mercantile law} corpo} review notes (incomplete)} made 1997 (est)} by up} 54 pages

8/12/2019 Mercantile Law} Corpo} Review Notes (Incomplete)} Made 1997 (Est)} by UP} 54 Pages

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Chapter VIIIDUTIES OF DIRECTORS AND CONTROLLING STOCKHOLDERS

I. Functions of Directors

Directors act as a body in the formulation of all corporate

powers and exercise all powers of management.Directors are not trustees but owe a degree of care, and ahigh degree of fidelity and loyalty to the corporation.

Directors are not employees of the corporation; they neednot spend their full time on corporate affairs.

Directors owe their duties to the corporation as a wholerather than to individual shareholders or classes ofshareholders.

Threefold Duty to the Corporation

!. To be Diligent". To be #oyal$. To be %bedient

A. Duty of Diligence

Directors are re&uired to exercise diligence which anordinary prudent person prompted by self'interest wouldexercise under similar circumstances in his personalbusiness affairs.

The ()*I+ ** -)D / +T 0)# is the standardapplied in determining whether directors have observed

the re&uired degree of diligence in ma1ing decisions forthe corporation.

)nder the (-0, a director has met the re&uired standard ofdiligence if

!. he is sufficiently informed with respect to the sub2ect ofhis 2udgment 31nowledge4;". he is not interested in the sub2ect of his business

2udgment 3independence4; and$. he rationally believes that his business 2udgment is inthe best interests of the corporation 3good faith4.

(-0 is applicable only when decisions or 2udgments aremade.

In cases of failure to participate in the decisional process,the (-0 is inapplicable and the director5s conduct isevaluated under the 6prudent man7 standard.

The plaintiff in the case involving a failure to direct mustshoe that the failure to direct caused the in2ury complainedof.

8hat are re&uired and expected of directors9

!. To possess at least ordinary 1nowledge and s1ill toenable them to ma1e sound business decisions.". To attend directors5 meetings with reasonableregularity.$. To exercise reasonable care in the over'allmanagement of the corporation.:. To 1eep themselves sufficiently informed about thegeneral condition of the business.Directors5 #iability

$!. Directors or trustees who willfully and knowingly votefor or assent to patently unlawful acts of the corporation orwho are guilty of gross negligence or bad faith in directingthe affairs of the corporation or acquire any personal orpecuniary interest in conflict with their duty as suchdirectors or trustees shall be liable jointly and severally forall damages resulting therefrom suffered by thecorporation, its stockholders or members and otherpersons.

Causes of Directors5 #iability!.


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unbiased 2udgment, is reasonable exercised by them.Courts will not interfere with the internal management ofthe corporation and therefore will not substitute its

2udgment for that of the officers and directors. It is alsoclearly established that mista1es or errors in the exerciseof honest business 2udgment do not sub2ect the officersand directors to liability for negligence in the discharge oftheir appointed duties.

0e&uirements for (-0 to free the directors of any liabilityfor any loss or expenditures incurred resulting from thedecision

!. Decision made must have a reasonable basis;". Directors must have acted in good faith;

a. Decision made must be the result of the directors5independent 2udgment;b. Decision made must be uninfluenced by anyconsideration other than what the directors honestlybelieved to be for the best interests of the company.

/%+T #I(>+%, T. >#. @. (>C%#%D'/)0CI>/I##I+ C%., I+C.

(acolod'/urcia /illing Co., Inc. cannot deny its obligationto increase the participation of their planters as embodiedin the resolution duly adopted by its (oard of Directorswhen the corporation extended its milling contract with theplanters. The court said that the act in &uestion is in directand immediate furtherance of the corporation5s business,fairly incident to the express powers and reasonablenecessary to their exercise. The court also reiterated therule that &uestions of policy or of management are leftsolely to the honest decision of officers and directors of acorporation, and the court is without authority to substituteits 2udgment with that of the (oard of Directors; the boardis the business manager of the corporation, and so long asit acts in good faith its orders are nor reviewable by thecourts.

*T I+( 0 @. @ #>*C%

The receiver of the corporation was allowed to recover thepurchase price of its own stoc1 from board members whowere allowed to resign so they could sell their stoc1s to thecorporation and also the dividends declared and paid when

the corporation did not have sufficient retained earnings tobac1 up such dividend declaration. The court &uoted the0uling Case #aw on the matter

6 eneral Duty to xercise 0easonable Care. ' Thedirectors of a corporation are duty bound to care for itsproperty and manage its affairs in good faith, and for aviolation of these duties resulting in waste of its assets orin2ury to the property they are liable to account the sameas other trustees. >nd there can be no doubt that if they do

acts clearly beyond their power, whereby loss ensues tothe corporation, or dispose of its property or pay away itsmoney without authority, they will be re&uired to ma1egood the loss out of their private estates.7

68ant of


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they had employed to loo1 after these legal and technicalmatters.

Alaintiff as a director himself has a duty to inform his co'directors of the conse&uence of non'distribution ofearnings. This he failed to do and he cannot burden theother directors of reimbursing him the surtax he paid.

F%*T 0 @. (%8 +

>n action was brought by minority stoc1holders against(owen for recovery of alleged losses claimed to havebeen sustained by the company in conse&uence of(owen5s breach of his fiduciary as its president anddirector.

The losses being claimed are for the failure of (owen toclaim the benefits from the fidelity bonds against loss ofmoney or other personal property through improperconduct of Cushing, the treasurer and manager of the

company.

Cushing, during his incumbency as treasurer andmanager, had executed a lease of a roller s1ating rin1owned by the corporation to him. The former president ofthe corporation 1new the transaction. 8hen (owen too1over as president, he informed the other directors that thetransaction was illegal but it was only when the otherdirectors became dissatisfied with (owen that theypursued their claims on the illegal contracts.

(owen is not liable. is failure to claim proceeds from thefidelity bonds was based on the belief that Cushing5s actswere not fraudulent as it was sanctioned by the otherdirectors and therefore, would not come under theprotection of the bond for fraud.

(owen is also not liable for the sums received by Cushingon the leases from the time he discovered its existence.e did not profit personally through Cushing5s transactions.

There is no absolute prohibition of dealings between acorporation and its officer, provided safeguards areobserved to insure that those acting for the corporation arethemselves disinterested and the utmost good faith isexercised.

#%8 ## %IT ? C%. @. D TI T. >#.

The directors cannot be held liable for the acts of thecorporation5s manager done without the 1nowledge of saiddirectors.

ermann leased the elevator bins for the storage of oats tothe plaintiff without the 1nowledge of the directors. e

li1ewise sold the oats by himself. The directors wereunaware of ermann5s transactions.

The mere fact that a person is a director of a corporationdoes not necessarily render him liable for the torts of thecorporation or its agents.

For a director to be held liable for the acts of corporateofficers, the following conditions must be present!. The director must have participated in the actcomplained of;". e must be guilty of lac1 of ordinary and reasonablesupervision; and$. e must be guilty of lac1 of ordinary care in theselection of such officer.

(>T * @. D0 ** 0

The receiver of a ban1 see1s to recover from the directorsand the president the losses sustained by the ban1 throughthe fraud committed by one of the ban1 employees duringthe incumbency of said officers.

The directors cannot be held liable. They relied on theexaminations conducted annually by the governmentexaminer and they were also encouraged in their beliefthat all was well with the ban1 by the president himself.Directors, in relying on statements made by technicalpeople, cannot be said to be negligent in performing theirfunctions.

The president, however, should be held liable. is daily

presence at the ban1 and the various warnings given himby subordinates should have put him on guard and wouldhave led to the earlier discovery of the fraud and theprevention of the same in the future. The fraud wasperpetuated under his very nose until the ban1 wasinsolvent.

B. Fiduciary Duties !onflict of "nterests

> director is a fiduciary of the corporation. >s such hecannot put his own interest above that of the corporation. Ifhe does, he will be held liable for his disloyalty.

The following are among the situations where possibleconflict of interests may arise

ntering into a contract with the corporation. Fixing the salaries of directors and officers. )sing inside information. *ei=ing corporate opportunity. *erving as director of two or more corporations.

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!. The self-dealing director

#ec. $%. Dealings of directors, trustees or officers with thecorporation. & A contract of the corporation with one ormore of its directors or trustees or officers is voidable, atthe option of such corporation, unless all the followingconditions are present'!. (hat the presence of such director or trustee in theboard meeting in which the contract was approved was notnecessary to constitute a quorum for such meeting". (hat the vote of such director or trustee was notnecessary for the approval of the contract$. (hat the contract is fair and reasonable under thecircumstances and:. (hat in the case of an officer, the contract with theofficer has been previously authori)ed by the board ofdirectors.*here any of the first two conditions setforth in the preceding paragraph is absent, in the case of acontract with a director or trustee, such contract may beratified by a vote of the stockholders representing at leasttwo&thirds of the outstanding capital stock or of two&thirdsof the members in a meeting called for the purpose'+rovided, (hat full disclosure of the adverse interest of thedirectors or trustees involved is made at such meeting'+rovided, however, (hat the contract is fair and reasonableunder the circumstances.

/ >D @. .C. /CC%##%) T. >#.

