate thereof with the Securities and Exchange Commission.




Shares of capital stock issued without par value shall be deemed fully paid and non-assessable and the holder of such shares shall not be liable to the corporation or to its

creditors in respect thereto: Provided, The shares without par value may not be issued fora consideration less than the value of five (P 5.00) pesos per share; Provided, further,

That the entire consideration received by the corporation for its no-par value shares shallbe treated as capital and shall not be available for distribution as dividends.

A corporation may, furthermore, classify its shares for the purpose of insuring

compliance with constitutional or legal requirements.

Except as otherwise provided by the articles of incorporation and stated in the

certificate of stock, each share shall be equal in all respects to every other share.

Where the articles of incorporation provide for non-voting shares in the cases

allowed by this Code, the holders of such shares shall nevertheless be entitled to vote onthe following matters:

1. Amendment of the articles of incorporation;2. Adoption and amendment of by-laws;

3. Sale, lease, exchange, mortgage, pledge or other disposition of all orsubstantially all of the corporate property;

4. Incurring, creating or increasing bonded indebtedness;5. Increase or decrease of capital stock;

6. Merger or consolidation of the corporation with another corporation or othercorporations;

7. Investment of corporate funds in another corporation or business in accordancewith this Code; and

8. Dissolution of the corporation.

Except as provided in the immediately preceding paragraph, the votenecessary to approve a particular corporate act as provided in this Code shall be deemed

to refer only to stocks with voting rights.

The shares of stock may be divided into or classified based on rights, privileges or

restrictions.

NO PAR VALUE SHARES

There are limitations on the power to classify shares of stocks. Banks, trust companies,insurance companies, public utilities, building and loan associations are not allowed to issue no parvalue shares.

When a corporation has no par value shares, no amount will be mentioned. Unlikecorporations with par value shares, for ex., the Authorized Capital Stock (ACS) of the corporationshall be P1M consisting of 10,000 shares with a par value of P100 each, if you have a corporationwith no par value shares, it will simply be, the ACS of the corporation consists of 10,000 no parvalue shares---no amount is mentioned. That's why these banks, trust companies, etc. are notallowed to have no par value shares because these are enterprises which are required by law to

have a minimum paid-up capital - so that you can easily see right away - has it met the minimumpaid-up capital, because if its shares have no par value - you cannot see if it has satisfied therequired minimum paid-up capital.

RIGHT TO VOTE

No shares may be denied the right to vote except those which are preferred shares andredeemable shares. So, common shares can not be deprived the right to vote.




PREFFERED SHARES

Preferences given to preferred shares should not violate the law. You can not provide thatholder of preferred shares will be paid ahead of the creditors of the corporation, and you can notissue preferred shares with no par value shares. It must be noted that preferred shares must havepar value. The preferred shares may be given preference in the distribution of dividends. If theprofits are not enough to give everybody dividends, the holders of preferred shares get a first crackbefore the holders of the common shares get anything. Or they may have preference in thedistribution of the assets in case of liquidation.

PAYMENT OF SUBCRIPTION

Shares of Capital stock issued without par value should be deemed fully-paid and non-assessable, and that shares without par value may not be issued for less than P5.00 per share. Inother words, when a share has no par value, it has to be fully-paid, unlike par value shares that youcan pay only, for example, 25% and have unpaid subscription that you will pay later. But no parvalue shares must be fully paid, because there is no amount mentioned.

STATED VALUE (NO PAR VALUE SHARE)

No par value shares must also have a stated value. When you form a corporation with no parvalue shares, the articles of incorporation states, the authorized capital stock shall consist of, forexample, 10,000 no par value shares. Those shares will also be given a stated value, so the directorsays, `ok, the stated value we will issue initially upon incorporation, will be P5.00. We will have3,000 shares and that will be subscribed with a stated value of P5.00. Now, the business was good,they are raking in the money, so the director decided to declare a stock dividend---`we will have astock dividend with a stated value of P300.00 each. Business was again good---the director againdeclared stock dividend, this time with a stated value of P10,000.00 each. So pwedeng magbago-bago ang stated value. And those shares would be equal irrespective of the difference in the statedvalue. So, if you hold a stockholder's meeting, the one whose no par value share with stated valueof P10,000 will have one(1) vote, same as the one who has a stated value of P5.00. If thecorporation declares a dividend and says, `we will pay P100.00 per share---the one with statedvalue of P10,000 will get P100, and the one with P5.00 will get the same. They are all equalirrespective of the stated value. (jack said this is useful for estate planning. Here's a father, he formsa corporation where his children will subscribe to no par value with stated value of P5 each, after

that, he transfers all the properties to the corporation - the children who subscribed with a statedvalue of P5 each, they probably own P20,000 each with a stated value of P5. Then , the fatherwould transfer his properties there and get - say, 10,000 shares with a stated value of P10,000each. Suppose you now dissolve the corporation and distribute the properties by way of liquidatingdividends. The children will get the bulk of the properties. You could keep the properties there.This is the way the father could dilute his transfer of properties.)

CLASSIFICATION TO INSURE COMPLIANCE WITH CONSTITUTIONAL REQUIREMENTS

A Corporation may classify its shares to ensure compliance to the constitutional or legalrequirements - partial nationalized. Corporations may classify the shares as: Class A - can be soldonly to Filipinos. Class B - can be sold to anyone but, at any given point of time, the Corporationshould be 60% Filipino - owned.

NON-VOTING SHARES; WHEN ENTITLED TO VOTE

Even the shares which are denied the right to vote, normally can vote on the matters likeamendment of articles of incorporation, adoption and amendment of by-laws, sale, lease, etc. of properties, increase or decrease of capital stock, merger, engage in another line of business,dissolution. These are fundamental actions. So even the non-voting shares are allowed to have asay in the approval of fundamental actions.




FOUNDER'S SHARES

They may be given certain rights not enjoyed by the owner of other stocks but if they aregiven the exclusive right to vote, that will be valid for 5 years only. Like this Baguio Country Club,they used to have only 100 shares. They said we should broaden our membership in order to raisemore money to improve the facilities and to expand. The articles were amended and those 100shares were converted to founder's shares. They created 2,000 common shares which were thensold to the public. But this was the scheme: Each owner of 1 founder share subscribed to 20shares, 20 common shares at par value, and then he turned around and sold the 5 shares atP60,000 each. The price was computed in such a way that what you will get from selling 5 shareswould be enough to pay for the 20 shares that you have subscribed. So, at the end of exercise, youwill have 15 shares without shelling out any money because the price you will get from selling 5shares will cover everything. These founder's shares, for 5 years, they have exclusive voting rights.After 5 years, everybody has the same rights.

REDEEMABLE SHARES

Redeemable shares may be issued by the corporation when it is expressly provided in thearticles of incorporation. Terms and conditions affecting redeemable shares are required to beprovided for in the articles of incorporation and to be stated on the certificate o stock. Upon maturityof redeemable shares, they should be paid by the corporation even if the latter has no unrestrictedretained earnings.

Feb. 6, 2002 Alma Santiago

Section 8 deals with redeemable share. It says, such shares may be issued where provided inthe Articles of Incorporation (AOI) and they may be purchased upon expiration of the fixed period…the Articles provided that they will be redeemed, let's say on a certain fixed period, let's say, after 5years, or it may provide that the redemption be optional…

It says regardless of the existence of the unrestricted retained earnings in the books of theCorporation.

When this Code had just been passed, the (incoherent mumbling) asked that question: whyis there a provision here? The shares may be redeemed regardless of unrestricted retained earnings?I said we were against this kasi this is the work of the UP Law Center, the SEC, and the Batasan… I

said, in Batasan they inserted this…

But the SC has said, in any event, remember, we took this up in political law , that the holderof redeemable shares cannot compel the corporation to redeem the shares if the assets that will beleft will not be enough to pay for the claims of creditors coz before you give anything to thestockholders, the creditors must first be paid… coz remember you have the Trust Fund Doctrine. Theassets incorporated constitute the Trust Fund to pay for obligations due to the creditors… and that isthe distinction between a creditor and a stockholder. A stockholder rises and falls with the fortunesof the corporation, while creditors need to be paid whether or not the corporation is making money,even if it is incurring losses it has to pay creditors.

Although, you have that case, (incoherent)… it was an extended decision, similar to a casewe handled before, although that was resolved with a minute resolution. What happened was, thatcase which was referred to us before was that… You know, the SSS invests its money incorporations… now what happened is that they put their money in one corp, the AOI got amended tocreate preferred shares, which are redeemable, and the SSS subscribed to those redeemable shares.When the period of redemption provided became due, the corp said: "well, you cannot redeembecause we… ah… don't have funds!" So the SSS filed a case in the theory that this is not a share of stock, this is not an equity instrument but a debt instrument. The SSS won that up to the CA level,and after it had been decided by the CA, that was when the corp asked us to handle the case in itsappeal to the SC. So we filed a petition for review but the Court denied it with a minute resolution…they held that these preferred shares did not exist before, and the Articles were actually amended tocreate or include the shares. Stock certificates were issued… doc stamps were paid on the stock




certificates… this was entered in the Stock and Transfer book. So, that this should not be considered a debt instrument. The Court denied it. The Court was thinking: "hey, the money that was put in

was the money of the members of the SSS. Kawawa naman yung mga members!"

And now, the Court came out with an extended decision in the Lirad (?) case. The situationwas the same, the Court said that this was a debt instrument because there are some so-calledredeemable shares, which if you look at the features would clearly be a debt instrument.

Like a few years ago, the newspapers mentioned that Ayala Corporation amended its articles

to create preferred redeemable shares… redeemable for 5 years. And the feature is that the holderswere guaranteed dividends payable quarterly. So, note the dividends are guaranteed, then theshares to be redeemed after 5 years: mandatory, and the amount of the dividends is not fixed, butrather it is based on, I think, 2% over 90-day T-bills… because that is how banks loan money, that ishow banks fix the interest. You borrow money from the bank, it will say: "okay, 2% over 90-day T-bills, and to be reviewed every 90 days." You see, the formula for fixing the dividends is not basedon the productivity of the corporation, but based on the prevailing rates if you borrow money frombanks.

TREASURY SHARES

Then you have these treasury shares. These are shares which have been fully issued and fullypaid for but subsequently re-acquired by the issuing corporation by purchase, redemption, donation,or some other lawful means. Like for instance if a stockholder (SH) defaulted when a call was madefor SH to pay their unpaid subscription, and SH failed to pay… and so shares sold at public auctionand the corporation acquired it.

Now the SC has said that treasury shares are in limbo… they are not outstanding, but neitherare they cancelled. They have already been issued. Now when the corporation re-acquires them,they are not cancelled, but they are not outstanding… so in the meantime, they are frozen.. they arein limbo. They cannot vote, they cannot receive dividends. The only thing you can do with them is tore-issue them. That is the only thing you can do.

Well, you have this case (sorry! can't understand the case title)… There is this law office:Rossell Carascosso Anda (RCA), used to be the biggest law firm in Asia… it was the retained counselof all the big companies like Shell, Caltex, SMC, Bank of America, Citibank… Now, Reese (I spell it asI hear it ) one of the controlling stockholders of the Manila Trading and Supply Company, wanted

to transfer the shares to his friends without any tax consequence. So what was the bright schemeconcocted by this RCA?

Reese executed a Trust Agreement (TA). He appointed the Law Office (RCA) as trustee andtransferred to the law office his shares of stocks. The TA included stock dividends. Upon the death of Reese the corporation was supposed to buy the shares... but in the meanwhile, the trustees wouldhave the right to vote the shares of stocks… and as I said stock dividends are also covered by that.So what happened? Reese died. The corporation bought the shares. The remaining SH were thefriends of Reese. Then the corporation now turns around and declares the shares as stock dividendsof existing SH… stock dividends have no tax consequence…. So the remaining SH, all friends of Reese would acquire the shares without paying a single centavo… because the corporation boughtthe shares, and they said: "treasury shares yan eh!" So the corporation now declared it as a stockdividend, and so the remaining SH got it — they got the shares of Reese without paying anything…

Now the Court said: "NO! These are not treasury shares!" why? Because the TA provided thatthe trustees would vote the shares and that it also provided that the trust would include stockdividends that may be declared. So these shares of Reese which were acquired by the corporationhad these 2 features: they could vote and they could receive stock dividends. These are inconsistentwith the nature of treasury shares… because a treasury share is not outstanding although it is notcancelled for it can be re-issued. The only thing you can do with it is to re-issue it. Now, when theBoard re-issued it, they can sell it at any reasonable price… because you don't have to sell it for itspar value as its minimum, because remember, it is unissued… remember, when you're going to sellor offer for subscription, part of the authorized but unissued share, the corporation must sell at least




at par value. Otherwise that would be watered stock. But in the case of treasury shares, that hasalready been paid for by the original SH, so the corporation already got the money equivalent to thepar value. So when the corporation re-issues that, suppose they offer it for sale, they can fix anyprice. It can even be less than par value, let's say the book value is less than the par value. Now if the corporation decides to declare that as dividend it will not be declared as stock dividend, it will bedeclared as property dividend. Because that is property owned by the corporation you declare stockdividends from the authorized but unissued shares… but these are shares (treasury) which havealready been issued but acquired by the corp. So they are properties belonging to the corporation.

So if the corporation distributes them, as dividends, they will be property dividend, not stockdividend.

SHARES OF STOCK

Now, shares of stocks are choses in action. First, they are personal properties by expressprovisions of the Civil Code… they are choses in action, they are intangible properties. Their situs forpurposes of chattel mortgage would be the head office of the corporation… so that is where you haveto register the chattel mortgage. For tax purposes, the situs of will be in the Phils, if it’s a Philippinecorp. The Court has said (Fisher case), if a foreigner owns shares of stocks in the Philippines, andthe foreigner dies, the heirs will have to pay estate tax on the shares of stocks because the tax situsis the Philippines.

All shares are presumed to be equal, unless otherwise provided in the AOI. So that's why it is

said that they will have the same voting rights… if dividends are declared, they will receive the sameamount as dividend, unless it is otherwise provided in the AOI.

INCORPORATORS

Now the Code says that to form a corporation (a stock corporation), you must have at least 5but not more than 15 persons… must be of legal age and majority must be residents of thePhilippines. A corporation cannot be an incorporator.

Each incorporator must at least own one share. As I said, the Corp Law before did not requirethat.

CORPORATE TERM

It should have a corporate term which should not exceed 50 years. And it may be extendedfor another 50 years. The Old Corp Code did not allow extension. That's why if a corporation wouldreach the end, it would have to be dissolved. That was the law before. That's why we have FGUInsurance Corporation. That was originally Filipinas Compania de Seguros. But its corporation lifeexpired and you cannot extend it so it had to be dissolved, and a new corporation must be formed totake over its business… the FGU Corp.

But, later on the Corp law was amended in 1968 to allow extensions. That is why now youcan extend a corporate life… but you cannot incorporate today, then tomorrow, extend thecorporation life. You can only do that in the last 5 years of its existence.

MINIMUM CAPITAL

Now, as a rule, there is no minimum required capital, although the law requires the 25-25

rule. At least 25% of the shares must be subscribed, and at least 25% must be paid. You need nothave everybody paying 25%. Somebody may only pay 10%, but if somebody paid 100% of hissubscription, provided the total payment would reach 25% of the subscription, that satisfies the law.

Although, the law says that paid-up capital should not be less than P5K, so you can form acorporation with a paid-up capital of P80K — subscription would be 20K and paid-up would be 5K.But for certain lines of businesses, special laws require minimum, authorized capital, like banks,insurance companies, financing companies.




ARTICLES OF INCORPORATION

And the law mentions the form for AOI: contains the name, specific purpose, place of itsprincipal office, which must be a city or municipality. Now, the Corp Code in a subsequent provisionsays Metro Manila will be considered as one city. Well, I've seen some lawyers put the specificaddress, which is crazy! Because, then later on, when you want to transfer your office, you have toamend your Articles. It's enough to put there Metropolitan Manila so you can transfer your officeanywhere in MMla. And, remember, the Court has said, in a decision penned by Justice Francisco(old Abigon(?) case… hay, I'm really bad at deciphering the case names!), that in fixing the venue,when one of the parties is a corp, the place where its principal office is located is what should beconsidered — not a branch. And, as was also held in that decision, the principal office should be theplace as stated in the AOI.