/ead, one of the directors of Ahilippine ngineering andConstruction Company, sought to recover his salary, sharein profits and the value of the personal property he left withthe corporation which were sold by the defendants.

8hen /ead went to China to wor1 as an engineer, theother four directors agreed to sell the assets of thecorporation to /cCullough, another director of thecorporation.

The sale, which was approved by a ma2ority of thedirectors of the corporation, was held valid and binding. >tthe time the sale was made, there was no hope that theenterprise would be profitable. >lthough /cCullough waspresent during the meeting when the sale was approved,his presence was not necessary to constitute a &uorum

and li1ewise was not necessary to approve the sale. Thesale was approved by the three other directors whoconstituted a ma2ority and would therefore be binding on/ead.

AICC>0D @. *A 00B C%0A%0>TI%+ T. >#.

Cowdin, a director of *perry Corporation, negotiated onbehalf of the corporation with Field lore and Company.

The proceeds of the negotiation went to *tandard CapitalCompany, another corporation where Cowdin was also adirector. The other directors of *perry Corporationdemanded from Cowdin and *CC ?! $,EEE. The disputeled to fruitful negotiations and ended in *perry accepting?!E!,:E .GE from Cowdin and *CC and releasing Cowdinfrom any liability. /inority stoc1holders filed a derivativesuit against the directors claiming that the settlement wasattended by bad faith and that the release was not the actor deed of the corporation the execution of which wasnever authori=ed by the board of directors. The minoritystoc1holders claim was based on the fact that two of thedirectors who approved the settlement were notindependent in that they were also stoc1holders of *CC atthe time the settlement was approved.

The court held that the charter of *perry specificallyprovides that even interested directors may be counted forpurposes of &uorum. *uch provision is valid and does notoffend any public policy with regards to the internal

governance of the corporation.

2. Fixing compensation of directors and officers

%@. %F T A I#IAAI+ I*#>+D* @. # % >0FI#IAI+%

The provision in the by'laws of l ogar Filipinodistributing GH of the net income of the preceding year tothe directors in proportion to their attendance in directors5meetings cannot be made the basis of the revocation oftheir corporate franchise.

*aid provision led to highly beneficial results not only insecuring a constant attendance on the part of themembership, but in obtaining their intelligent attention tothe affairs of the association.

The power to fix the compensation of directors, if any, isleft to the corporation, to be determined in its by'laws. If amista1e has been made, or the rule adopted in the by'lawshas been found to wor1 harmful results, the remedy is inthe hands of the stoc1holders who have the power at anylawful meeting to change the rule.

(>00 T% @. #> A0 @I*%0> FI#IAI+> >n amendment to the by'laws of a loan and buildingassociation which provides for the payment of life pensionto the persons named therein for past services they havegratuitously rendered to the association cannot be held tobe in consonance with the power granted to corporationsto grant salaries to their board of directors. The authorityconferred upon corporations refers only to providingcompensation for the future services of directors, officers,

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and employees thereof after the adoption of the by'law orother provision in relation thereto, and cannot in any sensebe held to authori=e the giving of continuouscompensation to particular directors after theiremployment has terminated for past services renderedgratuitously by them to the corporation.

C +T0># C%%A 0>TI@ C >+ , I+C. @. TI( ,T. >#.

This is an action instituted by the corporation against oneof its former directors for advances drawn from thecorporation by virtue of resolutions adopted by the boardof directors allowing such directors to claim travelexpenses and other allowances. The corporation claimsthat the board of directors has no right to determine theremuneration of directors and that the resolutions adoptedby the board of directors are void. The fixing of thecompensation of board of directors is lodged with the

members of the cooperative as provided for in its by' laws.

ven without the reservation in the by'laws, directors arenot entitled to compensation.

F% #*%+ @. >/ 0IC>+ 8%%# + C%.

> retirement plan that provides a very large pension to anofficer is beyond the reach of any scrutiny from the courts.It was done on the exercise of the directors5 business

2udgment and the court will not interfere with suchbusiness 2udgment save on showing of a clear abuse ofdiscretion as to amount to legal waste.

< 0(* @. C>#IF%0+I> >*T 0+ >I08>B*

*toc1holders are &uestioning the stoc1 option plan and theprofit sharing plan adopted by the board of directors infavor of its executives. (oth plans were approved by eightmembers of the board of directors five of whom werebeneficiaries under the plans. *aid plans were ratified byma2ority of the stoc1holders.

The court held that as to the stoc1 option plan, the samecould not be upheld in that there was no sufficient showingthat the contemplated benefit of the plan will inure to the

corporation as there was no safeguards that thebeneficiaries will remain in the employ of the corporation.*toc1 option plans adopted by the exercise of properbusiness 2udgment and in good faith will not be interferedwith by the courts if the provisions of the plan, or the factsand circumstances surrounding it, are such as toreasonably insure that the contemplated benefit will inureto the corporation.

The profit sharing plan, on the other hand, was held validbecause it was held reasonable and it was ratified by thestoc1holders pending the action.

$. Using inside information

The fiduciary position of insiders, directors and officersprohibits them from using confidential information relatingto the business of the corporation to benefit themselves orany competitor corporation in which they may have a moresubstantial interest.

#ec $ . Directors, officers and principal stockholders. & -a///. For the purpose of preventing the unfair use ofinformation which may have been obtained by suchbeneficial owner, director, or officer by reason of hisrelationship to the issuer, any profit reali)ed by him fromany purchase and sale, or any sale and purchase, of anyequity security of such issuer within any period of less thansi/ months, unless such security was acquired in good faithin connection with a debt previously contracted, shall inureto and be recoverable by the issuer, irrespective of anyintention of holding the security purchased or of notrepurchasing the security sold for a period e/ceeding si/months. #uit to recover such profit may be instituted in anycourt of competent jurisdiction by the issuer, or by theowner of any security of the issuer in the name and inbehalf of the issuer if the issuer shall fail or refuse to bringsuit within si/ty days after request or shall fail diligently toprosecute the same thereafter but no such suit shall bebrought more than two years after the date such profit wasreali)ed. (his subsection shall not be construed to coverany transaction where such beneficial owner was not suchboth at the time of the purchase and sale, or the sale andpurchase, of the security involved, or any transaction or

transactions which the !ommission by rules andregulations may e/empt as not comprehended within thepurpose of this subsection.

#ec $0. "nsider1s duty to disclose when trading. &3a4 "t shall be unlawful for an insider to sell or buy asecurity of the issuer if he knows a fact of specialsignificance with respect to the issuer of the security that isnot generally available, unless -2 the insider proves thatthe fact is generally available or -% if the other party to thetransaction - or his agent is identified, -a the insiderproves that the other party knows it, or -b that the otherparty knows it from the insider or otherwise.

3b4 3"nsider4 means -2 the issuer, -% a director orofficer of, or a person controlling, controlled by, or undercommon control with, the issuer, -$ a person whoserelationship with the issuer gives or gave him access to afact of special significance about the issuer or the securitywhich is not generally available, or -5 a person who learnssuch a fact from any of the foregoing insiders as defined inthis subsection, with the knowledge that the person fromwhom he learns the fact is such an insider.3c4A fact is 3of special significance4 if -a in addition tobeing material it would be likely, on being made generally

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available, to affect the market price of a security to asignificant e/tent, or -b a reasonable person wouldconsider it especially important under the circumstances indetermining his course of action in the light of such factorsas the degree of its specificity, the e/tent of its differencefrom information generally available previously, and itsnature and reliability.

3d4 (his section shall apply to an insider as defined insubsection -b -$ hereof only to the e/tent that he knows afact of special significance by virtue of his being an insider.

The liability of a director or officer guilty of using insideinformation is to the corporation and not to any individualstoc1holder.

*T0%+ @. 0 AID

The director and controlling stoc1holder who purchasedthe shares of another stoc1holder through an agent washeld to be guilty of concealing the impending purchase ofthe friar lands they own by the government, a significantfact which would affect the price of the shares. >lthoughordinarily, the relationship between directors andstoc1holders of a corporation is not of a fiduciary characteras to oblige the director to disclose to a stoc1holder thegeneral 1nowledge which he may possess regarding thevalue of the shares of the company before he purchasesany form a shareholder, there are cases when such dutyand obligation upon the director is present. (eing the chiefnegotiator for the sale of the lands, the director was theonly person who 1new of the advantages and theimpending increase in the value of the shares such that heis precluded from ac&uiring stoc1s from other shareholders

without first informing them of the pertinent facts affectingthe value of the shares being bought.

It is fraudulent for a stoc1holder to buy from a shareholderwithout disclosing his identity.

T>B#%0 @. 80I T, T. >#.

>ction to recover damages for fraud alleged to have beencommitted by buying the shares at less than their actualvalue. The stoc1s in &uestion had a boo1 value which isless than its actual value because of investment insecurities which are carried in the boo1s at cost but whichhave increased in value such that a sale of suchmar1etable securities would enable the corporation to gaina si=able profit. The defendants who 1new all along thereal situation employed a scheme to buy out otherstoc1holders so that when the investment in the *hellstoc1 are eventually sold, they would be the ones tobenefit from the profits derived. Court ruled for theplaintiffs.

eneral 0ule

6ajority 7ule J Directors and officers owe no fiduciaryduty at all to stoc1holders, but they may deal with them atarm5s length. +o duty of disclosure of facts 1nown to thedirector or officer exists. +ondisclosure cannot constituteconstructive fraud.