Then the term, the name, nationality, and residence of the incorporators, the name, numberof directors [which should not be less than 5 nor more than 15], those who will act as directors untilthe regular directors are elected. Then the authorized capital stock, and other matters… like, you canput there restrictions. If somebody wants to sell his share, he must offer it first to the other SHbefore he can offer them to outsiders. Then you have the treasurer's affidavit, which should indicatethat at least 25% of the capital has been subscribed and at least 25% has been paid.

SEC offers this ready-made printed forms, which they sell. They call this the "express lane".Since they are the ones who prepared it, you just fill it up. So, in about 3 days, you can beincorporated. Well, in the good old days, provided you are diligent enough, you just spend there onewhole day. You can be incorporated in one day. This can't be done anymore… but now, you have thisform, this "express lane"… 3 days you could be incorporated.

And they would require that if you are engaged in a line of business which is nationalized,there should be a provision there, saying: "NO transfers of shares of stocks which would reduceownership of Filipinos to less than what is required by law should be allowed." And this should beprinted at the back of the stock certificates.

Now, you want to amend the AOI, that has to be approved by at least 2/3 of the SH and bymajority of the board. And, you must submit to the SEC a certificate, signed by the chairman whopresided the meeting, corporate secretary, and majority of the directors, certifying that the AOI hasbeen amended, and that they have complied with the requirements, and they will attach to thatcertificate a copy of the AOI as amended.

For example, you changed the place of business, let's say from Manila to Cebu City, you willunderline the amendment. Principal office shall be located in… then you put: Cebu City. Then youput this in parenthesis: as amended on 15 January 2002. You submit that to the SEC, and it will onlytake effect when it is approved by the SEC.

Now, the grounds for disapproving amendments are mentioned in Section 17.

Like when the AOI does not conform with the form prescribed in the law. That the purpose ispatently unconstitutional, immoral, illegal, or contrary to government rules and regulations.

Like the Philippine Statehood Movement before. They wanted to make the Philippinesthe 51st state. The SEC disallowed the incorporation of that. The purpose isunconstitutional because it would run against the provision that the Philippines is asovereign state. The CA sustained the SEC, but said: "Okay, you can incorporate, butthe purpose is to study how it can be legally done… that means you have to amendthe Constitution. So, you will just study."

Now, these Japanese War Notes. A lot of people suffered damages during the war, alot of people were stuck with these Jap War Notes. This bunch of swindlers… tellingpeople that they'll form a corporation…if u suffered damages during the war, if youhave jap war notes, you join them and they will work for the government to payreparations and indemnity to those who suffered damages during the war, and toredeem jap war notes. So the SEC disallowed the incorporation of that, and the SECwas sustained by the CA. This really is a scheme for fraud.




You know, the SEC has issued a circular before 1987, which was updated in year 2000. Itsays: you cannot form a corporation for the practice of certain professions, like engineering,architecture… well, you have that Acebedo case.

This Acebedo Optical Company wanted to set up branches. In CDO, the Mayor refusedto give them a permit. The reason is: you are engaged in an illegal activity —practicing optometry. The Court said: NO! Acebedo is not practicing Optometry. It isemploying optometrists. It is the optometrist who will refract the eyes of the patientand then tell them: "uh… you have to buy eyeglasses with this grade." It's not thecorporation which will refract the eyes of its patients but the optometrist. So, it is notengaged in the practice of a profession.

Well, although in the US, they now allow the lawyers to incorporate. Sometimes youwill see some of the calling cards: PC (meaning, professional corporation).

Another ground for disapproving amendments is when the treasurer's affidavit is false — thatthe 25% has not really been paid. Well, you see, if your paid-up capitalization is P10K, you bring themoney there and they will count it manually. If it is more than that, you get a bank certificate, andthen they will go to the bank and check. They would require you to waive the Secrecy of BankDeposits.

A lot of people would incorporate without any money, really. They just borrow money fromthe bank, get a certification, then after it has been incorporated, they return the money.

Another ground is that the percentage of ownership owned by Filipinos doesn't comply withexisting nationalization laws or the Constitution.

Well if the corporation engages in a line of business regulated by another governmentagency, the SEC will usually endorse it to that office for comment.

For example, insurance company or agency, with the insurance commission; schools, withDECS or CHED; banks, with the Monetary Board.

CORPORATE NAME

No corporation name may be allowed if it is identical or deceptively or confusingly similar tothat of any existing corp. And that the way the jurisprudence has developed, the name will not beallowed if it uses a dominant word in the name of another corporation, and they are engaged in the

same line of business.Well, you have, for example, the case of UNIVERSAL TEXTILE MILLS and somebodyformed another corporation: UNIVERSAL MILLS. The dominant word is universal , andthey both engage in the same line of business.

You know, the Telephone Directory is not owned by PLDT. That is prepared by theGeneral Telephone Directory Corporation. PLDT is the one which merely collects thepayment from the advertisers in the yellow pages. But they don't own/publish thatdirectory. Now, there was this bunch of swindlers who formed a corporation: GENERALDIRECTORY. They would start contacting advertisers in the yellow pages: "Ay, binagona ho 'yung set-up. Ngayon ho, we will collect the payment directly. So, we will sendour collector…" You file a crim case against them for estafa, and they'll say: "NO! Weare printing or own directory." And they will show it… and it is a thin directory. We

filed a complaint with the SEC and the SEC ordered them to change their namebecause it is confusingly similar with General Telephone Directory.

There was this Philippine corporation that wanted the name "Standard PhillipsCorporation". Court said: that is part of the name of Phillips Electrical Lamps, Phillipsexport. Phillips is the dominant word… and both of them manufacture electricalappliances.

On the other hand, the Court has said that Lyceum of the Phils. cannot prevent otherschools from using LYCEUM because lyceum is a generic name. It means a school. LikeUNIVERSITY, UE cannot prevent others from using university as part of their name




because it's a generic name. So Lyceum of the Phils. cannot have an exclusive right touse lyceum because it is a generic term for schools.

The same way Ateneo is a spanish word which means school. But I think what hashappened is the reverse… it is a generic term that has acquired secondary meaning.You can prevent another school from using that.

Well, you have this case of Carlos Valdes, the accountant, a very controversialcharacter (Jack's side-story omitted ). His son left his company and formed the

VALDES CONSULTANTS. Valdes objected to that, because it was a confusingly similarname. But the SEC said: "Eh, magkaiba naman kayo ng line of business… you are inaccounting, your son set up a consultancy firm. And your clients are sophisticated bigmen. They know that the two are different." So the SEC allowed that.

Now, the existence of a corporation begins at the time when you get your certification, issuedby the SEC. That is when existence begins.

There are many limitations found in the law. As for example, you are not a bank, you cannotuse bank as part of your name; you are not a financing company, you cannot use financing.

And the law prohibits the use of United Nations as part of the business name of anycompany. The general Bonded Warehouse Act says, if you are not a bonded warehouse, you cannotuse that as part of your name. The SEC issued a memo circular in 1987, it was updated 2002, whichsays, you cannot use certain name as part of your… like engineering, architecture… as part of the

corporate name because you cannot practice a profession. Or, it says there you cannot usecalabarzon or national as part of your corporate name. Also you cannot use Philippines 2000 as partof your corporate name.

Or any which consists of similar words… 'coz you know the records are computerized, whenyou apply, they will check. And the one who verifies will list down all the names which are similar towhat you have. Now, you could be allowed to use that if you add your line of business, and you addanother word which signifies that you are engaged in a different line of business. Like for example,you have a Golden Pawnshop Incorporated, and you have somebody running a restaurant… so,Golden Restaurants Incorporated. The SEC will allow that.

Feb. 7, 2002 Elaine Carreon

Defective Corporations

DE FACTO CORPORATIONS

A de facto corporation is one that is defectively created so as not to become a de jurecorporation. It is the result of an attempt to incorporate under an existing law coupled with theexercise of corporate powers.

The existence of a de facto corporation can only be attacked directly by the state through quowarranto proceedings. If the corporation does not qualify as a de facto corporation, its existencemay be attacked collaterally. This doctrine is based on public policy to ensure stability in businesstransactions.

4 Requisites of a de facto corporation:1. Valid law under which the corporation was incorporated.2. Attempt in good faith form a corporation according to the requirements of the law. Here the SC

requires that you must have filed with the SEC articles of incorporation and gotten the certificatewith the blue ribbon and gold seal. For instance the majority of the directors are not residents of the Philippines or the statement regarding the paid up capital stock is not true, those are defectsthat may make the corporation de facto.

3. User of corporate powers. The corporation must have performed acts which are peculiar to acorporation like entering into a subscription agreement, adopting by-laws, electing directors.

4. It must act in good faith. So the moment, for example, there is a decision declaring thecorporation was not validly created, it can no longer claim good faith.




A de facto corporation will incur the same obligations, have the same powers and rights as a de jurecorporation. It can acquire property, sue or be sued, enter into contracts. Likewise, the officers,directors, and stockholders will have the same rights, powers, and liabilities as those of a de jurecorporation.

CORPORATION BY ESTOPPEL

It is a corp, which is a group of a persons, which is so defectively formed so that it is not a de jure or a de facto corp but is considered as a corp with respect to those who cannot deny itsexistence because of some agreement or admission or conduct on their part. This doctrine requiresthat there must be dealings among the parties on a corporate basis.

And there are differences between a de facto corp and a corp by estoppel. A de facto corp hasa real existence in law, while a corp by estoppel has none. A de facto corp may exist even if thereare no dealings among parties on a corporate basis. In corps by estoppel, dealings on a corporatebasis among the parties involved are required. Also, where not all requisites for corp de facto arepresent, you can have corp by estoppel.

Christian Children’s Fund Case

There was a teacher hired by the CCF, which was unincorporated. She wanted to go after the onewith money, the organization that was funding CCF, and she was claiming “I’m an employee of that

org and not the CCF.” But the court said that since she accepted employment with CCF, she wasestopped from claiming that CCF is not a corp.

Lozano v de los Santos

This involves 2 associations of jeepney drivers. They agreed to merge. Elections were held. Thepresident of one of the associations won. The pres of the other association refused to recognize thevictory, so he continued to collect dues from the members of his association. So the pres who wonfiled a case. This occurred at the time when 902-A was not yet repealed. This was filed with theSEC, the SEC clamed it was an intra-corporate dispute. Issue: Whether this is an intra-corporatedispute. SC: NO, because the 2 associations agreed to merge but did not draw articles of merger.The merger was not incorporated so there is no intra-corporate dispute. But the pres who filed thecase said the respondent is in estoppel. The court said no, because corp by estoppel applies when

you are dealing with an outsider, a third person. Here the two of you know that although youmerged, you have not been incorporated.

Albert v University Publishing

The late court of Appeals Justice Mariano Albert. He had a book on criminal law. It was publishedby University Publishing but he was not paid royalties. He sued UP, its president was Jose Aruego,and he litigated all the way to the SC and won. When he was executing he found out the UP wasnever incorporated. So at the execution stage, he asked execution against Jose Aruego. Aruegothen claimed that Albert was estopped from claiming that UP was not a corp. The court said, no,Aruego was not misled because he knew all along that they were not incorporated. How could he(Aruego) claim that Albert is estopped when he (Aruego) knew all along that they were notincorporated? (medyo magulo ba? Read the next case, similar facts clearer ratio)

International Express Travel Case

A party contracted with an organization which was not incorporated. He was running afterthe people who were running the org. They said you dealt with us so you’re estopped from claimingwe are not incorporated. The court said no, the doctrine of estoppel applies when somebody hasbeen sued and he tries to avoid liability by claiming that the corp is not incorporated. But it is notapplicable when the third person is the one suing. So the people running the corp know that theyare not incorporated so they are not misled.




Now the people who represented themselves as forming that corp would be liable as generalpartners, they will be solidarily liable. That’s why in one case the court said the people whorepresented themselves as the officers of a corporation that is really an unincorporated org – theywere illegally recruiting persons – the court said they were liable as general partners, solidarily liablefor all claims.

If you will increase the authorized capital stock (ACS), you will amend the articles of incorporation. For example, if your articles states that your ACS is P10M and you want to make itP20M, you will have to amend that. And you will get your certificate, which you will attach to theamended articles, and sign a certificate of increase. And then your treasurer must sign an affidavitthat at least 25% of the increased ACS has been subscribed and at least 25% of that has been paid.And again the SEC will check if that has really been complied with.

And the book now talks about the abuse of right. The US SC has said that the majority aretrustees in favor of the minority. There is a book by the late Professor O’Niel. The oppression of theminority stockholders (SHs). It mentions the different devises that the majority uses in order tooppress and squeeze out the minority. He also puts in devices how the minority can resist. Forexample if the majority will never declare dividends but they will vote themselves also as theexecutive officials. So they will be receiving salaries as executive officials but they won’t declaredividends so the minority never gets anything. The minority wants to examine the books of the corpbut they make it so difficult for him. The book also mentions an extreme case where in acorporation, they wanted this guy to feel miserable so they ostracized him. Nobody would talk to

him blah, blah … stroya lang on how petty people can be…

DIRECTORS AND OFFICERS

Directors are elected by the SHs. And the law says they should be elected annually except inthe case of corps where the law allows directors to hold a longer term like schools, non-stock corps.But for ordinary stock corps, they have to be elected every year. So you cannot put a provisionthere that the outgoing president will automatically be a director because they must be elected.

2 peculiar devises used in election of directors:1. Cumulative voting – since the law allows cumulative voting, it cannot be prohibited by resolution

or the by-laws. This is a devise for the minority SH to get himself elected to the board. So youget his share, multiply it by the number of seats to be filled up, let’s say there are 16. And this

fellow owns 1,000 shares so he will have 15,000 votes. So he can cumulate that and vote it forhimself. Of course he should also solicit proxies to get enough votes.2. Election by proxies – The board and by-laws can’t prohibit this.

Election shall be viva voce or by show of hand, or by balloting if there is a request. A typicalSHs meeting: 9 seats, only 9 nominations are made. No need for election.

Only natural persons can be directors. The law requires that a director must own at least 1share of stock in the books of the corp. So long as he appears in the books of the corporation as aSH, it is sufficient, even it he actually has only legal title, not beneficial title, in other words, he isholding it in trust. That’s why if a director executes a voting trust, automatically he is disqualifiesbecause he is not a SH because of the voting trust. If a director ceases to be a SH automatically heis unseated. End even if he gets a share of stock again, he will not be restored to the position.

Now the question is at what point should the director be a SH? During the election or whenhe assumes office? Majority view in the US is that he is only required to be a SH when he assumesoffice. The minority view holds that it should be during the election. The SEC opinions areconflicting. But it seems the minority view is what is applicable here because of the peculiar wordingof our corp code, which says that the directors shall be elected “from among the holders of stocks”.That is the text of the law in the sates where the minority view was adopted. Out law is wordedsimilarly to the law in those states.

The by-laws may prescribe additional qualifications over and above those prescribed by law.The SC has time and again said that the by-laws may prescribe that to qualify for the board a SH




must hold a minimum number of shares, not only one, e.g., SMC by-laws requires 50,000 shares of stock. They want to knock out people who want to make a nuisance of themselves. They buy oneshare and solicit proxies to get themselves elected.

The code provides that a person if a person is convicted by final judgment of a crimepunishable by imprisonment for over 6 years or of a violation of the Corp code, and committed thecrime within 5 years before the election, he will be disqualified. But the way cases drag, by the timehe is convicted, the 5year period has lapsed.

There are some disqualifications imposed by law. For example the Banking Act provides thatno public official can be elected director of a bank except, for example, the case of developmentbanks. It is required to invest in rural banks, that’s to facilitate the creation of rural banks. Sonecessarily, they will have to have a representative in the board. Or the insurance code, if yourecall, it prohibits interlocking directors. You cannot be a director of an insurance company and anadjusting company at the same time. There would be conflict of interest. Or cabinet members, theycannot be directors of private corps.

And the by-laws again may impose disqualifications over and above what are found in thelaw.

G OKONGWEI C ASE

The court said the by-laws may provide that somebody who is a SH or officer of a corp which

is engaged in a competing line of business will be disqualified to run for the board. The court saidthat is to avoid conflict of interest.