6inority 7ule J 0ecogni=es the director5s obligation to thestoc1holders individually as well as collectively, andrefuses to permit him to profit at the latter5s expense bythe use of information obtained as a result of his officialposition and duties.

3#pecial Facts4 Doctrine J Conceding the absence of afiduciary relationship in the ordinary case, courtsnevertheless hold that where special circumstances orfacts are present which ma1e it ine&uitable for the directorto withhold information from the stoc1holder, the duty todisclose arises, and concealment is fraud.

The 6special facts7 doctrine was applied to the case.

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#ec. $2. 9iability of directors, trustees or officers. & *hen adirector, trustee or officer attempts to acquire or acquires,in violation of his duty, any interest adverse to thecorporation in respect of any matter which has beenreposed in him in confidence, as to which equity imposes adisability upon him to deal in his own behalf, he shall beliable as a trustee for the corporation and must account forthe rpofits which otherwise would have accrued to thecorporation.

>n officer is similarly liable for sei=ing corporateopportunity because he is considered to have morechances than a board member to do so, since he is usuallya full'time corporate agent, with great opportunity and withauthority to ma1e decisions on the operational level.

The main problem in most cases would be whether or notthe corporate opportunity sei=ed was one which properlybelonged to the corporation.

*I+ 0 @ C>0#I*#There was an unrecoverable dis1 error

ciaries. There was a business opportunity for thecorporation but the controlling interests successfullyprevented the corporations from engaging in the businessopportunity. There was no allegation, however, of thespecific securities such that the liability of the directorscannot be ascertained.

Directorship in two competing corporations does not in andof itself constitute a wrong. It is only when a businessopportunity arises which places the director in a position ofserving two masters, and when, dominated by one, heneglects his duty to the other that a wrong has been done.

8here a fiduciary is engaged in a business in competitionwith his corporation, he cannot actively use his positionand power over his corporation so as to prevent thecorporation from see1ing certain business in competitionwith himself.

I0@I+ T0)*T C%. @. D )T*C , T. >#.

Directors cannot appropriate for themselves the right ofthe corporation to ac&uire interest in another corporation.The allegation of the directors that the corporation waswithout funds to meet the investment re&uirement cannotbe a valid reason for them to individually purchase thestoc1s allocated for the corporation. >s directors, theyshould have exerted effort to raise the necessary funds forthe corporation in order to meet its commitment to investin the other corporation that would give patent rightsbeneficial to its operations.

G. Interlocking directors

#ec. $$. !ontracts between corporations with interlockingdirectors. & :/cept in cases of fraud, and provided thecontract is fair and reasonable under the circumstances, a

contract between two or more corporations havinginterlocking directors shall not be invalidated on thatground alone +rovided, (hat if the interest of theinterlocking director in one corporation is substantial andhis interest in the other corporation or corporations ismerely nominal, he shall be subject to the provisions of thepreceding section insofar as the latter corporation orcorporations are concerned.#tockholdings e/ceeding twenty -%0; percent of theoutstanding capital stock shall be considered substantialfor the purpose of interlocking directors.

#%( 8%%# + C%. @. )TIC> >* >+D # CT0ICC%.

lobe 8oolen Co. cannot exact performance of thecontract obtained through the influence of /r. /aynard, itspresident, over the )tica as and lectric Co. of which /r./aynard is also a director. The contract that would grantlobe with free supply of electricity, although approved bythe board of directors of )tica as without /r. /aynardcasting his vote, is unfair to )tica as.

> dominating influence may be exerted in other ways thanby a vote.

!. !lose !orporations

8hen stoc1holders of a close corporation choose not tohave a board of directors and instead manage thecorporate affairs themselves, the law treats them asdirectors.

#ec. /// (he articles ofincorporation of a close corporation may provide that thebusiness of the corporation shall be managed by thestockholders of the corporation rather than by a board ofdirectors. #o long as this provision continues in effect'2. ?o meeting of stockholders need be called to electdirectors%. @nless the conte/t clearly requires otherwise, thestockholders of the corporation shall be deemed to bedirectors for the purpose of applying the provisions of this!ode and$. (he stockholders of the corporation shall be subjectto all liabilities of directors. ///////////////

#ec. 200. Agreements by stockholders. //////

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. (o the e/tent that the stockholders are actively engagedin the management or operations of the business andaffairs of a close corporation, the stockholders shall be heldto strict fiduciary duties to each other and amongthemselves. #aid stockholders shall be personally liable forcorporate torts unless the corporation has obtainedreasonably adequate liability insurance.

D. Duty of !ontrolling "nterest

> ma2ority stoc1holder is sub2ect to the duty of good faithwhen he acts by voting at a stoc1holders5 meeting withrespect to a matter in which he has a personal interest.

Controlling stoc1holders may dispose of their shares atany time and at such price as they choose provided theydo not pervert these prerogatives by transferring office topersons who are 1nown as intending to raid the corporatetreasury or otherwise improperly benefit themselves.

I+*)0>+* >0 * C%0A%0>TI%+ @. +%0T 0+FI*C># C%0A%0>TI%+

The transfer of the shares of the stoc1holders owningcontrolling interest in the corporation to outsiders whosemain purpose was to divest the corporation of its assetsleaving its mere shell to the remaining stoc1holdersconstitute fraud. *uch controlling stoc1holders would beliable to the corporation and the other stoc1holders.

. Duty to !reditors

Directors cannot be personally liable to corporate creditorsfor general inefficient management of a solventcorporation.

8hen the corporation has become insolvent, the directorsare deemed trustees of the creditors and should managethe assets of the corporation with strict regard to thecreditors5 interests.

CHAPTER IXTHE RIGHT OF INSPECTION

#ec. =5 Books to be kept stock transfer agent & :verycorporation shall, at its principal office, keep and carefullypreserved a record of all business transactions, andminutes of all meetings of stockholders -# # or members,or of the board of directors -BCD or trustees, in which shallbe set forth in detail the time and place of holding themeeting, how authori)ed, the notice given, whether themeeting was regular or special, if special its object, thosepresent and absent, and every act done or ordered done atthe meeting. @pon demand of any director, trustee,

stockholder or member, the time when any director, trustee,stockholder or member entered or left the meeting must benoted in the minutes and on similar demand, the yeas andnays must be taken on any motion or proposition, and arecord thereof carefully made. (he protest of any director,trustee, stockholder or member on any action or proposedaction must be recorded in full on his demand.(he records of all business transactions of the corp and theminutes of any meeting shall be open to the inspection ofany director, trustee, stockholder or member of the corp atreasonable hours on business days and he may demand, inwriting, for a copy of e/cerpts from said records or minutes,at his e/pense.Any officer or agent of the corp who shall refuse to allowany director, trustee, stockholder or member of the corp toe/amine and corp e/cerpts from its records or minutes, inaccordance with the provisions of the !ode, shall be liableto such director, trustee, stockholder or member fordamages, and in addition, shall be guilty of an offensewhich shall be punishable under #ection 255 of the !ode'+rovided, (hat if such refusal is pursuant to a resolution ororder of the BCD or trustees, the liability under this sectionfor such action shall be imposed upon the directors ortrustees who voted for such refusal' +rovided further, (hatit shall be a defense to any action under this section thatthe person demanding to e/amine and copy e/cerpts fromthe corp1s records and minutes has improperly used anyinfo secured through any prior e/amination of the recordsor minutes of such corp or of any other corp, or was notacting in good faith or for a legitimate purpose in makinghis demand.#tock corporations must also keep a book to be known asthe 3stock and transfer book1, in which must be kept arecord of all stocks in the names of the # # alphabeticallyarranged the installments paid and unpaid on all stock forwhich subscription has been made, and the date of paymentof nay installment a statement of every alienation, sale ortransfer of stock made, the date thereof, and by and towhom made and such other entries as the by&laws mayprescribe. (he stock and transfer book shall be kept in theprincipal office of the corp or in the office of the stocktransfer agent and shall be open for inspection of anydirector or stockholder of the corp at reasonable hours onbusiness days. ?o stock transfer agent or one engaged principally in thebusiness of registering transfer of stocks in behalf of astock corp shall be allowed to operate in the +hils. @nlesshe secures a license from the #:! and pays a fee as may befi/ed by the !ommission, which shall be renewed annually'+rovided, (hat a stock corp is not precluded formperforming or making transfer of its own stocks, in whichall the rules and regulations imposed on stock transferagents e/cept the payment of the license fee herein,provided, shall be applicable.

#ec. = 7ight to financial statements & *ithin 20 days fromreceipt of a written request of any # or member, the corpshall furnish him its most recent financial statement, whichshall include a balance sheet as of the end of the lastta/able year and a profit and loss statement for said ta/ableyear, showing in reasonable detail its assets and liabilitiesand the results of its operations.At the regular meeting of # # or members, the BCD ortrustees shall present to such # # or members a financial

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report of the operations of the corp for the preceding year,which shall include financial statements, duly signed andcertified by an independent certified public accountant.owever, if the paid&up capital of the corp is less than

+ 0,000 the financial statements may be certified underoath by the treasurer or any responsible officer of the corp.