After the election of the directors, they will immediately meet for the organizational meetingto elect the officers: the president who must be a director, the treasurer, the secretary who must bea Filipino citizen and resident of the Philippines. And as a rule one can hold two or more positionslike one can be director and president. However, the law prohibits the same person from beingpresident and secretary, or president and treasurer at the same time. Like your minutes of themeeting that will be signed by the president attested by the secretary. If the same person willoccupy the two positions, there will be no check and balance. Or the president-treasuer. Thepresident will sign the checks; there will be no 2nd person to counter-sign the check.

And then you’re supposed to report to the SEC. You have the general information sheetwhich you must file, where you will report who were elected directors and officers w/in 30 days.

There was one case where a civil action was filed in the name of the corp by a group whichclaimed to be the directors. But the law office of Siguion-Reyna filed a motion withdrawing the case.They said, no, that was not authorized by the board. Issue: who are the directors? The court saidthat the board who asked that the case be withdrawn are the directors because they are thosewhose names appear in the General Information Sheet that is required by the SEC, and thesubmission of the report is required by the corp code precisely to know who are the officers of thecorp. And since that was the report filed in compliance with the code, then that is the one that willcontrol.

POWERS OF A CORPORATION

They may be classified into three:

1. Express powers- those grated by law or contained in the articles of incorporation. For instancein the corporation code, sec 36.

2. Implied powers- refers to the means of attaining the purposes of the corp. For example thecorporation may borrow money, issue checks, take steps to protect debts owing to the corp. Soit can bid to buy its debtors’ properties in the execution sale. Or it can perform acts whichincreases its volume of business. The court has said the corporation may hire entertainers toattract customers to increase its volume of business. The corporation may perform activities forthe welfare of its employees, but that’s also expressly mentioned in the code. That’s why thecourt has said that it may grant gratuity pay to its employees because corporations have the




power to grant benefits to its employees. There’s this old case where the court said a miningcorporation may enter into a contract with the post office at its mining camp so that itsemployees could receive and send letters to and from their families faster.

Pilipinas Cement v Theresa Electric They built their own power plant for their factory. Theresa Electric wanted to compel them topatronize its services. They filed a case in court. The court said, no that is connected with themanufacture of cement. They’re using the power plant to produce electricity for their factory.

Mao(?) Sugar Central

A sugar central may buy a company engaged in the manufacture of sugar bags. They would needthat for packaging the sugar they are producing.

National Power Corp Case

Their power plant was fired by coal. The were bringing the coal to the plant themselves. Thearrastre wanted to force them to hire its services, so they said that NAPOCPOR cannot do that, it’sultra vires. The court said no, NAPOCOR is engaged in the generation of electricity and for thatpurpose, they can bring the coal to their power plant. It is not required to hire an arrastrestevedoring company.

El Hogar FilipinoWhere a corporation owns a multi-story building and it occupies only some of the floors, it can leasethe other floors it is not using so it can maximize the use of its property and maximize its profits.The same way companies can sell computer time which it doesn’t need.

Atrium(?) Management Corporation Case

There’s this recent decision of Justice Pardo. In his decisions, sometimes doesn’t even givecitations. E.B. Henry & co. wanted to borrow money. To help them borrow, High Cement corpissued post-dated checks to E.B. Henry & Co. to be used as collateral for the loan. So they got theloan from Atrium Management Corp. They indorsed the check to Atrium management Corp so theycould get the loan. Then payment was stopped. So when Atrium Management Corp presented thechecks, they bounced. Issue: was the check ultra vires? Justice Pardo said no, cause a corporationcan issue a check to be used as collateral for the loan of another. Ang labo! We will take up later on

that as a rule a corp cannot guarantee the loan of another. Remember the case of Jose innegotiable instruments law? And then after saying that it is not ultra vires, in other words to usenegotiable instrument law terms, the corporation can be an accomodation drawer, then after sayingthat he said says that the corp is not liable because there was no valuable consideration for theissuance of the check.

3. Incidental powers- the powers that are inherent in a corporation. Like the power of succession, to adopt by-laws, to sue and be sued.

A director may be removed by a vote of at least 2/3 of the SH’s. That can be done in aregular or special meeting but the notice must indicate that that is one of the matters to be takenup. And if there’s a vacancy, the remaining directors will elect a replacement. Removal may be withor without cause. Except that if the director represents the minority, he may not be removedwithout cause. This was not in the old corporation code. This was placed here to protect theminority SHs. Without this proviso, the majority SHs can oust the minority director and his vacantseat will now be filled up by the remaining directors who represent the majority.

And unless there’s a provision in the by-laws, or the contract within the by-laws? (garbled)the directors will not receive any compensation except reasonable per diems. Now it is the SHs whoapprove the compensation of the directors. The directors cannot approve compensation forthemselves. And the law puts a ceiling. The total compensation to directors as directors should not




exceed 10% of net income before income tax. But if they are holding another position such aspresident, or gen. Manager, the can receive additional income for that.

Feb. 11, 2002 Siel Alcantara

• The Court has said that when a corporation has been formed to sell spare parts of a motorvehicle, it cannot acquire a company that provides taxicab service because that has noconnection with its primary purpose.

ULTRA VIRES

• Now, if a contract is ultra vires, it can be ratified by the stockholders, unless the contract isillegal because it is against public policy, law or public morals. But any stockholder who doesn’tagree with it can always question it in court.

If the contract is ultra vires but has been completely performed by both parties, it can nolonger be set aside.

If it has been performed by one party and the other party doesn’t comply, if he is sued, hecannot raise the defense that the contract is ultra vires because having benefited from theperformance of that contract, he will be in estoppel to raise that defense.

But if the contract hasn’t been performed by either party, the defense of ultra vires can be

raised.

Sec. 31. Liability of directors, trustees or officers. - Directors or trustees who willfully and

knowingly vote for or assent to patently unlawful acts of the corporation or who are guiltyof gross negligence or bad faith in directing the affairs of the corporation or acquire any

personal or pecuniary interest in conflict with their duty as such directors or trustees shallbe liable jointly and severally for all damages resulting therefrom suffered by the

corporation, its stockholders or members and other persons.

In that Tramat case , the Court mentioned when officers/ directors can be personally heldliable. First, when they assent to a patently unlawful act. Like when they agree to bribe a publicofficial. Second, when the officer is guilty of bad faith or gross negligence. Bad faith means heknows that what he is doing is wrong or fraudulent. Gross negligence means he did not exercise

even the slightest degree of diligence or there is complete absence of diligence.We have some cited cases where the Court said that the officers should be held personally

liable because they were in bad faith. There was a case where the corporation assigned itsreceivables to a bank. They discounted their receivables. Then they fraudulently collected paymentfrom the debtors whose receivables they assigned and did not remit the money to the bank.

There was a case where the general manager introduced reforms and remedial measures toprevent irregularities but the directors did not like that so they fired him. The Court said that is badfaith.

Where the officers were aware that the corporation was not complying with the labor law.They were not complying with labor standards and yet they did nothing.

Where the directors falsely made it appear that the corporation was incurring losses so they

could invoke it as an excuse to dismiss employees on the ground that there was a need to retrenchemployees. These were considered bad faith.

CONFLICT OF INTEREST Section 32. A contract between a corporation and (one of its directors or trustees or) its

officers is voidable at the option of such corporation, unless all the following (4)conditions are satisfied/ present:




1. That the presence of such director or trustee in the board meeting in which thecontract was approved was not necessary to constitute a quorum for such

meeting;2. That the vote of such director or trustee was nor necessary for the approval of the

contract;3. That the contract is fair and reasonable under the circumstances; and

4. That in case of an officer, the contract has been previously authorized by the boardof directors.

Where any of the first two conditions set forth in the preceding paragraph is absent,in the case of a contract with a director or trustee, such contract may be ratified by the

vote of the stockholders representing at least two-thirds (2/3) of the outstanding capital

stock or of at least two-thirds (2/3) of the members in a meeting called for the purpose:Provided, That full disclosure of the adverse interest of the directors or trustees involved

is made at such meeting: Provided, however, That the contract is fair and reasonable

under the circumstances.

Now, if the presence of that director is needed to have a quorum or to approve the contract,to validate the contract, it should be ratified by the stockholders. You would need the 2/3 vote of the stockholders to ratify the contract. When the stockholders are asked to ratify the contract, theremust be full disclosure. In other words, you must tell the stockholders that there’s this contract, oneof our directors wants to buy this parcel of land and these are the terms and conditions.

In a typical stockholders’ meeting, somebody sympathetic with management will stand upand say, “Mr. Chairman, I move that we pass a resolution ratifying the actions of the directors andofficer.” Another will say “I second the motion.” “Is there any objection? The Chair hears none.Approved.” That is not enough because there, there is no disclosure of what these actions are.

In that meeting, the director who’s a stockholder can vote to ratify that contract with himself.But in any event, the law says the contract must be fair and reasonable. So even if it is ratified bythe stockholders, if there is a dissenting stockholder, he can question that on the ground that it isnot fair and reasonable. The contract must be at arms’ length. In other words, if the contract hadnot been with this officer, but with somebody else, would the terms and conditions be the same?

INTERLOCKING DIRECTORS

If the contract is between two corporations with interlocking directors, the same fourconditions must be satisfied.

Sec. 33. Contracts between corporations with interlocking directors. - Except in cases

of fraud, and provided the contract is fair and reasonable under the circumstances, acontract between two or more corporations having interlocking directors shall not be

invalidated on that ground alone: Provided, That if the interest of the interlocking directorin one corporation is substantial and his interest in the other corporation or corporations

is merely nominal, he shall be subject to the provisions of the preceding section insofar asthe latter corporation or corporations are concerned.

Stockholdings exceeding twenty (20%) percent of the outstanding capital stockshall be considered substantial for purposes of interlocking directors.

If a director owns more than twenty percent (20%) of the shares in one of the corporations,then these four conditions must be present and if the first two are absent (meaning, his presence isnot necessary to have a quorum in a board meeting and his vote is not necessary to approve thecontract), then that should be ratified by at least 2/3 of the stockholders.

We have that Prime White Cement case. The Prime White Cement Company manufactureswhite cement. There was a director who got a 5-year distributorship contract with the corporationand the price was fixed for the next 5 years. Then he went around and entered into 1-yearcontracts with hardware stores and the price was not fixed, it was left open. Then after one year,




the price of white cement went up and then he was sued for specific performance. The Court said hecould not enforce the contract because it was not fair and reasonable. He knew that the price of cement was very volatile and it tended to go up yet he tied down the corporation to a 5-yearcontract with the price fixed. He knew that, that’s why he made his contracts with the hardwarestores for one year only and that’s why he did not fix the price.

If he consents to the issuance of watered stock or having knowledge of it, he does not filewith the corporate secretary his written objection.

If he binds himself solidarily with the corporation. This is common when the corporationborrows money. The bank would ask the majority stockholder to bind himself jointly and severally.

When the specific provision of law makes him specifically liable. For instance, the MigrantOverseas Workers’ Act makes the directors personally liable.

Under Section 31 (2nd paragraph), when a director, trustee or officer attempts toacquire or acquires, in violation of his duty, any interest adverse to the corporation in

respect of any matter which has been reposed in him in confidence, as to which equityimposes a disability upon him to deal in his own behalf, he shall be liable as a trustee for

the corporation and must account for the profits which otherwise would have accrued tothe corporation.

For example, he receives kickbacks from contracts with the corporation.

Sec. 34. Disloyalty of a director. - Where a director, by virtue of his office, acquires

for himself a business opportunity which should belong to the corporation, therebyobtaining profits to the prejudice of such corporation, he must account to the latter for all

such profits by refunding the same, unless his act has been ratified by a vote of thestockholders owning or representing at least two-thirds (2/3) of the outstanding capital

stock. This provision shall be applicable, notwithstanding the fact that the director risked

his own funds in the venture.

For instance, here’s a hotel corporation looking for a suitable site and there’s a vacantproperty that was available and a director bought it. Then he offered instead to lease the propertyto the corporation – that would be grabbing a business opportunity.

There’s this old Pepsi- Cola case where a softdrink company became available and a directorbought the company for himself.

Of course, if the corporation rejected the opportunity, the director can acquire it provided ,that he did not maneuver to have it rejected by the corporation so that he could get it for himself.Here, you may consider an example where a corporation which operates has decided to limit itsoperations to Metro Manila. There’s a mall in Dagupan that was offered for sale. This othercorporation had no plans of going out of Metro Manila. Then a director could buy that mall forhimself.

The Code also contains a provision on executive committees which was in recognition thatthis was a practice of many corporations. The board often meets probably once a month at themost. And yet, in between meetings, there are matters that would require Board approval.

So the Code says: Sec. 35. Executive committee. - The by-laws of a corporation maycreate an executive committee, composed of not less than three members of the board, to

be appointed by the board. Said committee may act, by majority vote of all its members,on such specific matters within the competence of the board, as may be delegated to it in

the by-laws or on a majority vote of the board, except with respect to: (1) approval of anyaction for which shareholders' approval is also required; (2) the filing of vacancies in the

board; (3) the amendment or repeal of by-laws or the adoption of new by-laws; (4) the




amendment or repeal of any resolution of the board which by its express terms is not soamendable or repealable; and (5) a distribution of cash dividends to the shareholders.

Usually, the committee would be composed of five directors. The Board can delegate itspowers to the Executive Committee who will wield those powers in between meetings. But the codesays that the Board cannot make a blanket delegation of its powers. It must specify the matterswhich it is delegating. The law mentions the matters which cannot be delegated: An example of number 1 (approval of any action for which shareholders' approval is also required) is increasing the

authorized capital stock.The usual practice is that at the next Board meeting, the actions taken by the Executive

Committee will be submitted to the Board for it to ratify.

Section 36 mentions the powers (and capacity) of the corporation:

Sec. 36. Corporate powers and capacity. - Every corporation incorporated under thisCode has the power and capacity:

1. To sue and be sued in its corporate name; In one case where an acronym was used, the Court said that was not correct.

2. Of succession by its corporate name for the period of time stated in the articles of

incorporation and the certificate of incorporation;

3. To adopt and use a corporate seal;4. To amend its articles of incorporation in accordance with the provisions of this

Code;

5. To adopt by-laws, not contrary to law, morals, or public policy, and to amend orrepeal the same in accordance with this Code;

6. In case of stock corporations, to issue or sell stocks to subscribers and to sellstocks to subscribers and to sell treasury stocks in accordance with the provisions

of this Code; and to admit members to the corporation if it be a non-stockcorporation;

7. To purchase, receive, take or grant, hold, convey, sell, lease, pledge, mortgage andotherwise deal with such real and personal property, including securities and bonds

of other corporations, as the transaction of the lawful business of the corporationmay reasonably and necessarily require, subject to the limitations prescribed by

law and the Constitution;

8. To enter into merger or consolidation with other corporations as provided in thisCode;

9. To make reasonable donations, including those for the public welfare or forhospital, charitable, cultural, scientific, civic, or similar purposes: Provided, That no

corporation, domestic or foreign, shall give donations in aid of any political party or

candidate or for purposes of partisan political activity;10. To establish pension, retirement, and other plans for the benefit of its directors,

trustees, officers and employees; and11. To exercise such other powers as may be essential or necessary to carry out its

purpose or purposes as stated in the articles of incorporation.

Sec. 37. Power to extend or shorten corporate term. - A private corporation mayextend or shorten its term as stated in the articles of incorporation when approved by a

majority vote of the board of directors or trustees and ratified at a meeting by thestockholders representing at least two-thirds (2/3) of the outstanding capital stock or by

at least two-thirds (2/3) of the members in case of non-stock corporations. Written noticeof the proposed action and of the time and place of the meeting shall be addressed to

each stockholder or member at his place of residence as shown on the books of thecorporation and deposited to the addressee in the post office with postage prepaid, or




served personally: Provided, That in case of extension of corporate term, any dissentingstockholder may exercise his appraisal right under the conditions provided in this code.