(alance must be sought bet interests of individual * andthose of corp

The (y'#aws may impose limitations on the right ofinspection provided they are

!4 0easonable >+D"4 +ot inconsistent with law

> corp may regulate time and manner of the inspection ofboo1s but it cannot ma1e a by'law which gives thedirectors absolute discretion to allow or disallow inspection

A 9imitation as to time and placeCan exercise right only at reasonable hours on businessdays. (%D cannot limit inspection to merely a few days ayear chosen by (%D. #aw means reasonable hours onbusiness days throughout the year.

(y'law cannot prescribe that inspection shall be exercisedonly upon authority of Aresident previously obtained

Alace of inspection ' principal office of corp. * * cannotdemand that he be allowed to ta1e corporate boo1s out ofthe corp5s principal office of inspection'Inspection should be made in such a manner as not toimpede the efficient operations of corp

(4 +urpose

*toc1holder5s purpose for inspection is material*ec : presumes purpose to be proper

(urden of proving that the purpose is improper or illegal ison corp

Aurpose legitimate when it5s 0/>+ to the interests ofthe stoc1holders

Fact that the * is a * in a competitor corp or is onunfriendly terms with its officer is not a 2ustifiable ground todeny access, if purpose is proper

8here * 5s motive is clearly inimical to corp5s interest andthe info is desired for the purpose of crippling the corp forthe benefit of a business rival, right to inspect may bedenied

Inspection right may be exercised by the director, trustee,stoc1holder, member personally or through an agent 3otherperson who can help him understand and interpret therecords

For both directors and * *, same limitations but exerciseof right has diff basis director ' due to corp duties

8hether the * of a parent corp has right to examine theboo1s of its subsidiary depends on 8%+ the two havebeen operated as legally separate and independententities

If so, no right of inspectionIf they are practically one and the same insofar asmgnt and control, and inspection is demandedbecause of gross mismanagement of subsidiaryby the parent5s directors who are also directors ofsubsidiary, there can be inspection

0emedies available if inspection refused!4 8rit of mandamus

Directed against the corp but the secretary may be 2oined as a party since in charge of custody of boo1s andperson against whom order of the court would be made

effective. The president can also be made party defendantif necessary to effectuation of court5s order "4 In2unction$4 >ction for damages against officer or agent of the

corp who refused to allow inspection+ote that the corp itself is not made liable although refusalis pursuant to a board resolution 3*ec :4Court should concern itself only with &uestions of whetherthe petitioner honestly believed the facts to be as set forthin his petition and whether he sought to protect hissubstantial investment in the corp

A>0D% @* 0C)# * #)/( 0 C%

%fficials in charge of a corp may deny inspection whensought at unusual hours or under other improperconditions but neither executive officers nor the (%Dhave power deprive * of the right altogether

(y'law unduly restricting right of inspection is undoubtedlyinvalid. 0easonable hours on business days throughoutthe year and not merely during some arbitrary period of afew days chosen by the directors

enerally spea1ing, * motive in exercising right isimmaterial

7ight of inspection ' incident of ownership of stoc1 soindirectly own boo1s* should advise the corp that right of inspection isdelegated to another person

%+K># * @* A+(

* has not set forth reasons and purposes for inspection.Circumstances under which he ac&uires one share of stoc1

9


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in respondent ban1 purposely to exercise inspection rightwith respect to transactions before he became a * do notargue in favor of his good faith and proper motivation.%bvious purpose was to arm himself with materials whichhe can used against the ban1 for acts done by the latterwhen petitioner was a total stranger to the same ' *uchpurpose not germane to * interest though impelled by alaudable sense of civic consciousness

>los, A+( having its own charter, not governed by theCorp Code. *uch right of inspection violative of theircharter provisions

@ 0> )T @* I*>( #> *) >0 C%

Directors have the un&ualified right to inspect the boo1sand records of the corp at all reasonable times0ight not to be denied on ground that director is onunfriendly terms with officers of corp whose records aresought to be inspected

Director without court order cannot be permitted to ta1eboo1s out of the corp+othing improper in secretary5s refusal since the minutesof these prior meetings have to be verified, confirmed andsigned by the directors then present so @eraguth has towait until after the next meeting* or director may ma1e copies, extracts andmemoranda of such records(y'law cannot provide for inspection only upon authority ofpresident of corp previously obtained in each case

%


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includes the correlative right not to sue. )nless anequitable basis for intervention be shown, an individualstoc1holder has no more right to challenge by a derivativesuit a decision of the board not to sue a third person ()Twhere the complaint alleges and it is proved that thedirectors acted in bad faith, dishonestly, or breach oftrust , or were under the control of the wrongdoers ,then a derivative suit against third person may be givendue course.

Derivative suits must be filed with the * C, instead of theregular courts, unless they involve third persons.

:EA? :9"#(A, :( A9 E. #A?(C#

Facts' Alaintiffs, minority stoc1holders of @itali #umberCompany, alleges in their complaint that defendant aspresident, manager and treasurer of their company,through fault, neglect and abandonment allowed it lumber

concession to lapse and its properties and assets todisappear causing the complete ruin of the corporation5soperation and total depreciation of its stoc1s.

They pray for an accounting from the defendant of thecorporate affairs and assets, payment to them of thevalue of their respective participation in said assets on thebasis of the value of the stoc1s held by each of them andto pay the cost of the suit.

7uling' In derivative suits, the in2ury complained of mustbe one which is against the corporation, thus the actionproperly belongs to the corporation rather than thestoc1holders. The suit is brought by the individualstoc1holder as the nominal party plaintiff for the benefit ofthe corporation which is the real party in interest.

In the case at bar, however, plaintiff stoc1holders broughtthe action not for the benefit of the corporation but for theirown benefit since they as1 that the defendant ma1e goodlosses occasioned by his mismanagement and to paythem the value of their respective participation in thecorporate assets on the basis of their respective holdings.

Aetition dismissed for venue being improperly laid.

!lass notes In effect what the stoc1holders petitioning

for, in this case, was a distribution of corporate assetsbefore li&uidation which is not allowed. Their remedy is toamend the complaint and bring it to the proper venue.

Derivative suits may be brought by 3a4 a minoritystoc1holder, 3b4 a corporate officer, 3c4 a treasurer, 3d4 adirector, or 3e4 a ma2ority stoc1holder when re&uirement of"L$ affirmative vote is necessary.

7:+@B9"! BA?G E. !@AD:7?C, :( A9

Facts' This is an appeal from a dismissal of the caseagainst respondent 0oman for alleged fraudulent grant ofloans to relatives 3while he was chairman of the (oard ofDirectors of 0epublic (an1 and its xecutive #oanCommittee4 and for the selection of respondents Cuadernoand Di=on 3as technical consultant and chairman of theboard respectively4 in order to shield himself from thealleged wrongdoing and from any prosecution that may beinstituted against him.

The complaint also alleges that the present composition ofthe board of directors of the ban1 are constituted by menchosen by respondent 0oman so that it was futile to as1them, in the first place, to institute this action on behalf ofthe ban1.

7uling' In a derivative suit, the corporation is the realparty in interest and the stoc1holder is merely a nominal

party. +ormally, it is the corporation through its board ofdirectors that should bring the suit. (ut where, as in thiscase and it is alleged in the complaint, that the membersof the board of directors of the ban1 were the nomineesand creatures of respondent 0oman, thus, any demand foran intra'corporate remedy would be futile, the stoc1holderis permitted to bring a derivative suit.

>s to the &uestion of 6should the corporation be made aparty7, the nglish practice is to ma1e the corporation aparty plaintiff while in the )* the practice is to ma1e it aparty defendant. owever, in our 2urisdiction what isimportant is that the corporation should be made a party inorder to ma1e the court5s 2udgment binding upon it, andthus bar future litigation of the issues.

/is2oinder of parties 3in a derivative suit4 is not a ground todismiss the action.

7:H:# E. (A?, :( A9

Facts' This is an action instituted by a stoc1holder of0oxas'


12/52

It is alleged that said directors failed to act on thefraudulent purchases for a period of two 3"4 years, thus,forcing plaintiff to bring this derivative suit.

7uling' The importation of textiles instead of raw materialsas well as the failure of the board of directors to ta1eactions against those directly responsible for the misuse ofthe dollar allocations constitute fraud or consent thereto onthe part of the directors. Therefore, a breach of trust wascommitted which 2ustifies the minority stoc1holders toinstitute a derivative suit on behalf of the corporation.

The appointment of a receiver was not only expedient butalso necessary to restore the faith and confidence of theCentral (an1 authorities in the administration of the affairsof the corporation, thus ultimately leading to a restorationof the dollar allocation so essential to the operation of thetextile mills

!lass notes The remedies of minority stoc1holders 3by

the institution of a derivative suit4 include the appointmentof a receiver or constitution of a management committeeor removal of a director 3personal note it seems *ir-acinto implies that this last remedy is not automaticallyavailable as a conse&uence of a derivative suit4.