Sec. 38. Power to increase or decrease capital stock; incur, create or increase bonded

indebtedness. - No corporation shall increase or decrease its capital stock or incur, createor increase any bonded indebtedness unless approved by a majority vote of the board of

directors and, at a stockholder's meeting duly called for the purpose, two-thirds (2/3) of the outstanding capital stock shall favor the increase or diminution of the capital stock, or

the incurring, creating or increasing of any bonded indebtedness. Written notice of theproposed increase or diminution of the capital stock or of the incurring, creating, or

increasing of any bonded indebtedness and of the time and place of the stockholder's

meeting at which the proposed increase or diminution of the capital stock or the incurringor increasing of any bonded indebtedness is to be considered, must be addressed to each

stockholder at his place of residence as shown on the books of the corporation and

deposited to the addressee in the post office with postage prepaid, or served personally.A certificate in duplicate must be signed by a majority of the directors of the

corporation and countersigned by the chairman and the secretary of the stockholders'meeting, setting forth:

(1) That the requirements of this section have been complied with;(2) The amount of the increase or diminution of the capital stock;

(3) If an increase of the capital stock, the amount of capital stock or number of sharesof no-par stock thereof actually subscribed, the names, nationalities and residences

of the persons subscribing, the amount of capital stock or number of no-par stocksubscribed by each, and the amount paid by each on his subscription in cash or

property, or the amount of capital stock or number of shares of no-par stockallotted to each stock-holder if such increase is for the purpose of making effective

stock dividend therefor authorized;(4) Any bonded indebtedness to be incurred, created or increased;

(5) The actual indebtedness of the corporation on the day of the meeting;(6) The amount of stock represented at the meeting; and

(7) The vote authorizing the increase or diminution of the capital stock, or theincurring, creating or increasing of any bonded indebtedness.

Any increase or decrease in the capital stock or the incurring, creating or inreasing of anybonded indebtedness shall require prior approval of the Securities and ExchangeCommission.

One of the duplicate certificates shall be kept on file in the office of the corporationand the other shall be filed with the Securities and Exchange Commission and attached to

the original articles of incorporation. From and after approval by the Securities and

Exchange Commission and the issuance by the Commission of its certificate of filing, thecapital stock shall stand increased or decreased and the incurring, creating or increasing

of any bonded indebtedness authorized, as the certificate of filing may declare: Provided,

That the Securities and Exchange Commission shall not accept for filing any certificate of increase of capital stock unless accompanied by the sworn statement of the treasurer of

the corporation lawfully holding office at the time of the filing of the certificate, showingthat at least twenty-five (25%) percent of such increased capital stock has been

subscribed and that at least twenty-five (25%) percent of the amount subscribed hasbeen paid either in actual cash to the corporation or that there has been transferred to the

corporation property the valuation of which is equal to twenty-five (25%) percent of thesubscription: Provided, further, That no decrease of the capital stock shall be approved by

the Commission if its effect shall prejudice the rights of corporate creditors.Non-stock corporations may incur or create bonded indebtedness, or increase the

same, with the approval by a majority vote of the board of trustees and of at least two-thirds (2/3) of the members in a meeting duly called for the purpose.




Bonds issued by a corporation shall be registered with the Securities and ExchangeCommission, which shall have the authority to determine the sufficiency of the terms

thereof.

A corporation can shorten or extend its corporate term. That will need approval of at least2/3 of the stockholders. Likewise, if you will increase or decrease capital stock, or create bondedindebtedness, you need approval of not only of the majority of the Board but that of at least 2/3 of the stockholders.

PRE-EMPTIVE RIGHTS

Sec. 39. Power to deny pre-emptive right. - All stockholders of a stock corporation

shall enjoy pre-emptive right to subscribe to all issues or disposition of shares of anyclass, in proportion to their respective shareholdings, unless such right is denied by the

articles of incorporation or an amendment thereto: Provided, That such pre-emptive right

shall not extend to shares to be issued in compliance with laws requiring stock offeringsor minimum stock ownership by the public; or to shares to be issued in good faith with the

approval of the stockholders representing two-thirds (2/3) of the outstanding capitalstock, in exchange for property needed for corporate purposes or in payment of a

previously contracted debt.

As a rule, stockholders have the right of pre-emption to preserve their percentage of equityin the corporation In the old Corporation Law, the right of pre-emption was limited to increase inthe authorized capital stock. So that if the Board offered for subscription a portion of the authorizedbut unissued shares, there would be not right of pre-emption. That has been changed because theCode now says the right extends to all dispositions. So if the Board offered for subscription a portionof the authorized but unissued shares, the right will apply. Chairman Haidee Yorac is saying thatwhen San Miguel decided to sell shares to Kirin Beer, that was subject to the right of pre-emption of stockholders. That was why Mr. Cojuangco was calling a stockholders’ meeting to ratify the sale.

There will be no right of pre-emption in several cases.

First , if the articles of incorporation (or an amendment thereto) expressly provide.

Second , when the stock ownership is being offered to the public to comply with the law. For

instance, to get a telephone, you must be a stockholder of PLDT with a Subscriber Investment Plan.So, the right of pre-emption will not apply there. Or when the Board of Investments grantsincentives under the Foreign Investments Act. It usually imposes as a condition that the companymust go public or for a bank to become a universal commercial bank, it is required to go public.

Third , when the shares are being issued with the approval of at least 2/3 of the stockholdersin exchange for property needed by the corporation. For instance, here is a suitable site for a hotel.The owner says I am not interested in selling nor in leasing. I wioll only consider if you will makeme a stockholder and I will use this property to pay for my subscription. In such a case, the right of pre- emption will not apply.

Fourth, when the shares are being issued in payment of a previously contracted debt becauseyou’re converting debt to equity.

Before the only 5-star hotels were the Manila Hotel, The Hilton (now the Holiday Inn),

Sherraton and the Intercontinental. Then the Marcoses asked the IMF and the World Bank to holdtheir annual meeting here so they had to rush the construction of new hotels. After the conference,the hotel occupancy was down. They borrowed money to put up these hotels and they could not payfor the installments. In some cases, the indebtedness was converted to equity.

A few years ago, we had a Convention of Law Professors. There was this one professor fromthe province who was complaining that they were being paid 6 pesos per hour. Another professorsaid they were not being paid at all. The law school was instead paying them with shares of stock.So that is converting debt to equity.




Sec. 40. Sale or other disposition of assets. - Subject to the provisions of existing lawson illegal combinations and monopolies, a corporation may, by a majority vote of its board

of directors or trustees, sell, lease, exchange, mortgage, pledge or otherwise dispose of all or substantially all of its property and assets, including its goodwill, upon such terms

and conditions and for such consideration, which may be money, stocks, bonds or otherinstruments for the payment of money or other property or consideration, as its board of

directors or trustees may deem expedient, when authorized by the vote of thestockholders representing at least two-thirds (2/3) of the outstanding capital stock, or in

case of non-stock corporation, by the vote of at least to two-thirds (2/3) of the members,in a stockholder's or member's meeting duly called for the purpose. Written notice of the

proposed action and of the time and place of the meeting shall be addressed to each

stockholder or member at his place of residence as shown on the books of the corporationand deposited to the addressee in the post office with postage prepaid, or served

personally: Provided, That any dissenting stockholder may exercise his appraisal right

under the conditions provided in this Code.A sale or other disposition shall be deemed to cover substantially all the corporate

property and assets if thereby the corporation would be rendered incapable of continuingthe business or accomplishing the purpose for which it was incorporated.

After such authorization or approval by the stockholders or members, the board of directors or trustees may, nevertheless, in its discretion, abandon such sale, lease,

exchange, mortgage, pledge or other disposition of property and assets, subject to therights of third parties under any contract relating thereto, without further action or

approval by the stockholders or members.Nothing in this section is intended to restrict the power of any corporation, without

the authorization by the stockholders or members, to sell, lease, exchange, mortgage,pledge or otherwise dispose of any of its property and assets if the same is necessary in

the usual and regular course of business of said corporation or if the proceeds of the saleor other disposition of such property and assets be appropriated for the conduct of its

remaining business.

In non-stock corporations where there are no members with voting rights, the vote of at leasta majority of the trustees in office will be sufficient authorization for the corporation to enter intoany transaction authorized by this section.

In the sale, lease, exchange, mortgage or disposition of all or substantially all of theproperties or assets of the corpration, you need approval not only of the majority of the Board butalso of at least 2/3 of the stockholders. According to the law, the test of whether the sale covers allor substantially all of the assets of the corporation is this: will the corporation be capable of continuing its business or accomplishing its purpose. For example, Jollibee must have more than400 stores all over the country. If they sell 5 stores, you don’t have to get stockholder approval.

You have a case where the assets of a corporation were foreclosed and the only remainingasset of the corporation was the right of redemption and they sold it. The Court said you needstockholder approval.

I don’t know whatever happened to this but you have that property in CommonwealthAvenue owned by the Islamic Directorate. The Muslim countries in the Middle East donated moneyfor the Muslims to acquire that property. When Martial Law was declared, the Board of Trustees fledto the Middle East and a bunch of people who were not directors sold that property to Iglesia NiCristo. The Supreme Court said the sale was not valid because the people who sold it were not theelected directors and secondly, that was the only property of that corporation and therefore,stockholder approval was required.

A corporation can acquire its own shares but it is required that it should have unrestrictedretained earnings, as a rule. Remember that we said the assets of a corporation constitute a trustfund to answer for its obligations to its creditors. If you allow a corporation when it has no retained




earnings, in effect, it is returning the investment of its stockholders. Thus, that will prejudice thecreditors.

Section 41 mentions some of the instances when the corporation can acquire shares.

Sec. 41. Power to acquire own shares. - A stock corporation shall have the power to

purchase or acquire its own shares for a legitimate corporate purpose or purposes,including but not limited to the following cases: Provided, That the corporation has

unrestricted retained earnings in its books to cover the shares to be purchased oracquired:

1. To eliminate fractional shares arising out of stock dividends;

For example, SMC declares 25% stock dividend and here is somebody who owns 17 shares.He’ll end up with fractional shares and it’s very cumbersome if you have fractional shares. At thestockholders’ meeting, how will you compute his cumulative votes? Because of that, the corporationwill buy that.

That is why sometimes a stockholder will receive a stock certificate for 25 shares and a checkfor about P6.09—that is the payment for the fractional share.

2. To collect or compromise an indebtedness to the corporation, arising out of unpaid

subscription, in a delinquency sale, and to purchase delinquent shares sold during saidsale;

Where a stockholder did not pay for his subscription, his shares were sold at public auction,the corporation can buy that at the public auction.

3. To pay dissenting or withdrawing stockholders entitled to payment for their shares

under the provisions of this Code.

This is a dissenting stockholder who disagreed with a fundamental action requiringstockholder approval and the corporation decided to embark on a different line of business and thestockholder is not willing to go into that new line of business. He can ask the corporation to buy himout.

Sec. 42. Power to invest corporate funds in another corporation or business or for anyother purpose. - Subject to the provisions of this Code, a private corporation may invest

its funds in any other corporation or business or for any purpose other than the primarypurpose for which it was organized when approved by a majority of the board of directors

or trustees and ratified by the stockholders representing at least two-thirds (2/3) of theoutstanding capital stock, or by at least two thirds (2/3) of the members in the case of

non-stock corporations, at a stockholder's or member's meeting duly called for thepurpose. Written notice of the proposed investment and the time and place of the meeting

shall be addressed to each stockholder or member at his place of residence as shown on

the books of the corporation and deposited to the addressee in the post office withpostage prepaid, or served personally: Provided, That any dissenting stockholder shall

have appraisal right as provided in this Code: Provided, however, That where the

investment by the corporation is reasonably necessary to accomplish its primary purposeas stated in the articles of incorporation, the approval of the stockholders or members

shall not be necessary.

Under Section 42, the corporation can invest its funds in another corporation but it is with thesame purpose, you only need approval by the Board, you don’t need stockholder approval. This iswhy the Court has said SMC can buy a brewery in Hong Kong without need of getting stockholderapproval because that is consistent with the primary purpose of the corporation.




In the same way that the Court has said that Mau Sugar Central could buy a company thatmanufactures sugar bags. It doesn’t have to get SH approval because that is related to its primarypurpose. Because you need sugar bags to pack the sugar that it is selling.

Sec. 43. Power to declare dividends. - The board of directors of a stockcorporation may declare dividends out of the unrestricted retained earnings which shall

be payable in cash, in property, or in stock to all stockholders on the basis of outstandingstock held by them: Provided, That any cash dividends due on delinquent stock shall first

be applied to the unpaid balance on the subscription plus costs and expenses, while stockdividends shall be withheld from the delinquent stockholder until his unpaid subscription

is fully paid: Provided, further, That no stock dividend shall be issued without the approval

of stockholders representing not less than two-thirds (2/3) of the outstanding capitalstock at a regular or special meeting duly called for the purpose.

Stock corporations are prohibited from retaining surplus profits in excess of one

hundred (100%) percent of their paid-in capital stock, except: (1) when justified bydefinite corporate expansion projects or programs approved by the board of directors; or

(2) when the corporation is prohibited under any loan agreement with any financialinstitution or creditor, whether local or foreign, from declaring dividends without its/his

consent, and such consent has not yet been secured; or (3) when it can be clearly shownthat such retention is necessary under special circumstances obtaining in the corporation,

such as when there is need for special reserve for probable contingencies.

Sec. 44. Power to enter into management contract. - No corporation shallconclude a management contract with another corporation unless such contract shall have

been approved by the board of directors and by stockholders owning at least the majorityof the outstanding capital stock, or by at least a majority of the members in the case of a

non-stock corporation, of both the managing and the managed corporation, at a meetingduly called for the purpose: Provided, That (1) where a stockholder or stockholders

representing the same interest of both the managing and the managed corporations ownor control more than one-third (1/3) of the total outstanding capital stock entitled to vote

of the managing corporation; or (2) where a majority of the members of the board of directors of the managing corporation also constitute a majority of the members of the

board of directors of the managed corporation, then the management contract must be

approved by the stockholders of the managed corporation owning at least two-thirds(2/3) of the total outstanding capital stock entitled to vote, or by at least two-thirds(2/3) of the members in the case of a non-stock corporation. No management contract

shall be entered into for a period longer than five years for any one term.The provisions of the next preceding paragraph shall apply to any contract whereby

a corporation undertakes to manage or operate all or substantially all of the business of

another corporation, whether such contracts are called service contracts, operatingagreements or otherwise: Provided, however, That such service contracts or operating

agreements which relate to the exploration, development, exploitation or utilization of

natural resources may be entered into for such periods as may be provided by thepertinent laws or regulations.

A corporation can enter into a management contract. What the law really does here is toregulate management contracts. Mgt contracts can be necessary at times. Like here is a miningcompany whose directors and officers don’t know anything about mining. They can enter into acontract with a corporation which has technical expertise to manage its mines.

You have that case of Nielson & Co. vs. Lepanto where Lepanto entered into a managmentcontract with Nielson & Co. to manage its mines. When the war broke out, the Japs took over themines of Lepanto. (Yamashita must have been there.) After the war, Nielson wanted to continuethe contract because there was a stipulation there that if the contract is interrupted, it will beextended. Lepanto did not agree. Nielson & Co. sued. The contract provided that they would be




provided a certain percentage of the gross income as their management fee. In addition, Nielson & Co. would get a certain percentage of the stock dividends that will be declared. Lepanto lost in theSC in December 1966. The award reached about 30 Million pesos. (That case was handled by IkeBello (for Lepanto) who was devastated by the decision.) Lepanto went to our office which drafted amotion for reconsideration. One of the arguments raised was that a management contract is acontract of agency. Therefore, it can be terminated at any time. But the Court rejected thatargument. The Court said that a management contract is a contract for lease of services. It doesnot involve a representation so you cannot terminate it at any time. The Court, however, eliminated

the award for stock dividend. It said that Nielson & Co. was not a stockholder and only astockholder can be given stock dividends.

The law tries to regulate management contracts because it has been used too often to _______ money for the corporation. When Soriano was still managing PAL, he was a minoritystockholder but he had this compania which had a management contract. So Soriano & Co. wasgetting a percentage of the gross income of PAL. Everytime PAL would buy or sell anything, it had acommission. When Toda(?) took over PAL, he did the same thing with his Rubicon which had amanagement contract. That’s why when Mr. Fred Ramos of National Bookstore was questioningthis/ was waging a proxy fight against Soriano III in Atlas Mines, that was an issue he raised. Hesaid that Atlas Mining had a management contract with Soriano Compania which was charging a feebased on the gross income. This was a time when Atlas was incurring losses. In fact, later, AtlasMining closed.

This is why the laws says that a management contract should be approved by majority of theBoard, by majority of the stockholders, of both the managed and managing corporation. And if astockholder of the managed corporation owns more than 1/3 of the managing corporation, themanagement contract must be approved by at least 2/3 of the stockholders of the managedcorporation.

A management contract should not be valid for more than 5 years for any one term. You can just keep renewing it provided, that it is not for more than 5 years at any one time.