>s regards the exhaustion of intra'corporate remedies, it issufficient to allege that there was an actual exhaustion orthat it is futile to resort to such remedy.

#A? 6" @:9 E. GA ?

Facts' !: corporations initially ac&uired shares ofoutstanding capital stoc1 of *an /iguel Corporation andconstituted a @oting Trust thereon in favor of >ndres*oriano, -r. 8hen the latter died duardo Co2uanco waselected as the substitute trustee. owever, after the D*>revolution, Co2uanco fled out of the country, andsubse&uently an agreement was entered into between the!: corporations and >ndres *oriano III 3as an agent ofseveral persons4 for the purchase of the shares held by theformer.

>ctually the buyer of the shares was +eptunia Corporation,a foreign corporation and wholly'owned subsidiary ofanother subsidiary wholly owned by *an /iguel

Corporation. +eptunia paid the downpayment from theproceeds of certain loans. AC then se&uestered theshares sub2ect of the sale so *an /iguel suspended all theother installments of the price to the sellers. The !:corporations then sued for recission and damages.

/eanwhile, AC directed *an /iguel to issue &ualifyingshares to seven 3 4 individuals including duardo de los

>ngeles from the se&uestered shares for them to hold intrust.

Then, the *an /iguel board of directors passed aresolution assuming the loans incurred by +eptunia for thedownpayment. De los >ngeles assailed the resolutionalleging that it was not passed by the board aside from itsdelitorious effects on the corporation5s interest. 8hen hisefforts to obtain relief within the corporation proved futile,he filed this action with the * C.

0espondent directors alleged that de los >ngeles has nolegal standing having been merely 6imposed7 by theAC and that the twenty 3"E4 shares owned by himpersonally cannot fairly and ade&uately represent theinterest of the minority.

7uling' The re&uisites of a derivative suit are!. the party bringing the suit should be a stoc1holder as ofthe time of the act or transactions complained of, thenumber of shares not being material;". exhaustion of intra'corporate remedies 3has made a

demand on the board of directors for the appropriate reliefbut the latter has failed or refused to heed his plea4; and$. the cause of action actually devolves on the corporationand not to the particular stoc1holder bringing the suit.

The bona fide ownership by a stoc1holder in his own rightsuffices to invest him with the standing to bring aderivative suit for the benefit of the corporation. Thenumber of his shares is immaterial since he is not suing inhis own behalf, or for the protection or vindication of hisown particular right, or the redress of a wrong committedagainst him individually but in behalf and for the benefit ofthe corporation. It is undisputed that apart from the&ualifying shares given to him by the AC , he owns "Eshares in his own right, as regards which he cannot fromany aspect be deemed to be beholden to the AC , hisownership of his shares being precisely what he invo1es asthe source of his authority to bring the derivative suit.Furthermore, it was not necessary for de los >ngeles to bea director in order to bring a derivative suit.

De los >ngeles5 complaint is confined to the issue of thevalidity of the assumption by the corporation of theindebtedness of +eptunia, allegedly for the benefit ofcertain of its officers and stoc1holders and is distinct fromthe ownership of the se&uestered shares. The disputeconcerns the acts of the board of directors claimed to

amount to fraud and misrepresentation which may bedetrimental to the interest of the stoc1holders, or is onearising out of intra'corporate relations between and amongstoc1holders, or between any or all of them and thecorporation of which they are stoc1holders 3meaning thatthe cause of action still belongs to the corporation4.

!lass notes' In effect the result of the acts of thedirectors of *an /iguel is the use of corporate assets forthe benefit of certain directorsLstoc1holders to the extent

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that the corporation will not be able to devote its assets inac&uiring its own shares. (ut even without the presence ofa self'interested director, still the transaction would resultto a premature retirement of the shares 3meaning areduction of capital4.

In a derivative suit, the number of shares of a suingstoc1holder is immaterial.

ven assuming that the suing stoc1holder had only&ualifying shares, the law re&uires only 6one share7 withoutany distinction or &ualification. besides, it is preciselywithin the scope of AC 5s duty to preserve the assets ofthe corporation. CHAPTER XIFINANCING THE CORPORATION; CAPITALSTRUCTURE

$ main sourcesa4 * contributions 3 e&uity investment4b4 #oans or advances by creditors$4 Arofits or corp earnings

Initial financing ' possibly involve !st "8hen a going concern ' profits instead of giving asdividends may be capitali=ed

%ther transactions in raising funds 'short'term financial instruments usually for immediate

corporate needs which present cash position can5t meetpayable within a short period 3not really part of the capital

structure4

!A+"(A9 #(7@!(@7: ' aggregate of the securitiesissued by the corp.

#:!@7"(":# ' instruments which represent relativelylong' term investment in corp

" classes!4 *enior *ecurities ' have prior but limited claim upon

corporate earnings and would include debt securities andtypical preferred stoc1 3A*4 >+D

"4 &uity *ecurities ' have residual interest in suchearnings; refer to common stoc1 3C*4 and is any,participating A*

Determination of various classes of securities and theirrelative amounts wor1ed thru distribution of

a4 ris1b4 control >+Dc4 profit

/ost impt characteristics of such securities

!4 right to early claim on corp profits before other securityholders receive any payments"4 right to residual income$4 right to vote and hence power to control corp

"GH subscription re&5t not bound to limit starting capital ofbusiness. >s long as complied with, may tap other sources

!A+"(A9 #(C!G ' amount fixed usually by corporatecharter

' 6to be subscribed and paid in or secured to be paid inby the * , either in money or prop, labor or services atthe org of the corp or afterwards and upon which it is toconduct its operations. 0emains the same unless thearticles3>I4 are amended

C@(#(A?D"? !A+"(A9 #(C!G ' amount subscribed;M or N to authori=ed capital stoc1

9: A9 C7 #(A(:D !A+"(A9 ' aggregate par or issued

value of the subscribed capital stoc1, which sets the limitof corporate assets that shld be retained by the corp asprotection of the creditors and which amount, as a rule,may not be withdrawn by to distributed to the * *

!A+"(A9 ' actual prop of the corp. Includes *contributions, loans to $rd persons and earnings less lossincurred

# A7: CF #(C!G ' unit3s4 of interest into which capitalstoc1 is divided; ac&uired by a person when he contributescapital by way of e&uity

' represents interest of holder to participate in mgnt ofcorp; to share proportionally in profits of business andupon li&uidation, to obtain ali&uot part of corp assets afterall corp debts are paid

' investment long'term ; no 6maturity date7' as a rule, * get bac1 investment only upon

dissolution or earlier if exercised appraisal right' * not owner of any specific corp prop nor creditor

of such' personal prop of * which can be transferred or

disposed of

!:7("F"!A(: CF #(C!G ' not shares' merely evidenced the interest of * in corp' issued in name of holder and transfer is made on

written order and on surrender of certificate #ec !lassification of shares &(he shares of stock of corp may be divided into classes orseries of shares, or both, any of which classes or series ofshares may have such rights, privileges or restrictions asmay be stated in the articles of incorporation -A" '

+rovided, (hat no share may be deprived of voting rightse/cept those classified and issued as 3preferred4 or

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3redeemable4 shares, unless otherwise provided in this!ode'

+rovided further, (hat there shall always be a class orseries of shares which have complete voting rights. Any orall of the shares or series of shares may have a par value orhave no par value as may be provided for in A"'

+rovided, however, (hat banks, trust companies, insurancecompanies, public utilities, and bldg and loan associationsshall not be permitted to issue no&par value shares of stock.

+referred shares of stock issued by any corp may be givenpreference in the distribution of the assets of the corp incase of liquidation and in the distribution of the assets ofthe corp in case of liquidation and in the distribution ofdividends, or such other preferences as may be stated inthe Ai which are not violative of the provisions of this !ode'

+rovided, (hat preferred shares of stock may be issued onlywith a stated par value. (he BCD, where authori)ed in theAi, may fi/ terms and conditions of preferred shares ofstock or any series thereof'

+rovided, (hat such terms and conditions shall be effectiveupon filing of a certificate thereof with the #:!.

#hares of capital stock issued without par value shall bedeemed fully paid and non&assessable and the holder ofsuch shares shall not be liable to the corp or to its creditorsin respect thereto'

+rovided, (hat shares without par value may not be issuedfor a consideration less than the value of + .00 per share'+rovided, (hat the entire consideration received by the corpfor its no&par value shares shall be treated as capital andshall not be available for distribution as dividends

A corp may, furthermore, classify its shares for the purposeof insuring compliance with constitutional or legal req1ts.

:/cept as otherwise provided in the articles and stated inthe certificate of stock, each share shall be equal in allrespects to every other share. ///

!. !ommon #tock 3C*4 'most commonly issued; usually,with full voting rights; in the presence of A*, the C* areusually vested with exclusive right to vote and haveresiduary rights to the profits and the net assets uponli&uidation, after preferences have been complied with.

". +referred #tock 3A*4 ' entitles holder to somepreferences either in the !4 dividends or "4 in thedistribution of assets upon li&uidation or $4 in both or to :4such other preferences not inconsistent with the Code

" limitations imposed on *ec O on A* issuance!4 can only be issued with stated par value"4 preferences must be stated both in the >I and in the

certificate, otherwise each share be e&ual in all respects toevery other share

Code allows the >I to authori=e the (%D to fix terms andconditions of A* provided that they will be effective onlyupon filing of certificate thereof with * C. ' 3&ualifies there&5t that preferences must appear in >I4

+7:F:7:?!: A# (C D"E"D:?D# &Dividends payable only when profits are earned and as ageneral rule, even if there are existing profits, the (%Dhas discretion to determine 8%+ dividends are to bedeclared. A* contract may give him privilege of being paidfirst before any dividend is paid to C*. >mount of thispreference stated in contract, usually in terms of fixed Hof the par value of stoc1.

I4 articipating and !on- articipating 'Aarticipating ' after getting their fixed dividend preferenceahead of C*, they share with the C* the rest of thedividends. )nless expressly provided, A* are non-

participating

ii4"umulati#e and !on-"umulati#e 'In absence of any express stipulation, A* are deemedC)/)#>TI@ ' meaning if in any given year3s4 nodividends are declared, the arrears for such year3s4 haveto be made up in subse&uent years b: any dividends canbe paid to C*. II//>T 0I># 8%+ the corp have profits.%nce profits are made and dividends declared by (%D, allarrears must !st be paid.

+%+'C)/)#>TI@ ' when contract ma1es dividendsdepend upon the existence of profits for year and if thereare no profits in previous year, no arrears result that nodividend will be given to ma1e up for that year

$ principal varieties of +%+'C)/)#>TI@ A* !4 Discretionary dividend type ' right of * to getdividends in a particular year would depend on the (%Ddiscretion even though profits are present for that year "4 6andatory dividend type ' contract imposes a positiveduty on the directors to declare preferred dividends everyyear that profits are earned$4 :arned cumulative or Dividend credit type gives a right to arrears in dividends where there wereprofits earned during years when dividend were notdeclared; merely postpones the receipt of dividendsearned to a later date and waits until the (%D decides to

declare dividends

A# (C EC("? 7" (#A* usually denied to right to vote. (ut unless C# >0#Bwithheld, a A* would have the right to vote since it is anincident to stoc1 ownership. %ftentimes, a contingent rightto vote would be provided for 3 when dividends arepassed until declared4. The Code also grants non'voting

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stoc1s the right to vote in specified instances involvingma2or changes in the corp 3* C "$4

+7:F:7:?!: @+C? 9"I@"DA("C?Areference may be on !4 dividends ;"4 distribution of corpassets upon li&uidation or $4 bothIn the absence of any provision granting such preferencein li&uidation, sLhe participates pro rata with the common* * since each share is presumed to be in all respectse&ual to every other share

AH E# AH

>I provides that upon li&uidation, the A* should receivethe par value plus an amount e&ual to 67all accrued unpaiddividends thereon7 before any assets should be distributedto C*The words unpaid and accrued modify the word di#idends.

The words express the idea that the dividends, if not paidregularly out of available earnings, may be amassed orstored up, whether earned or not, at the regular dividendrates, and attach to the shares of such stoc1 untilconditions arise when they may be declared and paid.Cumulative preferred become similar to creditors wrt todividends unpaid 3after (%D declaration4 after thecreditors are paid .It is accrued or corp liable if the dividend are alreadydeclared by (%D; no declaration, no liability#i&uidating dividends paid out of corporate assets

+7:F:77:D # "# NOT A !7:D"(C7A* a e&uity holder; stoc1 sub2ect to all ris1s of ownership.It can get bac1 only upon the li&uidation of the corp,provided there are enough assets left after paying allcreditors.

A@ @#(A (7@#( E# A@ @#(A :(A9

A* may be issued in exchange of bonds as to ma1e thecertificates thereof merely evidence of indebtedness andthe holders creditors of the corp and not * *. (ut in thiscase, the facts characteri=e the A* as preferred stoc1s.The * * voted increases in the capital stoc1 by the

creation of A*. The certificates delivered to the holders ofthe bonds exchanged therefor designated the stoc1 as A*and certified that the holders were entitled to the numberof shared therein in the 6full paid preferred capital stoc17.The holders had the right to vote in the directors5 election.The certificates had none of a contract creating a relationof creditor'debtor (y surrendering their bonds and ta1ing in lieu thereof A*,the bondholders ceased to be creditors and become mere* *. Those who have not made the exchange and holds

their bonds are entitled to the mortgage proceeds. A* *not entitled thereto.

$4 Aar or +o Aar *hares 'a4Aar value fixed in the >I and is minimum issue price ofsuch share; /ust be stated in certificate which cannot beissued until subscriber has fully paid. *toc1s cannot beissued or sold at less than par otherwise they would be6watered stoc17 and the * will be liable for the differenceb4 +o par shares are those whose issued price is notstated in the certificate but may be fixed in the >I or bythe (%D when so authori=ed by >I or by by'laws or in theabsence thereof, by the * * themselves. They are notconsidered issued until fully paid#imitations on the issuance of +o Aar stoc1

a4 once issued, they are deemed fully paid and non'

assessableb4 consideration for their issuance cannot be less than AGc4 entire consideration for their issuance constitutes capitaland hence not available for distribution as dividendsd4 cannot be issued as A*e4 cannot be issued by ban1s, trust companies, insurancecompanies, public utilities and bldg and loan associations

>+Df4 >I must state fact that corp issues no'par shares and thenumber of such shares

:4 Treasury *hares '

#ec < (reasury #hares & (reasury shares are shares ofstock which have been issued and fully paid for butsubsequently reacquired by the issuing corp by purchase,redemption, donation or thru some or lawful means. #uchshares may again be disposed of for a reasonable pricefi/ed by the BCD

/ay be sold even less than par; 0egarded as corpproperty

G4 0edeemable *hares 30*4

#ec J 7edeemable #hares &7edeemable shares may be issued by the corp whene/pressly so provided in the A". (hey may be purchased ortaken up upon the e/piration of a fi/ed period, regardless ofthe e/istence of unrestricted retained earnings in the booksof the corp, and upon such other terms and conditions asmay be stated in the A" which terms and conditions mustalso be stated in the certificates of stock representing saidshares

Features of 0*

15


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a4 0edemption privilege usually given only to A*b4 It is also common feature of debt securities li1e bonds

and debenturesc4 8hen attached to shares of stoc1, it must be provided

for in the >I and stated in the certificated4 It ordinarily ta1es the form of an option on the part of

the corp to purchase the shares or bonds usually at paror face value plus a specified minimum 3 permitsad2ustment of the capital structure and enable corp topay off the securities and avoid certain restrictions4

e4 In case of redeemable bonds, the redemptionprivilege may be exercised when interests ratesdecline, to replace issue with another carrying a lowerinterest rate

f4 0edemption is allowed even if there are nounrestricted retained earnings. * C there mustremain sufficient assets to cover liabilities, inclusive ofcapital and for mandatory 0*, set up a sin1ing fund tomeet cost of redemption.

O. Founder5s *hares

#ec = Founder1s #hares &Founder1s shares classified as such in the A" may be givencertain rights and privileges not enjoyed by the owners ofother stocks, provided that where the e/clusive right to voteand be voted for in the election of directors is granted, itmust be for a limited period not to e/ceed years subject tothe approval of #:!. (he year period shall commencefrom the date of approval of approval by #:!

+ature of a *ubscription Contract" ways to become a *!4 by subscription before or after incorp"4 by ac&uisition of already issued shares from existing

* *

#ubscription ' contract for the ac&uisition of unissuedstoc1 whether existing or still to be formed and is in effectthe contribution or promised contribution of a person to thecapital+eed not be paid in full at time of contractImplied that it should be in writing although not covered by*tatute of Frauds because not a sale%nce perfected, the * becomes a debtor to the corp andmay be liable to pay any unpaid portion8ith respect to unpaid portion, * personally liable for the

financial obligations of the corp to the extent of unpaidportion

#ec "nterest on @npaid #ubscription#ubscribers for stock shall pay to the corp interest on allunpaid subscriptions for the date of subscription, if sorequired by, and at the rate of interest fi/ed in the by&laws. "fno rate of interest is fi/ed in the by&laws, such rate shall bedeemed to be the legal rate.

A7!"A E# 9"6 ! @ #"?