Feb. 12, 2002 Tinine Bautista

(4A, please read codal first before going through this otherwise, it won’t make any sense.

For this lecture, the provisions included would be Sections 42-59 )

Powers of the Corporation (cont.)

A corporation cannot act as a surety or guarantor because the law says the assets of acorporation constitute a trust fund to answer for obligations to creditors. So if they will be used toguarantee the obligations of others then they will prejudice the ability of the corporation to pay itsobligations to its creditors and besides when the SH put in their money in the corporation it isunderstood that it will be used for the purpose for which the corporation was organized.

However there are exceptions to that, justified by the fact that it is being done for a businesspurpose:

1. When it will increase the assets of the corporation (Mr. George Yang can borrow money fromCitibank anytime without any collateral because McDo US is guaranteeing his loans. The moreoutlets, the more royalties MCDO will get. For every outlet, an initial fee will be collected + thefranchiser gets 6% of gross sales. The business purpose is the expansion of the venture.)

2. It is a subsidiary. That constitutes investment of the corporation. It is in the interest of themother company for the subsidiary to succeed and be practicable. Here, the mother co. must bethe controlling stockholder because if it just owns a few shares it’s not sound business to risk allits assets which may be disproportionately more valuable than its subscription in the subsidiarycorporation where it is just a minority SH. So that’s a small investment and it will risk all itsassets.




3. To enable a debtor of the corporation to keep going so it will increase chances of the

corporation to collect payment from it. Like, here is a contractor (that is a debtor of thecorporation) that cannot finish a project and it needs working capital. The corporation willguarantee the loan so it can get working capital otherwise it will not be able to liquidate the downpayment/ loan.

PARTNERSHIPS (P)

SEC says Corporations cannot get into partnerships because the management of a P is vestedin the partners and that will run counter to the idea that any exposure of the corp should be withinthe control of the directors.

However, a corporation can enter into P’s subject to several conditions:

1. Articles of incorporation authorize the corporation

2. Corp must participate in the management and as a result, it must be jointly and severally liablefor the obligations of the P. This requirement is that the corporation cannot be a limited partnerbecause in such as case the corporation will only be a passive investor. You have no say in themanagement but more recently they changed that and said that a corporation can be a limitedpartner in a partnership and the justification for this is that if a corporation can be a passiveinvestor in another corporation and it has no say in the management there is no reason why itcan’t be a passive investor in a limited partnership

DIVIDENDS (SEC. 43)

Most common types; cash, property, stock dividends. Only the board approval is needed todeclare cash dividends but the corporation must have retained earnings. Now when the corporationdeclares cash dividends and it has no retained earnings this is illegal and SH must return what theyreceived and in fact directors will be made liable.

You have that Philbanking Corporation case before which became bankrupt because it keptdeclaring dividends at the time it was incurring losses and the justification: “Eh you see we havealways been declaring dividends regularly and if we stop now there might be a bank run.” Well youtell me now, katwiran ba yan ng taong matino? They attacked the CB for closing Philbanking.

Assuming it has retained earnings, once cash dividends have been declared they cannot berevoked because you can use that to manipulate the price. For example they declare that 25% cashdividend so the price moves up. The directors sell their shares then they revoke the declaration sothe price goes down they buy back the shares.

In the case of property dividends you only need board approval but in the case of stockdividends you need the approval of the stockholders. Now, a stock dividend has no taxableconsequence because it is the same pie but you are slicing it into more pieces.

For instance, here is somebody whose shares represent 10% of the net worth of the corp.The corp declared a 100% stock dividend. What will happen? He will still own 10 % of the net worthof the corporation. The book value of his original share plus his stock dividend will be the same. It isonly when he sells and makes a profit will there be a taxable consequence. And because of thateven if a stock dividend has been declared it can still be revoked because it’s the same pie only yourslicing it in more pieces so even if you declare it you can revoke as long as the stock certificateshave not yet been distributed.

The SEC has said that paid-in surplus cannot be declared as dividends whether stock or cash.For instance, here is a corp that made a public offering. The par value of the shares is 10 pesos pershare but they offer to the public for 16 pesos so the buyers will be paying 6 pesos more. Now, thatpaid in surplus cannot be declared as a stock or cash dividend because according to the SEC you canonly declare dividends from earnings from operations. That paid in surplus was not from operations

Itong si Agbayani sabi it cannot be declared but the SEC said it can be declared, subject tocertain qualifications. One of the tricks for window dressing the financial statement is when thevalue of the corp is negative you have your real property re-appraised.




Now, the appraisal will increase the value of the property and that wipes out your negativevalue that’s why normally your external auditor will put a footnote in your financial statement forseveral years indicating that there has been a re-evaluation. Now, according to Agbayani it cannotbe declared but the SEC says it can be declared subject to certain conditions. The property must besubject to depreciation so if it is land you cannot declare a dividend. It must be subject todepreciation and then you charge depreciation allowance and you have retained earnings then youcan declare that as dividends.

Treasury shares, if they are declared, should be considered property, not stock dividends.Now the law provides (taken from a decree issued before) that if the surplus profits exceed 100% of the paid-in capital, you must declare dividends whether cash or stock otherwise you will be fined bythe SEC. That is one of the rackets of SGV. “O, mataas na yung retained earnings nyo, lagpas ng100% mumultahan kayo ng SEC, you have to declare dividends.” So at the end of the year in yourfinancial statement wala na yan and of course because of that, they will have to prepare a long-formreport kasi hindi na kasali sa fiscal year and siyempre tatagain ka for the long-form report.

However you can be excused from not declaring subject to certain conditions

1. Justified by definite corporate expansion projects approved by the board. For instance youget a franchise from abroad there will be a development schedule. For instance they will tell youto open so many outlets within 5 years so when Dunkin Donuts first opened they were requiredto open 5 outlets within 5 years so the company was not declaring any dividends. Whatever

retained earnings they were accruing were being used to put up other outlets. We have thisclient who owned a heavy mix (?) plant and said that the present plant cannot cope with ourvolume of business. We have to put up a bigger plant so they purchased a parcel of land in theCALABARZON and they will need 100 million to put up the new plant so they are not declaringany dividends. But it has to be definite in fact, the SEC will ask for copies of the BoardResolution showing the definite expansion plans. The Board Resolution is sufficient of course, youcan’t be showing the same resolution for 5 years in a row. Kung hindi gumagalaw yung financialstatement or hindi gumagalaw yung assets, ano ba yan? In this case, the SEC must look in.Like this fellow Henry Ng of Unimart, he doesn’t declare dividends and he’s always saying “expansion” I don’t know how he’s getting away with it!

2. If the corporation is prohibited by a loan agreement from declaring dividends without theconsent of the creditors or when the consent has not been obtained. Well, usually if it’s a big

loan the creditor will require that as a condition and they will make sure the corp has enoughfunds to pay

3. Special circumstances there is a need to build up reserves for contingencies (ex. There is astrike and the union filed a case for unfair labor practice because many employees wereterminated so they said if we lose we will be made to pay backwages and that will amount to ahefty amount so we better start building reserves

Now the dividends will be given to the Stockholder (SH) of record. If the SH sells his sharesbut the transfer has not been recorded in the books of the corporation, it goes to the seller but hewill have to deliver that to the buyer. That is between him and the buyer because remember it is thebooks that are controlling. Usually when the corporation declares a dividend it will say “resolve thatthe corporation declare a cash div of 25% on Feb 25 to SH of record as of Feb 15 2002 and for thispurpose the books of the corporation be closed at the end of business hours on Feb 15 and will be

open again at 8:00 am of Feb 26 2002”.

BY-LAWS

Corp is required to adopt by-laws within a month after its incorporation in fact you can fileyour by-laws at the same time as your articles. That printed form you buy from the SEC, they giveyou the articles and the by-laws at the same time. Now you need majority of the holders to approvethe by-laws.

If the corporation fails to file its by-laws on time it does not result in the automaticdissolution of the corporation but it can be suspended or fined. The by-laws can state that in order




to be a director one must own a minimum number of shares. To amend the by-laws a majority of the SH is required but they can, by 2/3 vote, delegate that power to the Board. To revoke thedelegation you only need majority of the SH to remove the delegation of the power to the board.

Amendment of by-laws must also be approved by the SEC. The provisions of the by-lawsmust not be contrary to law. That El Hogar Filipino case, the by-laws giving the board the powerto force a SH to surrender his shares would be void. Likewise this Grace Christian High School

case. It is this school in Balintawak QC. There was a homeowners association organized as a non-stock, non-profit corporation and to be a member of that association you must be a homeowner.But somehow, thru the years, the principal of the school has been allowed to be a member of theboard and one day he was no longer elected as member and he questioned that. He argued thatthere was a proposed by-law that a representative of the High School be a permanent director. Thecourt said it was void because you’re not a member of the homeowners association so you cannot beelected member of the board and such a provision shall be void.

You have that case of Citibank also. The by-laws of Citibank provide that the countrymanager has the power to enter into compromises in lawsuits and he can delegate that power.There was a delinquent borrower who jumped the gun and filed a case. The case was set for pre-trial and the Country Manager issued a special power of attorney in favor of a bank lawyer andCitibank was declared in default. The court said no because the by-laws expressly provide that thecountry manager can compromise lawsuits and delegate it therefore the SPOA is valid.

The by-laws are not binding on third parties unless they have actual knowledge thereof.Even if they are filed with the SEC they are not binding on 3rd parties who have no actual knowledge.You have the case of Valley Golf Club. A member pledged his share to China Bank. He failed topay so China Bank foreclosed. It bought the share at public auction and it now asked Valley Golf totransfer the share in its name. Valley Golf when it found out, refused and claimed it had a lien onthe share because its By-Laws provide that the Country Club will have a lien on the share for unpaidaccounts. So they proceeded to foreclose their lien also. The court said that is not binding on ChinaBank because it is a third party who does not have actual knowledge of that provision.

Likewise you have that PMI Colleges case. There was a teacher who was hired buteventually terminated so he filed a case for illegal dismissal. The defense of PMI College was “yougot illegally hired because under our By-laws, only the chairman of the board is given the power tohire faculty members and you were not hired by the chair. Now the court said that is not binding onthe teacher because he has no actual knowledge of the By-laws.

MEETINGS

Title VI deals with meetings. The provision here applies in the absence of a provision in theby-laws. The by-laws will be what will primarily apply. Meetings can either be regular or special.Regular meetings shall be held annually on the day fixed by the by-laws or if none, any day in Aprilas determined by the board or trustees.

Well normally, the annual meeting of the SH will be held late in April or in May so that theaudited financial statement will be available for distribution to the SH. Although itong si Henry Ng heplaced in his By-laws, “the annual SH meeting will be held on the last business day of December” because everybody is busy with Christmas shopping so walang sisipot ng meeting, walang magigingkontrabida na mag-question sa meeting. That is his purpose. When I was still active attendingboard meetings there was this old lady Mrs. Josefina dela Cruz in a wheelchair and every meetingshe will just ask a lot of questons. She would say, “you know you should send the report to me inadvance so I will have time to study it. Ganon lang naman yan magdadadakdak and that wouldmake her day so Henry Ng to avoid that, scheduled his meeting on the last day of December

Now written notice must be sent to the SH at least 2 weeks before the scheduled meeting.Again, these provisions apply in the absence of any in the by-laws to the contrary. A specialmeeting may be held at any time and if there is no provision in the by-laws, notice must be sent atleast 1 week before. Notice of the meeting may be waived expressly or impliedly by the SH, like you




may sign a waiver especially if it’s a closed corporation. Implied waiver is when he shows upanyway and he participates actively and he votes.

The SH meeting should be held in the city or municipality where the principal office is located.It need not be held in the principal office itself as long as it is held in the city or municipality wherethe principal office is located. For instance the SH meeting of San Miguel Corporation is held in FolkArts Theater or PICC, eh maraming stockholders yan eh. They go there to get the free soft drinksand iced tea. Proceedings shall be valid even if the meeting was irregularly called as long as all SHare present. Unless otherwise provided, quorum shall consist of the majority of the SH.

The articles and by-laws may provide for a higher majority especially if it involves a jointventure. Two corporations, 60-40 the 40% might want to be able to block the majority so they mayrequire to protect themselves so they may require 2/3 majority to have a quorum and that would bevalid. On the other hand, you can have a provision that says that a quorum will be less thanmajority especially in non-stock corps. Alumni associations will have a provision there that says thequorum will consist of the number of persons who actually showed up, yeah, to make sure youalways have a quorum, because if you call an alumni association meeting, less than 10% will showup so they put that any number that shows is a quorum.

Once a quorum is called, and the meeting was called to order even if some of them walk outin the middle and the people left are less than majority, the proceedings will be valid so long asthere was a quorum when the meeting was called to order. Regular meetings of the board will beheld monthly unless otherwise provided in the by-laws. Special meetings may be called by thepresident (or any 2 directors for example) in accordance with the By-Laws . Meetings can be heldanywhere in the Philippines or outside the Philippines but the Manual of Regulations for banksprohibit banks from holding their meetings outside the Philippines, eh otherwise magju-junket palagiyang mga directors na yan, “o, let’s hold our meeting in New York the next time o, let’s do it inParis.”

The directors may waive notice of the meeting either express or implied (same rules asstockholders above). The SEC has said before that directors cannot be represented by proxy. Proxyvoting is available only to stockholders meetings and before, the SEC said that a director cannot bepresent electronically because the idea of having a meeting is the exchange of ideas and you do nothave that benefit when other participants of the meeting are there by telephone or computer. Now,the SEC has said that because of the E-Commerce law you can be present by cellular phone/ phonepatch/ video conferencing as long as properly documented. They still have to issue expanded and

definitive regulations to govern the matter.

Who will preside at meetings? Usually the president unless otherwise provided in the by-laws. Usually it is the chairman of the board who presides at SH and board meetings. (I guess thepresident and the chairman is considered the same guy but he actually said this) At the regularmeeting of the board any matter can be taken up. You don’t have to specifically put an item in theagenda unless the corporation specifically requires that a matter be included there, like removal of adirector. That has to be stated in the agenda. In a regular meeting you can take up anything. Butif it’s a special meeting only matters stated in the notice can be taken up unless it was taken up andit was not in the notice and nobody objected, that is waiver

When a sale is pledged the pledgor/ mortgagor will have a right to vote unless it wasexpressly provided that the pledgee/ mortgagee will be the one to vote the shares. In the case of executors/ administrators/ receivers, they will be the ones to vote the shares. If the shares areowned in common the co-owners must agree on how to vote the shares and they must all agree togive a proxy. If for example they are deadlocked, some vote no and others vote yes then that sharecannot be voted. If its an and/ or set-up, either one who happens to be present at the meeting canvote but if they’re both there and their votes are conflicting then you cannot vote the share.Likewise, if it is and/ or, either one can give a proxy.

A proxy is valid only for the meeting for which it is issued unless otherwise specified in theproxy that’s why normally, every time there is a board meeting, the board sends out a proxy formbecause the proxy is only valid for that meeting. If it is a continuing proxy it can only be valid for 5




years because the old corporation law contained a limit as to the duration of voting trusts of 5 yearsbut did not put a limit on proxies. So to harmonize the 2 they provided here that a proxy can bevalid only for 5 years because there’s no sense in making the duration of proxies unlimited whilethat of voting trusts are limited to 5 years.

VOTING TRUSTS (SEC. 59)

A stockholder can create a voting trust. What will happen is that the share of stock under hisname will be cancelled and will be issued in the name of the trustee. The VTA is valid only for 5years. But, if this was imposed as a condition in a loan, it will be valid for a longer period becausethe lender imposed that condition to protect his interest especially if it is a big exposure. The bankwill want to know what is happening so they will insist that a bank officer should be given a votingtrust and sit in the Board to find out what’s happening. If the loan is for 10 years it can be for 10years but if the loan is paid, automatically the VTA will lapse even if the 10 year period has not yetexpired because the voting trust is merely to protect the interest of the bank. These are differentdevices to accumulate votes, the proxies, the trusts. You can also have a pooling agreement where2 or more SH sign an agreement that they will vote their shares together, in the same way. We willcontinue tomorrow….

Feb. 13, 2002 Maita Chan-Gonzaga

Stocks and Stockholders

SUBSCRIPTION CONTRACT

§ 60 [Subscription contract] simply defines what is a subscription agreement and §

61[Pre-incorporation subscription] says a subscription for shares of stock of a corporation still tobe formed shall be irrevocable for at least 6 months unless all the subscribers agree or theincorporation fails to materialize. §62 [Consideration for stocks] mentions that consideration maybe paid… It says here that stock should not be issued for a consideration less than the par value, orif it is a no-par value share, less than the stated value and the consideration possible may be actualcash which is the most common consideration. Or property. Payment made in the form of property,the SEC will require an appraisal. Usually, the property given will be land so they will require anappraisal. And then, labor actually rendered already, in other words, past services. Then, previous

debt. So when debt has been converted into equity. Then amount transferred from unrestrictedretained earnings to capital. That is what happens when the corporation declares a stock dividend. Abookkeeping entry will be made and the amount corresponding to the stock dividend will be debitedfrom unrestricted retained earnings and transferred to capital. Then outstanding shares exchangedfor stocks in the event of reclassification or conversion. For instance, a preferred share is given theoption to be exchanged for common shares. When you surrender, you’ll be given common shares. Orsay, the corporation decided to change the par value from P100 to P10. So they say, you know, it’svery hard to sell the shares in the stock market because the price is too high. P100! Stockholderswill be asked to surrender their stock certificates. In return, they will be given new stock certificateswith the par value of P10. Or when you have a merger, stockholders of the absorbed corporation willsurrender their shares and in exchange they will be given shares in the surviving corporation. Andalso, it is illegal to issue shares where the consideration is a promissory note. A promise to pay forfuture services.

Now the stock certificate will be signed by the President, or in his absence the Vice-President,and countersigned by the Secretary (§63; Certificate of stock and transfer of shares). That’swhy in one case…you have this Torres case… a retired Judge who was the controlling stockholder ina corporation. And his nephew to whom he had given shares of stock turned out to be recalcitrantand rambunctious so he decided to regain control of the corporation by giving shares to othernephews. And what did he do? He was the president of the corporation and he simply posted entriesin the stock and transfer book. O, one share to this fellow, another share to that… The court saidthat that is not valid. That is not the way to…and besides, he is the president, not the corporatesecretary. He is not supposed to handle the stock and transfer book.




TRANSFER OF SHARES OF STOCK

It says here, shares of stock are personal property and they may be transferred by deliveryof stock certificates endorsed by the owner or his attorney in fact. So you need two things: anindorsement of the stock certificate plus delivery. That’s why you have that case of Razonwhere Mr. Vicente Chuidian wanted to regain shares of stock which he claimed belonged to his fatherin E. Razon. And Razon said “No, this does not belong to your father. It actually belongs to me.” Well, the stock certificates were actually in his possession. The court said there was no indorsementso he cannot claim that the stock certificate belonged to him. On the other hand, the court said thatwhere the stock certificate was endorsed but it was not delivered, then the shares of stockrepresented by the stock certificates had not been transferred to the buyer.

And the court says it is a ministerial obligation of the corporation to transfer the shares of stock to the name of the buyer. So even if a case has been filed for the rescission of the sale, thecorporation still has to transfer the stock certificates. There was a case where the seller sold theshares of stock and he was paid. And a new stock certificate was issued to the buyer. And then thecorporate secretary says that, “Well, the old stock certificate has not been endorsed.” So the buyerreturned it to the seller and told him, “Will you please endorse it so that it can be cancelled.” But theseller did not and refused to return the stock certificate. So the corporation declared it as cancelled.The court said that the cancellation was valid because actually he has sold and it and he has beenpaid. It was just delivered to him for him to endorse and he unjustifiably refused to return the stockcertificate. And therefore the corporation can consider it as cancelled.

Now, no transfer shall be valid except as between the parties until the transfer is recorded inthe books of the corporation. Why? If the selling stockholder has a creditor and in the books of thecorporation the shares are still in his name, the creditor can attach and levy on the shares.

Now, although it has been said that shares of stock are personal property and are quasi-negotiable because to transfer them, the seller can simply sign at the back and deliver it they’re notlike negotiable instruments. That’s why if the indorsement of the stockholder was forged even if itwas an indorsement in blank, the buyer shall not acquire any right to the share of stock. Now if theone who forged it was an employee or officer of the corporation who was precisely in charge of thestock, the records or the stock certificates, then the corporation will be responsible for his act. Likeyou know, you are required to be a stockholder of PLDT to get a telephone line. Many people do notclaim their stock certificates so they are there in the vault of PLDT. I have one case where anemployee there who was in charge of their custody forged the indorsement of some stock and sold

them in the stock market. So the buyer would get good title, the corporation will be liable. So whatwill happen? The buyer will get good title and the seller will also have to be recognized. And it wouldbe PLDT who would bear the loss. But remember whenever there will be an over-issuance of theshares, irrespective of good faith, the buyer cannot acquire title. If there is over-issuance, the ownerof the shares of stock whose signature was forged must be recognized as still the owner and theremedy of the buyer would simply be to sue PLDT for damages. Likewise if the indorsement wasforged… somebody stole the stock certificate, forged the indorsement and because of that, thecorporation issued a stock certificate to that forger so he now has a stock certificate in his name andhe goes around and sells that to somebody who bought that in good faith, he will be protectedbecause he has the right to rely on that stock certificate in the name of the seller. So what willhappen, both the original owner whose stock was stolen and that buyer, para ‘tong Torens title, willbe recognized. But again if this will result in over-issuance, it is the original owner who will be

recognized and the remedy of that buyer will be to simply sue the corporation for damages.Now the law says no shares of stock against which the corporation holds any unpaid claim

shall be transferable in the books of the corporation. In other words, if there is an unpaidsubscription and there’s a call (?). So first of all, the SEC has said that a subscription contract is anindivisible contract. And therefore the stockholder, if he subscribed to 1000 shares cannot say, “I willsell 500 and then retain 500.” No. The contract is indivisible. So it must be all or nothing. If hewants to sell, he must sell the entire 1000 shares. Now if he does that, he must get the approval of the board because remember he still owes the corporation for his unpaid subscription and thereforeif he will sell the shares, in effect he will be substituting somebody for him as debtor for the unpaid




subscription. And when there is substitution of debtors, that is novation and you need the consent of the creditor- the corporation. Now you have this case of China Bank which I mentioned earlier whereChina Bank foreclosed the pledge on the proprietary shares of Valley Golf Club. When it asked ValleyGolf Club to register the shares in its name, Valley Golf Club refused. It said that this stockholderhas unpaid obligations. He has not paid his monthly dues, he has not paid his bills and under the by-laws, Valley Golf Club has a lien on the stock certificate for his proprietary share for his unpaidclaim. And Valley Golf Club argued under §63 that it can’t be transferred in the books in the name of China Bank because we have these claims which are not paid. The Court said no. The unpaid claim

mentioned here refers to the subscription price. It does not refer to amounts due the corporationarising from other transactions. It only refers to payment due under the subscription agreement.

ISSUANCE OF STOCK CERTIFICATES

It says here (§64; Issuance of stock certificates) that no stock certificate shall be issueduntil the full amount of the subscription has been paid because, it said, a subscription contract isindivisible. So until the entire consideration is paid, the stockholder shall not be entitled to a stockcertificate. That’s why that old Baltazar case is wrong. Where Justice Paredes said that… let’s sayyou subscribed to 1000 shares and you paid only 25% of the price, the stockholder has the option.He can either spread out that partial payment equally among the 1000 shares so each share will bepartially paid or he can apply that as full payment for 250 shares and then ask the corporation toissue stock certificates to him for 250 shares. That is wrong because the subscription agreement is

indivisible.

WATERED STOCKS

Now under §65 [Liability of directors for watered stocks], we’ve mentioned this before,an officer or director who agrees to the issuance of watered stock or such officer who, havingknowledge of it, does not file with the corporate secretary his written objection, will be liable if astock is watered. In other words, the stockholder paid less than the par value or the stated value forthe shares of stock and then he was issued a stock certificate. When the corporation receives lessconsideration than the par value of a par value share or the stated value if it is a no-par valueshare… that is called watered stock. Because remember, cattle is called stock. And in the old daysof the wild, wild west, when the cowboys would bring their cattle to the market to be sold, they willmake the cattle eat salt so the cattle will be very thirsty. And then along the way, they will pass by a

stream. And so the cattle are very thirsty and so they will drink a lot of water. So when they arriveat the market, the cattle will be very heavy because of the water. So when the cattle is weighed bythe buyer, the cattle is heavy and he will pay the price for that weight but what he is paying for -water. He is not getting his money’s worth. That cattle which is full of water which is being sold for aheavier weight – watered stock. That’s why shares of stock where the corporation did not get itsmoney’s worth came to be called watered stock.

UNPAID SHARES AND DELINQUENCY

Now, the unpaid portion of the subscription, as a rule, does not earn interest unless the by-laws provide for interest (§66; Interest on unpaid subscription). And if the by-laws specify whatis the interest, that is what will apply. But if it does not state what will be the interest, then it will bethe legal rate.

Now, so long as the stockholder is not delinquent, he is entitled to exercise all the rights of astockholder so he can vote his shares and if there are dividends declared, he will receive thedividends. (§72; Rights of unpaid shares).

Now when will the payment of the balance fall due? (§67; Payment of balance of

subscription). In two cases. First, if the subscription agreement stipulates that he should pay forthe balance of the subscription on certain dates. Secondly, if a call was made. If the director said, “We need more working capital” and so it made a call. Now a call must be uniform. You must make acall on everybody. Otherwise, if you will allow the board to single out some stockholders and theywant to get rid of some stockholder who is questioning so many actions of the board, then they will




make a call for his share only. And then if he does not pay, they will sell his shares and get rid of him. It has to be uniform. Now, so if a call is made and a stockholder fails to pay, let’s say thedirectors say, “Ok, we are making a call on 25% of the subscription” and he fails to pay, the lawsays the entire balance of his subscription will become due. Although the call was only for 25%, if hefails to pay, the entire balance including the 75% will fall due. And so if within 30 days from the datepayment should have been made, he has still not paid, that is now delinquent. And once the sharesare delinquent, he will lose the rights of a stockholder. (§71; Effect of delinquency) He cannotvote his shares, he cannot receive any dividends and if there is any stock dividend, the delivery of

the stock certificate will be withheld and any cash dividend will be applied in payment of hissubscription.

So once the stocks are delinquent, then the corporation will now pass… the board will nowpass a new resolution ordering that the shares be sold, which should not be less than 30 days ormore than 60 days from the date the shares became delinquent. (§68; Delinquency sale) Andnotice of the sale should be sent to the stockholder and that should be published once a week for 2weeks in a newspaper of general circulation. So if the stockholder still fails to pay, well, the shareswill be sold at public auction. The auction will be the Dutch method of auction, In other words, theprice is fixed. The auctioneer will say, “Gentlemen, we have here 1000 shares which are delinquentand the balance of the subscription is P75,000. How many shares am I offered for P75,000?” Somebody says, “7,500”. Somebody else says, “6000.” “5500.” The one who is willing to get theleast number of shares for that price will be the one who will win the bid. And as a result of that, the

subscription will now be fully paid and the rest will be given to the delinquent stockholder becausehe is now fully paid. If there is no bidder, the corporation can bid. Now, until the corporation makesa call, the payment of the subscription is not due unless the subscription agreement contains astipulation as to when it is to be paid. That’s why in one case, an employee of a corporation filed acase and got a judgment against the employer but he was also a stockholder. And the employerargued that it should not be ordered to satisfy the judgment because…since this employee has anunpaid subscription, the balance of the subscription should be set-off against the judgment in hisfavor. The court said, “No, for compensation to take place, both debts must be due.” And thepayment for the subscription is not yet due because no call has been made.

Now that unpaid portion of the subscription is an asset because it is a receivable. Andcreditors can sue the stockholders for the unpaid subscription if the corporation has no assets. Nownormally, the plaintiff will sue first the corporation and then if the corporation… and if he gets a

judgment and it cannot be satisfied…there is a sheriff’s return…unsatisfied…then he can now sue thestockholders for the unpaid amount of their subscription. Now if, at the time the case was being filedagainst the corporation, the corporation is already insolvent and cannot pay, then the creditor canalready include the stockholders as defendants in that action. Well, I had a case before, when MiriamDefensor was still a judge. Our client was a foreign company which sold chemicals to a companyhere. It was a good project but the problem was they put in too little capital and instead theborrowed massively and so it was the interest payments that was killing them. Now, our client filed acase and they compromised and agreed to pay in installments over a period of 2 years but then theyfailed to pay. So now I sued the stockholders for their unpaid subscription and the case wasassigned to then Judge Miriam Defensor Santiago. Defense of stockholders: payment. They said wehave already paid for our subscription. And they submitted receipts to prove that they had paid fortheir subscriptions. But you see, when the printing press prints the receipts, it must first getapproval from the Bureau of Internal Revenue. So they will get approval and say we are printing

these official receipts with these serial numbers and it is only after you get approval that you canprint and the number of the permit and the date of its issuance will be printed at the bottom of thereceipts. Now these receipts were obviously forged because they were dated something likeFebruary but the date of the issuance of the permit by the BIR for printing was dated June. So theywere obviously fabricated. That’s why in a moment of lucidity, Judge Miriam Defensor Santiago heldthe defendants liable.

Now if the owner of the shares want to question the sale, the law requires he must first paythe party who paid for his shares of stock with legal interest. And he must file the case within 6months from the date of the sale. (§69; When sale may be questioned).




Now the corporation can decide to sue instead on the unpaid subscription. (§70; Courtaction to recover unpaid subscription). Why? Because if, for example, a corporation is incurringlosses, if you sell that at public auction, nobody will buy. Because the value of the corporation isnegative. So if the corporation decides to buy it also, it won’t (?) make sense. So they wouldprobably, in such a case, choose to sue instead the stockholder for payment of the balance of hissubscription.

LOST CERTIFICATES

Now if a stock certificate was lost, to get a new one, the stockholder must execute anaffidavit explaining the circumstances under which the stock certificate was lost. (§73; Lost or

destroyed certificates). And then, notice of the loss will be published once a week for 3consecutive weeks in a paper of general circulation. And then after 1 year from the date of the lastpublication, he can get a new stock certificate. But the stockholder might want to get the stockcertificate right away. For instance, he might be applying for a loan and intends to use the shares of stock as collateral for the loan. So he cannot wait for a year. He will be allowed to get the stockcertificate but he will be required to post an indemnity bond equal to the value of the shares listed inthe stock market. The stock and transfer agent will say, “Ok, you just give a bond equal to the valueof the shares in the stock market.” If it is not listed in the stock market, well you can use the bookvalue which appears on the latest audited financial statement.

RIGHTS OF STOCKHOLDERS Your book mentions the rights of stockholders. They have a right to have a stock certificate,

to vote, to receive their share in the dividends, to participate in the distribution of the assets in caseof dissolution, and they can enter into a voting trust. They have the right to pre-emption, they canwithdraw, they can ask for their appraisal rights, they can say “I don’t agree with what you’re doing,buy me out.” They can transfer their shares. They have the right to vote in and remove the directorsand approve certain fundamental corporation actions. To file a derivative suit. And to enable them toexercise their rights wisely, they have the right to inspect the corporate records.

PROXY VOTING

Now, as I said before, a stockholder can vote by proxy. But if he gave a later proxy, the laterproxy will prevail over the earlier proxy. If you cannot tell which one is later because they don’t have

dates, well, neither can vote. Or if the stockholder personally showed up at the stockholders’ meeting, then he is personally present, then the proxy will lose the right to vote because the proxyis just an agent and agency can be revoked at any time. However if the proxy is coupled with aninterest, then it cannot be revoked. For instance, if you have a bank which loaned a substantialamount of money and it required this borrower to pledge his shares of stock as collateral and to givea proxy until the loan is fully paid, then he cannot revoke the proxy because it is coupled with aninterest.