> share of stoc1 is not an indebtedness to the owner norevidence of indebtedness and therefore not a credit. * *are not creditors of the corp. The capital stoc1 of a corp isa trust fund to be used more particularly for the security ofthe creditors of the corp, who presumably deal with it onthe credit of its capital stoc1

Instances where * can be a creditor!4 upon dissolution after corp debts are paid"4 when dividends declared

re-Incorporation Su$scription

#ec 2$ Amount of the !apital #tock to be #ubscribed and+aid for +urposes of "ncorporation & At least % ; of theauthori)ed capital stock as stated in the articles ofincorporation , and at least % ; of the total subscriptionmust be paid upon subscription, the balance to be payableon the date-s fi/ed in the contract of subscription withoutneed of call, or in the absence of a fi/ed date or dates, uponcall by the BCD' +rovided, however, (hat in no case shallthe paid up capital be less than + ,000

ffect of pre'incorporation subscription '8hen a group of persons sign a subscription contract, theyare deemed not only to ma1e a continuing offer to the corpbut also to have contracted with each other as well. +oone of them may revo1e the contract even prior to incorpwithout consent of all others

#ec 2 +re&"ncorporation #ubscription &A subscription for shares of stock of a corp still to beformed shall be irrevocable for a period of at least monthsfrom the date of subscription, unless all of the othersubscribers consent to the revocation, or unless theincorporation of said corporation fails to materiali)e withinsaid period as may be stipulated in the contract ofsubscription' +rovided, (hat no pre&incorporationsubscription may be revoked after the submission of A" tothe #:!

%nce formed, not even the corp can release the subscriberfrom the obligation to pay unpaid subscription.The * may however resist compliance if a diff corp as

contemplated is formed, or there are serious defects in theincorp pre2udicial to * , unless the acts show estoppel,waiver or ac&uiescenceIf a pre'incorporation subscriber is not satisfied with theway the promoters are handling pre'incorporation matters,he is free to get out of the venture after such period,regardless of what other pre'incorporation subscribers feelabout the matter.

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ost-Incorporation Su$scriptionCorp Code erased distinction between subscription andpurchase

#ec 0 #ubscription !ontract & Any contract for theacquisition of unissued stock in an e/isting corp or a corpstill to be formed shall be deemed a subscription within the

meaning of this (itle, notwithstanding the fact that theparties refer to it as a purchase or some other contract

#ec J0 7ights of @npaid #hares & olders of subscribedshares are not fully paid which are not delinquent shall haveall the rights of a #

*ince a subscriber is a debtor to the corp, it remains liableto pay the balance of the subscription price even if thecorp should subse&uently become insolvent

BAH9A E# #"9A? (7AFF"! "?!

The contract is one of sale and not of subscription8hether a particular contract is a subscription or a sale ofstoc1 is a matter of construction and depends upon itsterms and the intention of the parties*ubscription'mutual agreement of the subscribers to ta1eand pay for the stoc1 of a corp; involves $ parties a4 corp;"4 subscriber and $4 co'subscribers; even before fullpayment, en2oy all * rights subscriber liable to corp if itbecomes insolvent

Aurchase ' independent agreement between the individualand the corp to buy shares of stoc1 from it at a stipulatedprice; if corp becomes insolvent, corp no claim againstpurchase for price since it is in no position to issuecertificate

+7:&:6+("E: 7" ( (C # A7:#Areemption 'create only a preference which may or maynot be exercised

Basis of right common law ruleThe preemptive right is the option privilege of an existingstoc1holder to subscribe to a proportionate part of sharessubse&uently issued by the corp before same can bedisposed of in favor of the others)nless this right is recogni=ed, his interest in the

corporation would be diluted by the subse&uent issuanceof shares

:/tent and limitations of preemptive right under the!ode#aw includes all issues or dispositions of shares of anyclassInclude not only new shares in pursuance of an increase ofcapital stoc1 but would cover the issue of previouslyunissued shares which form part of the existing capital

stoc1, as well as treasury shares. Former would comeunder all issues, the latter under disposition 8here the shares are issued in exchange for prop neededfor corporate purposes, or for a debt previously contracted,the * cannot demand his preemptive right for right maypre2udice corporate interest8here the shares are issued by one corp in exchange forshares in another corp in pursuance of a merger, thepreemptive right does not exist, provided that the issue ismade with approval of "L$ of the holders of outstandingstoc1 and is not made in bad faithCode allows waiver or denial of the preemptive rightprovided it is made in the >I either as an original provisionor an amendment

#ec $< +ower to Deny +re&:mptive 7ight & All # # of astock corp shall enjoy preemptive right to subscribe to allissues or disposition of shares of any class, in proportionto their respective shareholdings, unless such right isdenied by the A" or an amendment thereto' +rovided, thatsuch preemptive right shall not e/tend to shares to beissued in compliance with laws requiring stock offerings orminimum stock ownership by the public, or to shares to beissued in good faith with the approval of the # #representing %8$ of the outstanding capital stock, ine/change for prop needed for the corporate purposes or inpayment of previously contracted debt.

"n !lose !orporations

#ec 20% +reemptive 7ight in !lose !orp & (he preemptiveright of # # in close corp shall e/tend to all stock issued,including reissuance of treasury shares, whether for money,

prop or personal services or in payment of corporate debts,unless the A" provide otherwise

For close corp, control is main factor xceptions in *ec $ not applicableAreemptive right of * * in close corp is broadened toinclude all issues, without exception unless otherwisedenied or limited by the >I

*aiver of +reemptive 7ight >ny prior waiver or denial of the preemptive right shouldappear in the >I and not merely in an ordinary waiveragreement

> waiver through an >I amendment to the >I would needonly "L$ who may have dissented but also all subse&uent* *If all the existing * * unanimously agree to a waiver,although for some reason no amendment of the >I ismade no one among them can later complain since theyare all bound by their private agreement. (ut it would notbind future * ** * must be given reasonable time in which to exercisetheir preemptive rights. )pon the expiration of said period,

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any * who has not exercised such right will be deemedto have waived it

DA(@ B:?"(C E# #:!

Aower to issue shares of stoc1 in a corp is lodged in the(%D and no stoc1holders5 meeting is necessary toconsider it because additional issuance of shares of stoc1sdoes not need approval of the * *.(y'laws authori=e (%D to provide for issue and transfer ofshares

eneral rule Are'emptive right is recogni=ed only withrespect to new issue of shares and not with respect toadditional shares of originally authori=ed sharesIn case at bar, the preemptive right was recogni=ed withrespect the increase in capital stoc1 only; reason ' when* invested, he did not contemplate that his shareholdingswould change

*hen the issue is in breach of trust

ven if the preemptive right does not exist, either becausethe issue comes within the exceptions in *ec $ orbecause it is denied or limited in the >I, an issue of sharesmay still be ob2ectionable if the directors have acted inbreach of trust and their primary purpose is to perpetuateor shift control of the corp or to 6free=e out7 the minorityinterest

7emedies when right is violated!4 In2unction against the issue %0"4 /andamus to allow * to exercise his right %0$4 * C or court may order the cancellation of the shares

provided no innocent $ rd parties are pre2udicedIn any case, the suit should be individual and notderivative because the wrong done not to the corp but tothe * * individually. (ut a derivative suit has been heldproper where the plaintiff claimed not only a violation ofhis preemptive right but also that such violation resulted inthe waste of corporate assets or in giving fraudulentdirectors control of the corp

( C6 E# BA9("6C7: (7@#(-B(

The * * of a corp have a preferential right to purchasenew issues of its shares, to the proportional extent of theirrespective interests in the capital stoc1 then outstanding,when the privilege can be exercised consistently with theob2ect which the disposition of the addt5l stoc1 is legallydesigned to accomplish.The right adheres to stoc1 ownership as an essentialmeans of enabling the * to maintain ratio of hisproprietary interests and voting power in the corp

(ut the transactions involving ac&uisition of prop, insteadof money, by the corp in exchange for shares of stoc1 , thedetermining consideration to the owners of the prop maybe the advantage of sharing as * * in the profits of thecorp with which they are contractingIt would not be feasible to consummate a transfer basedupon such a consideration if the preemptive right of theplaintiffs were to be held enforceable with respect to everynew issues of stoc1s regardless the ob2ect of disposition./erger was underta1en to increase the firms5 coverage,necessary for the business of both firms

D@?9AH E# AE:?@: 6 A7A : 7:+A"7

*to1es case principle8ell established that a * has an inherent right to aproportionate share of new stoc1 issued for money onlyand not to purchase prop for the purposes of the corp or toeffect a consolidation and that while he can waive that

right, he cannot be deprived of it without his consentexcept when the stoc1 is issued at a fixed price not lessthan par and he is given the right to ta1e it at that price inproportion to his holding or in some other e&uitable waythat will enable him to protect his interest by acting on his

2udgment and using his own resourcesIf the issue of the unissued original shares, wheneverauthori=ed, is reasonably necessary to raise money to beused in the business of the corp rather than the expansionof such business beyond the original limits, the originalstoc1holders have no right to count on obtaining and1eeping their proportional part of the original stoc1The issuance of the shares was to pay off legitimateaccrued corporate liabilityDirectors may not authori=e the issue of unissued stoc1 tothemselves for the primary purpose of converting themfrom minority to ma2ority * * ' breach of fiduciary duty,irrespective of pre'emptive right

7C## (7A?#+C7( "?! E# !7C( :7#

xisting * * are the owners of the business, and areentitled to have that ownership continued in the sameproportionDoctrine of pre'emptive right is not affected by the identityof the purchasers of the issued stoc1

8hat it is concerned is who did not get it(ut when officers and directors sell to themselves, andthereby gain an advantage, both in value and in votingpower, another situation arises, which it does not re&uirethe assertion of pre'emptive right to deal withDirectors5 purchase may not be ipso facto void, but it isnecessary to establish that there has been actual fraud orimposition practiced by the party holding the confidentialor fiduciary relation.