DERIVATIVE SUIT

Now the stockholders are also allowed to file a derivative suit for redress of wrongscommitted by the management. There are four requisites for the filing of a derivative suit. First,there must exist a cause of action which calls for this remedy. Example, the directors are

mismanaging the affairs of the corporation. On the other hand, remember you have the business judgment rule. The court will not set aside the decisions and actions of the board unless they haveacted in bad faith, illegally or with gross negligence. Even if the decisions may have resulted inlosses, the court will not second-guess the board. So they must have committed mismanagement, orfraudulently disposed of their properties…Like in one case, you have two families who werestockholders of this corporation. One family was the one managing it and this family was siphoningthe funds and transferring it to their own bank account. A derivative suit can be filed. Or theexample given in your book is like that Republic Bank case. Republic Bank was being investigated bythe Monetary Board, so what did it do? It got Caderno, the former governor of Central Bank as




consultant. It was obvious that the purpose was to take advantage of his influence. So this is a caseof influence peddling and so that contract could be assailed. Or in the old days, when you still havethis import control. You cannot import unless you have a dollar allocation. One company sold itsdollar allocation. You sell your dollar allocation, that’s illegal. You won’t get another dollar allocationagain. So that could be the basis of a derivative suit. Then the stockholder must exhaust allremedies within the corporation by applying for redress from the board or from the stockholdersunless this is excused. Well, the court has said, well, if the directors are mismanaging, to appeal tothem would be useless since they are the very ones committing the wrong you are complaining

about. Or the case of San Miguel, where you have probably around 20,000 stockholders around theworld. It would be too unrealistic and too cumbersome to require a stockholder to appeal first to thestockholders and ask for a stockholders’ meeting. Third, the plaintiff must have been such at thetime of the act complained of. If he was not yet a stockholder at the time of the act complained of,he cannot sue unless they are still being continued after he became a stockholder. That’s why youhave this case of Nora Bitong, she filed a derivative suit against Apostol and these other people inthe Philippine Daily Inquirer but actually she was just a dummy of Juan Ponce Enrile who was theactual owner of the shares. Now the court said that since she was not really the owner of the shares,she could not file a derivative suit. And moreover, the shares issued in her name were antedated tomake it appear that she became a stockholder before the action she was questioning occurred. Thecourt said she cannot file a derivative suit questioning those transactions. Then the action must bebrought in the name and for the benefit of the corporation because the cause of action you areasserting belongs to the corporation, that’s why the plaintiff will be the corporation. Well there wasthis recent case of Atty. Hilda Lim. Where she…they had a family corporation and the board passed aresolution saying that to pay for her legal services to the corporation, she should be given shares of stock from the authorized but unissued as payment for her legal services. Another stockholderquestioned that and claimed that this violated his right to pre-emption. Well, that was his claim.Well, Hilda Lim argued that he could not file that case because…the SC had issued a TRO restraininghim from acting in behalf of the corporation and he was filing a derivative suit. The court said no,the cause of action he is enforcing is his own right because he claims that he had a right of pre-emption. So this was not a right belonging to the corporation so this was not a derivative suit. Now,this derivative suit is allowed precisely to enable a minority to protect its rights against a majority.That’s why the majority cannot dismiss a derivative suit filed by the minority. In the case of SanMiguel Corporation, the court said it is not the mere fact… that former dean Eduardo de los Angelesowned only a few shares of San Miguel is not a ground to dismiss the case that he filed because the

cause of action he is ascertaining pertains to San Miguel Corporation, not to himself. Therefore thefact that he only owned a few shares, which are insignificant, is not relevant. What happened wasthat Mr. Andres Soriano III bought 2 corporations. He bought them for himself and he used thefunds of San Miguel Corporation. And since the cause of action a stockholder is ascertaining in aderivative suit pertains to the corporation, the proceeds of the case should accrue to the corporation.If a court awards damages, that should go to the corporation, not to the stockholder who filed thederivative suit. And whatever judgment is rendered in that case will be binding on the corporation.You cannot have another stockholder filing another derivative suit. That’s why the court has to becareful if it approves any compromise. And if the stockholder wins, he is entitled to be reimbursedfor the expenses and attorney’s fees he incurred in prosecuting that case for the benefit of thecorporation.

Feb. 14, 2002 Varvie Roldan

BOOKS

Section 74 - Books to be kept; stock transfer agent. - Corporations are required to keeprecords of all business transactions and minutes of the meetings of the stockholders and directorsand upon demand, any stockholder or director can inspect the corporate records and obtain copiesat their own expense. So stockholders are given this right of inspection so that they will be properlyinformed and will be able to exercise their right as stockholders intelligently. The right of directors toinspect the corporate records is broader than that of stockholders because they are the ones




involved in the management of the corporation so they would need information to be able to makedecisions wisely. The directors and stockholders have the right to examine the records at reasonablehours on business days. The corporation cannot limit the right to inspect on specific days only. If theright of inspection is denied, the officers responsible for the withholding of the records are criminallyliable under section 144 and will also be liable for damages. There are reasons given in the code fornot allowing inspection, but the right exists as concurred by law; therefore, the burden is on thecorporation to show that a stockholder or director is not entitled to be allowed to inspect the recordsof the corporation.

Case of Gokongwei vs. SEC

The Court said Gokongwei had the right to examine the record of San Miguel International.San Miguel Corporation was arguing that that is a separate corporation. But the court said it is awholly-owned subsidiary corporation so its capital gained from San Miguel Corporation, andtherefore Gokongwei as stockholder of San Miguel Corporation had the right to examine the recordsof San Miguel International.

What are the grounds for not allowing inspection?

1. If the person demanding to examine the records has improperly used any information securedfor prior examination For example, a stockholder who was earlier allowed to examine the recordsmade use of insider trading. So he was able to buy shares because of information that becameavailable to him which was not available to others.

2. If he is not acting in good faith. For example, a stockholder who wants to get information on thebusiness plans of the corp. because he's a stockholder of another competing corp., and so he willpass on the info. to that other corp. Or for example a stockholder would want to know theformula of Coca-Cola.

3. It is not being exercised for a legitimate purpose.

Case of Ramon Gonzales - He filed a petition for mandamus to examine the records of certaintransactions entered into by the Philippine National Bank. He filed it as a taxpayer. His petition wasdenied. So what he did was he bought one share. He said that since he is now a stockholder, he hasthe right to examine the records of those transactions which he earlier wanted to see. The Courtdenied his petition because it said he was not exercising his right of inspection properly. This right isgiven to stockholders in order to protect their investment of the corp. But that is not the situation

here. He earlier tried to see the records and when that wasn't allowed he bought one share, and he'susing that as justification for looking into the records. He bought the one share to be able to lookand pry into the records, because he was earlier denied access to the records. So he's not exercisingthe right to protect his investment.

MERGERS AND AQUISITIONS

Section 76 deals with mergers and consolidations. In merger, one corp. is absorbed byanother as the surviving corporation. In consolidation, a new corp. is formed which will absorb twoor more existing corporations. In case of merger or consolidation, the directors of all thecorporations involved must approve a plan of merger or consolidation. They state there what is thename of the corp., who will be the constituents, what are the terms of the consolidation or merger.Example, when Philippine Guaranty Company used to be an insurance company owned by the

Ayalas, it was merged with FGU Insurance Corporation. Recently, FGU Insurance Corporation wasmerged with this Mitsubishi Mitomo then changed them to BPI and S Insurance Corporation. Forexample, when FGU Corp. was merged with Phil. Guaranty, they drew up a plan of merger. Theysaid this is what will happen: the authorized capital stock of FGU will be increased and stockholdersof Phil. Guaranty will surrender the shares of stock in Phil. Guaranty in return for shares of stock of FGU. It could then probably be provided in the merger how the directors will be distributed betweenthe two constituent companies and how the officers will be distributed; or regarding retrenchment,for example if there are two heads of the legal dept., one will have to go; what you will pay to thosewho will not be maintained, etc.; what will be the interim arrangement while the merger has not yet




been approved by the SEC; and if for some reason the merger is disapproved by the SEC, how willyou unwind the transaction.

The merger or consolidation will have to be approved by majority of .the directors of thecorporation involved and at least two thirds (2/3) of the stockholders. And the merger of consolidation will take effect upon the approval by the SEC. If it involves a corp. engaged in a line of business regulated by another agency like banks, insurance companies, then SEC will refer that tothe regulatory agency for comment. And upon merger or consolidation, there will be only onesurviving corporation, the existence of the separate will cease, the surviving corp. will acquire all therights, portfolio of business, properties, privileges, and powers of the constituent corporations; atthe same time it will also assume the liabilities and obligations of the absorbed corporations. Therewas a case where this Associated Bank and I think this Philman Bank which were merged. They wereprobably still using the old forms. One borrower obtained a loan and the promissory note he signedwas still in the name of the bank which was absorbed and which has ceased to exist. When he wasbeing sued, he invoked that as his defense. He said that the promissory note is in the name of theabsorbed bank. The one suing him, he said, is another bank. The Court said that is the survivingbank, and sine the two banks were merged, it is entitled to sue to recover the payment even if thepromissory note was issued in the name of the bank which was absorbed.

APPRAISAL RIGHT

It is the right of the stockholder to ask the corporation to buy him out. A dissenting

stockholder can ask the corporation to buy him out in case of an amendment which affects the rightsof the stockholders, or if you increase or extend the corporate life, you increase the authorizedcapital stock, you go into another line of business, or there's merger or consolidation, or where thecorp. sells, leases, mortgages or encumbers or disposes of all or substantially all of its assets. Andthen in the title on closed corporations, the law provides a stockholder can at any time ask the corp.to buy him out. Now, say if a stockholder does not agree with the fundamental decision approved bythe corporation which requires stockholder approval, he can ask the corp. to buy him out. Toexercise that right, he must make a demand within thirty (30) days from which the decision to whichhe does not agree was approved. If he does not make the demand within that period, that will bebarred. He'll be paid the value of his shares on the day before that action was approved. It must bethe day before because the approval will affect the price of his shares one way or the other. It mightincrease, or decrease. If within sixty (60) days from the time the action with which the stockholder

does not agree was taken, they cannot agree on the value, then that will be decided by appraisal.The corporation will name one appraiser, the stockholder will name another appraiser, and the twowill choose the third one (a tiebreaker), and the decision will be final The corporation must paywithin thirty (30) days after the award was made. But the corp. must have retained earnings;otherwise, creditors will be prejudiced. The cost of the appraisal will be borne by the corp. unless theaward is close to what the corp. offered, for then it is the stockholder who will pay because it is hisunreasonable demand that made that unnecessary expense. Once a stockholder demands theexercise of his appraisal right, he will lose all the rights of a stockholder: he can no longer vote, hecan no longer receive dividends. His only right is to receive payment. His right to be paid will cease if he withdraws his demand and the corp. agrees. Secondly, if the proposed action to which he wasobjecting was cancelled, or it was disapproved by the SEC, or if the SEC determines that he is notentitled to appraisal rights, then his rights will be restored. Likewise, if the corp. fails to pay himwithin 30 days then his rights will be restored.

NON-STOCK CORPORATIONS

For a corporation to be non-stock, it must have no shares of stock and it must not be authorized todeclare dividends.

The law mentions the different purposes for which a non-stock corp. may be organized:

1. They may be organized for charitable purposes (Suspicio de San Jose, Tahanang WalangHagdanan).

2. A religious order can incorporate as a non-stock corp. for the management of its properties.




3. Educational: many of the religious sectarian schools are organized as non-stock corporations(Ateneo de Manila, La Salle)

4. Others: Professional (bar associations, accountants, engineers), Cultural, Fraternal, Literary,Scientific, Social, Civic Service, or similar purposes ( Chambers of Commerce).

The right to vote may be limited, broadened, or denied in the articles or the by-laws, butunless the right is limited, broadened or denied, each member will be entitled to vote. A membermay vote by proxy unless that is prohibited in the by-laws. For instance, the country clubs. Usually

they will have different kinds of members. They will usually provide that whoever is the President of the Phils. And the mayor of the place are honorary members, and they can use the Philippines. Afterthe honorary members, there are the regular members, and these are those who own a proprietaryshare. But it's expensive to run and maintain a country club. So to broaden the base of people towhom they can collect monthly dues, they sometimes create these associate members. These aremembers who do not have a proprietary share but they will be allowed to make use of the playingrights of one who owns a proprietary share provided they pay also monthly dues. And usually theby-laws will provide that only those who own proprietary shares can vote. So the honorary membersand these associate members are given only playing rights and are not allowed to vote. Voting bymail or others means like by fax may be allowed. But membership is non-transferrable. If somebodyowns a proprietary share in a country club, if he dies and his share is inherited by his son, the sondoes not automatically become a member. He has to apply for membership. If he's disapproved, hecannot make use of the facilities. If he has a reputation for not getting along with others,

quarrelsome, they wouldn't want to have such person as member. The only thing he can do to thatshare is that he can sell it, mortgage it, but he cannot be a member if he's not accepted.Membership shall be terminated in the manner and for causes provided in the articles or by-laws.For example, a case of loyalty to the organization. Like for instance, a member of the Manila YachtClub, organizes a competing regatta in Subic to compete with the regatta there, so that's his loyalty.Or where a member playing golf would make a game terrible for everybody: they use their temper,they throw the club, etc. The country club could suspend him as what was done in the case of Norberto Quisumbing for picking a fight with a caddy. He sued for moral damages in the RTC, butthe RTC dismissed it because it's an intra-corporate dispute and should be filed in the SEC, which hedid. The country club filed a motion to dismiss because they said the complaint does not state acause of action because under the by-laws, if a member wants to question his suspension by theboard, he must appeal to the members. He has not exhausted the intra-corporate remedy provided

by the by-laws. So it was premature. But the SEC dismissed on the ground that it has no jurisdiction, that it should be filed in the RTC. Motion for Reconsideration in the RTC granted. Petitionfor prohibition by the club in the CA was granted. Eventually Quisumbing just sold his share.

In non-stock corporations may have more than fifteen (15) directors. You may even have 21.Ex. In alumni associations if you want to broaden representation in the board. You can provide thatonly one third (1/3) of the directors would be elected every year so the terms every three yearswould be staggered, to allow for continuity in policies. But you can provide that everybody will beelected every year. If you do not provide for such, then 1/3 will be elected every year.

CLOSE CORPORATIONS

This is a new title, made in recognition of the fact that the overwhelming majority of thecorporations are family corps. In many family corporations here, the set-up is such that the husband

is the president, the wife is the treasurer, but it is the wife who is actually running the corp. Thehusband is just the nominal figurehead. Ex. Tesoro Handicraft. A close corp. Has a technical meaningin the law. For it to be a close corp., the articles must provide that it cannot have more than 20stockholders. There should be restrictions on the transfer of the shares, like usually it will beprovided that if a stockholder wants to sell his share, he must first offer it to the other stockholders.Only if they are not willing to buy can he offer it to an outsider. Or it may also provide that if nostockholder is willing to buy the shares, then he must offer it to the corporation before offering to anoutsider.




The corporation shall not be listed in any stock exchange. The law says that the mere factthat a corp. is controlled by another corp. does not make it a close corp. The articles must containthe features mentioned in the law. But corps. Engaged in mining, oil companies, stock exchanges,banks, insurance companies, public utilities, schools, and corps. vested with public interest are notallowed to be close corps. Because they're engaged in lines of business vested with public interestand so they should be subject to regulation and close scrutiny. The law says the articles may providefor classification of shares and qualifications for owning them. For example, you have three brotherswho form a close corp. So they may provide: a) we will classify these shares into class a, class b,

class c. Only the members of the family of the first brother can own class a shares. Only members of 2nd brother can own class b shares, and class c shares can be owned only by members of the 3rd

brother; b) we will have nine (9) directors, and 3 will be elected by holders of class a shares; c) canprovide for a greater quorum or voting requirements. It can be provided that you will need threefourths (3/4) majority to approve any action by the board, any action by the stockholder. Why?Because each group would want to be protected for otherwise if the two groups combine they canget anything approved, like there would be two thirds. And so the third group would want to beprotected; d) the articles may provide that if it's the stockholders and not the board who willmanage the affairs and that there is no need for formal meetings, if the stockholders will be thedirectors, then they will be subject to the same liabilities as directors.

For restrictions for the transfer of shares to be binding on third parties, they have to appearin the articles of incorporation, in the by-laws, and must be printed at the back of the stock

certificate. So you can just put there for example, subject to the restrictions in article 10 of thearticles of incorporation. It is up to the prospective buyer to look into the articles to find out whatare those restrictions. The laws says that the stockholders may enter into pre-incorporationagreement before they incorporate, and that pre-incorporation agreement will remain binding evenafter they have incorporated because that agreement will lay down the modus vivendi after theyhave incorporated. Example, it could be agreed that each family will have 3 directors, the presidentcan come from one family, the general manager from another family, the treasurer from the 3 rd

family, and then every year they will rotate the position. They may also agree on how the shares willbe voted. Like 3 directors may be elected only by class a shares, 3 by lass b, and 3 by class cshares. And unless the by-laws provide otherwise, action of the directors without need of a meetingwill be valid if all the directors sign a written consent. Or if the stockholders have actual or impliedknowledge but do not object in writing. Or if the directors are used to taking informal action, or thedirectors all have express or implied knowledge of the action taken and none of them objects. The

law says that in close corps., there is right of pre-emption to call issuances of shares even if theshares have been issued for property or payment for past services or payment to convert debt toequity. When you have these close corporations with everybody having a veto power, like you arerequired 3/4 majority a the quorum of the board, 3/4 majority for quorum in a stockholdersmeeting, you could be paralyzed by inaction. And so the law provides for remedies for that. TheSEC can arbitrate. It can cancel or alter any provision in the articles or by-law. They can cancel forexample the greater quorum requirement. Or they may alter, prohibit or cancel any resolution oraction of the corporation, directors, stockholders, or officers. They may direct or prohibit the actiontaken by any one of those mentioned . Or it may require the purchase of the shares of anystockholder by the corporation or by other stockholders even if there are no retained earnings. Infact usually in a corporation like this, it's advisable that you put a buy-out provision. You anticipate.Everybody has a right to veto. You''ll be paralyzed inaction, and such is intolerable, then you'll have

to put there a buy-out provision, that in case you have this continuing deadlock then a stockholdercan demand to buy out the shares of another stockholder. And you can put there a formula on whatwould be the valuation, like regarding the book value of something. Suppose they cannot agree whowill buy whom, they can provide that the one who's willing to pay the higher price will be the onewho will prevail. Or dissolving the corporation, that will be an extreme case; granting other reliefs asthe circumstances may warrant, or appointing a provisional director. The law says that theprovisional director is supposed to be an impartial person, an outsider who is not a stockholder or acreditor. He will have the rights of a duly elected director. He can vote. He's the tiebreaker.




SPECIAL CORPORATIONS EDUCATIONAL CORPORATIONS

For educational corporations, where the trustees should be divided into multiples of five. Soyou should have five, ten, or fifteen trustees if they are organized as non-stock corporation. Andunless otherwise provided in the articles of incorporation or by-laws, the terms of the trusteesshould be five years, and every year only one fifth (1/5) is elected, again to provide for continuity inpolicies. But you can provide that they will all be elected instead for a term of one year, so everyyear, everybody has to be elected.

RELIGIOUS CORPORATIONS

There are three ways a religious group can provide for the administration of its properties.One is by forming a non-stock corporation, another is by forming a corporation sole, third is by theincorporation of a religious society, like a religious order may incorporate itself to manage itsproperties. Feb. 18, 2002 Rolando Sy

RELIGIOUS CORPORATION

There are three (3) ways by which a religious organization can provide for the administration of itsproperties:

1. by forming a non-stock corporation2. by corporation sole3. by religious aggregate or society

Corporation sole may constitute of one person only so the head of a religious sect wouldincorporate himself for the purpose of administering the properties of a religious sect. To incorporatewhat you will file with the SEC is an affidavit. The affidavit will state that the affiant is the head of areligious denomination or sect and would want to become a corporation sole. and the rules of hisreligion allow him to incorporate as a corporation sole and that he is charged with the administrationof its properties and in fact he will be required to submit an inventory and the manner in which thesuccessor will be chosen and the place where he will hold his office.

The Roman Catholic Archbishop of Manila is a corporation sole so if Cardinal Sin dies the newarchbishop will simply submit his appointment and he need not incorporate again because thecorporation is different from the occupant of the position. The Iglesia ni Kristo is incorporated as acorporation sole.

The court has held in Roman Catholic Apostolic Adm. of Davao, Inc. v. Land Registration

Commission that although the Bishop was a foreigner, he could register a parcel of land in his namebecause he is a mere administrator the property really belongs to the faithful and since they areFilipinos they could register the land in the administrator’s name.

Under the law if a corporation sole wants to dispose of or mortgage real property, he has toget authorization from the Regional Trial Court unless the rules of the religious sect allow him todispose of or mortgage real property and that is usually the case.

The last is the religious aggregate or religious society. It can incorporate for the purpose of managing its properties and the articles would indicate that the members constitute a religious orderor society and that at least 2/3 of the members have agreed to incorporate, that the rules allowthem to incorporate they desire to incorporate to manage their properties in the place wherelocated. The recollects are incorporated to manage their properties, they are the single biggest blocof stockholder of San Miguel Corporation.




DISSOLUTION

There are different ways to dissolve a corporation one is voluntarily and the otherinvoluntarily, under the law there are three provisions governing voluntary dissolution. The first oneis if no creditors are affected. In all the methods of voluntary dissolution, you need a resolutionapproved by a majority of directors and a resolution approved by at least 2/3 of the stockholders InSection 118, where no creditors are affected the directors and the stockholders pass the resolutiondissolving the corporation and that will be filed in the SEC for approval. In a case where a suit wasfiled and the corporation said, we have already been dissolved and they submitted a boardresolution, the SC held that it is not enough to dissolve a corporation.

The Second one, is under Section 119 where creditors are affected. Here the board and thestockholders will approve the dissolution but a petition will be filed signed by the majority of thedirectors and verified by the president, secretary or one of the directors which will indicate theclaims of creditors. That will be set for hearing and not less than thirty (30) days nor more thansixty (60) days after the entry of the issuance of the order and a copy of the order will be publishedonce a week for three consecutive weeks in a newspaper of general circulation and that will also beposted for three weeks in three public places like the bulletin board of a municipal hall, post office,the plaza and then the SEC will set that for hearing and determine w/n the corporation should bedissolved.

The third one you will just shorten the corporate life and this is the simplest and fastest wayof dissolving the corporation voluntarily like when Ford Philippines decided to close its subsidiarythey simply amended the articles of corporation that the corporation will exist until December 31,1978.

The SEC will require to get a tax clearance from the BIR and the stockholders will be requiredto sign an undertaking that they will answer for the claim of the creditors to the extent of theliquidating dividends they will receive.

Then you can have a voluntary dissolution. This could be done by filing a quo warranto caseunder rule 66 of the ROC on the ground mentioned there or a corporation can be dissolved forcertain violation of the corporation code as mentioned in the Corporation Code or PD 902-A and alsoa minority stockholder may file a petition to dissolve the corporation where the majority ismismanaging the assets of the corporation, dissipating its assets, and fraudulently disposing of itsproperties and a receiver may be appointed in an action for involuntary dissolution.

The SC held in the leading case of El Hogar Filipino, 50 Phil. 399(1927 ) the first corporationorganized under the Corporation Act, the government filed a case to dissolve that corporation andinvoked 17 grounds, the SC denied the petition, building and loans association like banks arerequired to dispose of within 5 years of any properties they foreclosed they disposed of theproperties after 6 years but they exerted their best efforts, they hired real estate brokers, theyadvertised in newspapers but they just could not find buyers, they acquired this land and building,the sc held that it is not illegal, that they leased the space that they did not need for their office,that is not illegal they are maximizing their property, that they provide a provision in the by-lawsthat stockholders can be compelled to surrender their shares, to be bought out well the court saidthat that is void but that is not sufficient ground to dissolve the corporation. In other words the courtis saying that you do not dissolve a corporation for every infraction, the infraction must be serious,because dissolution is imposing the death penalty upon the corporation.

The Court said the employees of a railroad are required to wear uniform indicating theirpositions in their nameplate, now you mean tell me if one employee did not have such a nameplateyou are going to dissolve a corporation because that is a legal requirement, it has to be a seriousviolation.

But in one case, the SC dissolved a corporation which was engaging in banking withoutauthorization from the monetary board, it was accepting deposits from the public, the courtconsidered that as a serious violation.




When a minority stockholder files a case and asks to dissolve the corporation, the court saidthat that is a harsh remedy unless the situation is really beyond redemption you should not imposethat remedy.

The corporation has three years after it should have been dissolved for the purpose of winding up its affairs. The SEC has said the three year period should be counted from the time thedissolution was approved by the SEC even if the directors and stockholders pass a resolutiondissolving the corporation that is not effective until it has been approved by the SEC.

For three years , the corporation will continue to exist it will no longer be a going concern butonly for the purpose of winding up that is why the SC has said that the corporation cannot forexample renew its contract of lease because it is no longer a going concern.

During the three year period, it should devote its time prosecuting and defending law suits,winding up its affairs disposing its properties so they can be used to pay off its creditors and todistribute balance to the stockholders.

There are two ways of providing for the winding up of its affairs under the law. This isvoluntary either the directors themselves may take care of winding up the affairs of the corporationor they may appoint a trustee like when Ford Philippines decided to close its subsidiary here one of the last acts of the BOD was to pass a resolution appointing Ricardo Romulo as trustee vesting uponhim legal title to all the assets of Ford Philippines to be used to pay off its creditors and to disposeof its properties of Ford Philippines. to distribute the balance as liquidating dividends.

Supposed to be, this was the rule before if any case is not finished within the three yearperiod, the case will be abated whether the corporation is plaintiff or whether it is defendant butrecent jurisprudence has rendered that obsolete. That rule is applicable if it is the directors windingup the corporation. if the corporation is under receivership, it is the receiver who may wind up theaffair of the corporation. But if it is the trustee, that will not apply, the trust will subsist until theaffairs of the corporation are wound up and until any creditor can sue the trustee provided that theapplicable prescriptive period has not yet lapsed. So if his cause of action is based on a writtencontract he has ten (10) years to sue the trustee.

The Court has said that the remedy there if the three years will end and there are stillpending cases is for the board to appoint a trustee but more recent jurisprudence has fashioned apracticable solution to that the lawyer handling the cases may be considered as trustee of thecorporation and therefore the cases will not be abated but should continue.

In one case, the SC held that the directors may be considered as trustees after three years sothat they can continue to wind up the affairs of the corporation and in effect the three year periodhas become ineffectual.

FOREIGN CORPORATIONS

Section 123 defines what is a foreign corporation, one formed, organized, or existing underany laws other than those of the Philippines and whose laws allow Filipino citizens and corporationsto do business in its own country or state. Note the element of reciprocity is included in thedefinition of a foreign corporation as an ingredient of a foreign corporation.

We said that a corporation is an artificial person, it has a juridical personality by legal fiction.So it has personality because of the law under which it was incorporated and since it exists onlybecause of the law under which it was incorporated, if it wishes to participate in the economicprocesses of another country, it must get permission from that other country also and it will getpermission by getting a license to do business and our code now requires reciprocity so normally likeif it is an American corporation it will submit a certification from the Secretary of State of thatparticular state under which it was incorporated like New York, California because the Secretary of State is the custodian of the laws and he will certify that under the laws of New York, Filipinos areallowed to do business in New York.

There are different ways by which a foreign corporation can establish its presence here. oneis by setting a branch office, another is by setting up subsidiary, for tax purposes there are no trade-




offs because a branch and a subsidiary are taxed in the same way but a subsidiary may be beneficialin the sense that it limits the exposure of the mother company to its subscription instead of riskingall the assets of the mother company. Another is the regional headquarters which does not dobusiness, it is just a coordinating and communication center. Foreign companies are setting upregional headquarters here because it has subsidiaries in Southeast Asia or licensees and franchiseesand its function is to supervise and coordinate with those subsidiaries or franchisees so normally aregional headquarters would have a one room office here probably with country manager andsecretary, a telephone, computer and fax machine.

If a foreign corporation wants to do business here it has to appoint a resident agent who maybe a corporation, partnership or individual, if individual he must be of good moral character, soundfinancial standing, although his only function is to receive summonses in behalf of the corporation.

If a foreign corporation is being sued, the summons must be served on the resident agent.The corporation is also required to file with the SEC a power of attorney or resolution which saysthat if it has no resident agent it agrees that the summons be served with the SEC which willforward the summons and the complaint to the foreign corporation. If no resident agent and anyofficer who will be in the Philippines may be served with summons.

Section 133 says that if the foreign corporation will be doing business without a license itcannot sue or intervene in any action in court or administrative agency.

The SC had said that if a foreign corporation is doing business here without a license, a

contract it entered into is valid, it is not rendered void so the court said the legislature made a judgment call that imposing penal sanctions and denying access to the courts are sufficient penaltiesfor doing business without a license. The legislature did not provide that the contract it entered intois void. Although the foreign corporation did not have license to do business when it entered into inthat contract, it could sue if later on it acquired a license to do business.

If a foreign corporation is not doing business it can sue because it is not required to get alicense but it can not be sued because it has no presence here it will violate due process.

In the farm machinery case, the court made an obiter dictum that a foreign corporation notdoing business can be sued, the reasoning of Justice Makasiar, if the foreign corporation not doingbusiness can sue, then it should also be allowed to be sued is wrong because that will violate dueprocess because it has no presence here. Our courts cannot acquire jurisdiction over it. The remedyis to make the action an action quasi in rem you attach its property serve it summons.

If the corporation is doing business whether or not it is licensed it can be sued, the law saysthat if it is doing business but it has no license it cannot sue.

If a foreign corporation is suing it must alleged either that it is not doing business or it isdoing business but it is licensed because a plaintiff must indicate in the complaint that it has thelegal capacity to sue. In the case of a foreign corporation it must show it is either not doing businessor it doing business and it is licensed.

However, in the Merrill Lynch case, the court said that if a foreign corporation is doingbusiness without a license, it the other party was aware of it, it can not claim that the plaintiff cannot sue, he will be in estoppel having benefited from the contract. Except in two cases, the SChas followed this most of the subsequent cases.

When is a foreign corporation doing business?

American jurisprudence makes a distinction. When you talk of foreign corporation doingbusiness you will ask for what purpose are we trying to determine whether or not a foreigncorporation is doing business.

Is it for the purpose of determining whether or not it can be sued? If that is the purpose, todetermine its amenability to the jurisdiction of the courts they apply a liberal interpretation, theUSSC says minimal contact that would satisfy the requirements of due process is sufficient. In factthe different states have these long-arm statutes by which state the instances when a foreigncorporation may be sued. There is one state Georgia has this provision that if a foreign corporation




commits a tort, it will be considered to be doing business and can be sued. The USSC has said timeshave changed now the means of communications are very rapid so that if you have a representativehere he can quickly communicate with the home office so it can take steps to defend itself.

On the other hand, if you are talking of determining whether a foreign corporation is doingbusiness for the purpose of prosecuting officers criminally, that is penal, it must be strictlyconstrued.

In the middle is the question of whether or not the foreign corporation is doing business and

therefore is taxable as a resident foreign corporation.So many decisions have been handed down to determine whether the foreign corporations

are doing business but there are three principal guidelines.

1. Transactions must not be isolated. Transactions must be habitual like in the Mentholatumcase. In the Amsterdam case where a foreign shipping company it has a vessel which roamaround going to places where they can find cargo and they just pass by here in 1963, the courtsaid that it is an isolated transaction and not doing business here.

In one case, a foreign corporation bought copra, seller failed to deliver and they negotiatedand they agreed to give him more time still he failed to deliver then they negotiated again and hewas given more time still he failed to deliver and finally the foreign corporation filed suit, the sellerclaimed doing business without a license, the SC said no that is an isolated transaction. The betterrule(according to Jack) is that that is buying that is not doing business you do not make profit from

buying that is settled in American jurisprudence. You make profit from selling not from buying.

In the Hang lung bank case, the SC said that it is not doing business here so it can sue.

However, an isolated transaction which indicates an intention to habitually do business mayconstitute doing business. If the foreign corporation leased space for example at the Luneta Hoteland they sent their officers here. There was indication of their intention to do business.

2. It must involve a substantial portion of the business of the primary purpose of the

corporation. In one case, there was a foreign shipping company which pass by here and hired aFilipino a cook in one of its vessels, the SC held that that is not doing business hiring a cook isnot a substantial portion of its business its business is transporting passengers and cargo.

3. If the contract is consummated abroad then the foreign corporation is not doing

business here. In the case of Columbia Pictures vs. CA, Columbia Pictures filed a case because

its films were being pirated here and it was argued that it was doing business without a license,the SC said no because the contracts are consummated abroad. In the Avon Plc case, the Courtsaid that a foreign insurance company which accepted reinsurance is not doing business herebecause the contract is executed abroad.

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