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(urden of proof shifts upon the directors to establish itsfairness*ale must be set aside as a constructive fraud upon theother * *+o proof present to show that the corp needed money sobadly and was such in a financial condition that the sale ofthe addt5l stoc1 to the directors themselves was the onlyway the money could be obtained

D:B( #:!@7"(":#

!. Form of $orro%ings The " nd main source of capital of a corp is fromborrowings, represented usually by promissory notes,bonds or debentures. *ometimes a financial institution willbe willing to lend large amounts to a private corp only onthe condition that such institution will have somerepresentation in the former5s (%D

". &onds and de$entures*ub2ect to prior approval of and registration with the * Cand the vote of "L$ of the outstanding capital stoc1, a corpmay incur bonded indebtedness by issuing bonds whichare offered to the public or to a specified group of lenders.These debt securities are a series of instrumentsrepresenting units of indebtedness and regarded as oneentire debt. (onds differ from debentures in that theformer are usually secured by a mortgage or pledge ofcorporate propDebentures are issued on the general credit of the corp.*ince these are not secured by any collateral, they are notbonded indebtedness in the true sense, and thus would notneed approval of the * * although it would perhaps be agood policy to obtain it(onds and debentures earn interest. Interest is to creditor'investor what dividends are to the *. owever, interestmust be paid by the corp whether it ma1es profits or not;dividends can be paid only if there are profits. Interesttherefore, unli1e dividends, is a fixed charge which thecorp cannot avoid or postpone even in times of businessdepression)nder *ec $P of Corp Code, bonds issued shall beregistered with the * C which shall have authority todetermine the sufficiency of the terms thereof (onds and debentures must be paid at the stipulatedperiod so that the creditor gets bac1 his investment on a

specified date. > * has to wait for the dissolution of thecorp and li&uidation of it assets and even then recoupinghis investment depends on whether there are any assetsleft after paying all creditors, bondholders included.

$. "on#erti$le securities' stock optionsThe contract of the security holder may give him theprivilege to exchange his class of securities with anotherclass. The conversion is usually from a senior security3bonds and preferred stoc1s4 to common stoc1s. The

contract will usually specify not only the security to which itmay be converted but also the ratio of conversion and theperiod within which the privilege may be exercisedInstead of a conversion privilege, the stoc1s anddebenture may carry with it stoc1 option warrants. Theseare options to purchase stoc1s in the corp at a specifiedprice not lower than par, exercisable by the grantee at anytime within a specified periodConvertible securities are often also redeemable, but theconversion privilege continues after notice of redemptionis given until the date fixed for actual redemptionThe * C has issued rules as to stoc1 options for theprotection of the interests of the investors. The rulesre&uire prior approval before the granting of any stoc1option. If granted to non'* * and to directors, officers ormanaging groups. * * owning at least "L$ of theoutstanding capital stoc1 must give their approval. The* C shall then determine the reasonableness of the stoc1option plan. In any case, the corp should retain orauthori=e enough of the 2unior securities to meet the

conversion or stoc1 option when exercised.

6:77"((&! A+6A? #!C(( E# ?H (7@#(

In order to harmoni=e >I provisions, ma2ority riled thatwarrant holders are entitled to stoc1 dividends even beforeconversion, thus for an unlimited time 3no deadline or cut'off date4*toc1 dividend does not change the proportional interest ofeach * in corp; changes only the evidence whichrepresents the interest%ther * * are placed at a disadvantage because theresulting dilution of their interest in the stoc1 dividends.

:. (y$rid securities*ince preferred shares and bonds are created by contract,it is possible to create stoc1 which approximate thecharacteristics of debt securities.The determination of whether such a hybrid is truly a bondor 2ust another 1ind of preferred stoc1 may be crucial fortax purposes.If it is a bond, then the interest thereof is deductible by thecorp from its gross income in the determinable of itstaxable income.If it is stoc1, then 6interest7 paid would be actually

dividends and thus not deductible from corporate incomefor tax purposesTests

!. Is the corp liable to pay bac1 the investor at afixed maturity date9

". Is interest payable unconditionally at definiteintervals or is it dependent on earnings9

$. Does the security ran1, at east e&ually with theclaims of other creditors or is it subordinate tothem9

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KC7DA? !C E# A99:?

Certain factors or criteria which they considered significantin arriving at the true nature of the securities involved

a4 treatment by the partiesb4 maturity date and right to enforce collectionc4 ran1 on dissolutiond4 uniform rate of interest payable or income

payable out of profitse4 participation in mgnt and the right to vote

Corp treated the debenture stoc1s as obligation and thepayments as interestolders of such stoc1s ran1ed ahead of other * * but

inferior to general creditors%f utmost significance, the debenture stoc1s have nomaturity dateFixed maturity date together with right to enforce paymentis essential feature of a debtor and creditor as opposed to

* relationshipAayment of premiums upon retirement more consistentwith retirement of stoc1 than with payment of past dueobligations*hould termination of corporate existence be consideredthe maturity date of the debenture stoc1, it would not be afixed date set in advance but could constantly be movedforward simple by corporate action+o maturity date, obligation to pay income only out ofprofits and the subordination debenture stoc1 holders togeneral creditors render payments made thereon more li1edividends on A* rather than interest on bonds

G. The Trust Indenturea4 $ parties to a bond issue

'debtor'corp'creditor'bondholder 'trustee

b4 among the $, only the corp and the trustee 3 as rep. ofall bondholders4 are the parties in the trust indenture

c4 trust indenture defines the rights of the parties, andusually contains the ff.'description of the prop mortgaged'provisions for its care and maintenance'payment of taxes'amount authori=ed under the issue'conversion and redemption privilege

'conditions under which the mortgage may be released'duties of the trustee'conditions for default'remedies in case of default

7:I@"7:6:?(# @?D:7 ( : 7:E"#:D #:! A!(+eed to register e&uity securities and bonds because withpublic at large

+A9("? E# #A? KC#: +:(7C9:@6

Issue 8%+ registration of *>+ -%* A T0%# )/should be granted9Aalting had personality to file petition because accdg to*ec >ct >ny person opposed must file writtenopposition to * C*o long as the securities are outstanding and are placed inthe channels of trade and commerce, the investing publicare entitled to have the &uestion of the worth or legality ofthe securities one way or the other Tie'up of *an -ose Aet 3foreign4 and *an -ose%il3domestic4 violative of #aurel'#angley >greement

'+ot owned directly by )* citi=ens but owed byanother Aanamanian corp 3%il Investments4; '%I owned byanother " @ene=uelan corp so not owned directly andcontrolled by )* citi=ens; +o showing that the "@ene=uelan corp owned and controlled by >mericans;ven if owned by >mericans, still has to show that those

*tates give same privilege to Filipinos*an -ose Aet essentially a holding company and accdg to* C,its principal activity is limited to financing and givingassistance to *an -ose %il*ome provisions in >I violative Ahil corporation law. (yvirtue of >I, the directors can do anything short of actualfraud. (y virtue of a $'party agreement, *-A received %IP/ shares of *-% stoc1 3presumably previouslypurchased4 worth QPEE,EEE and a Q"GE,EEE note inexchange for !Om shares 3QE.$GR4 for a total value ofQG.O/.In effect, *-A actually Q:,GG/ which was received by %I.(ut in their boo1s, an asset not liab appeared 3>I+5T ITFI* B4 Thus, the sale of *-A securities in Ahls wouldtend to wor1 fraud on Ahil investors

@?D:7*7"("? #:!@7"(":#)nderwriting the act or process of guaranteeing thedistribution and sale of the securities of any 1ind issued byanother corp

$ (asic Types!. *T0ICT )+D 080ITI+ / T %Dthe underwriter agrees, for a premium or fee, to sell thesecurities to the public and ta1e up whatever portion of theissue not sold within a specified period

". FI0/ C%//IT/ +T )+D 080ITI+assures the issuer of a specified amount of money at acertain time and shifts the mar1et to the investmenthouses$. ( *T FF%0T* )+D 080ITI+

availed of by corps which are not well yet establishedand therefore finds it difficult to find an underwriter whowill give a firm commitment and assume the ris1 ofdistribution; not underwriting in the strict sense, since theunderwriter merely acts as an agent of the corp

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CHAPTER XII: CONSIDERATION FORISSUANCE OF SHARES

Form of Consideration#ec. %. !onsideration for stocks. & #tocks shall not beissued for a consideration less than the par or issued pricethereof. !onsideration for the issuance of stock may be anyor a combination of any two or more of the following'

!. >ctual cash paid to the corporation;". Aroperty tangible or intangible, actually received by

the corporation and necessary or convenient for its useand lawful purposes at a fair valuation e&ual to the paror issued price of the stoc1s issued;

$. #abor performed for or services actually rendered tothe corporation;

:. Areviously incurred indebtedness of the corporation;G. >mounts transferred from unrestricted retained

earnings to stated capital andO. %utstanding shares exchanged for sto

mercantile law} corpo} review notes (incomplete)} made 1997 (est)} by up} 54 pages

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