Part 7. Commercial Law. Piercing the viel. Solidary liability

Because a corporation’s existence is only by fiction of law, it can only exercise its rights and powers through its directors, officers, or agents, who are all natural persons. A corporation cannot sue or enter into contracts without them.

A consequence of a corporation’s separate personality is that consent by a corporation through its representatives is not consent of the representative, personally. Its obligations, incurred through official acts of

its representatives, are its own. A stockholder, director, or representative does not become a party to a contract just because a corporation executed a contract through that stockholder, director or representative.

As a general rule, therefore, a corporation’s representative who did not personally bind himself or herself to an arbitration agreement cannot be forced to participate in arbitration proceedings made pursuant to an agreement entered into by the corporation. He or she is generally not considered a party to that agreement.

However, there are instances when the distinction between personalities of directors, officers, and representatives, and of the corporation, are disregarded. We call this piercing the veil of corporate fiction.

Based on the above provision, a director, trustee, or officer of a corporation may be made solidarily liable with it for all damages suffered by the corporation, its stockholders or members, and other persons in any of the following cases:

a) The director or trustee willfully and knowingly voted for or assented to a patently unlawful corporate act;

b) The director or trustee was guilty of gross negligence or bad faith in directing corporate affairs; and

c) The director or trustee acquired personal or pecuniary interest in conflict with his or her duties as director or trustee.

Solidary liability with the corporation will also attach in the following

instances:

a) “When a director or officer has consented to the issuance of watered stocks or who, having knowledge thereof, did not

forthwith file with the corporate secretary his written objection thereto”;

b) “When a director, trustee or officer has contractually agreed or stipulated to hold himself personally and solidarily liable with the corporation”; and

c) “When a director, trustee or officer is made, by specific provision of law, personally liable for his corporate action.”

When there are allegations of bad faith or malice against corporate directors or representatives, it becomes the duty of courts or tribunals to determine if these persons and the corporation should be treated as one.

Without a trial, courts and tribunals have no basis for determining whether the veil of corporate fiction should be pierced. Courts or tribunals do not have such prior knowledge. Thus, the courts or tribunals must first determine whether circumstances exist to warrant the courts or tribunals to disregard the distinction between the corporation and the persons representing it. The determination of these circumstances must be made by one tribunal or court in a proceeding participated in by all parties involved, including current representatives of the corporation, and those persons whose personalities are impliedly the same as the corporation. This is because when the court or tribunal finds that circumstances exist warranting the piercing of the corporate veil, the corporate representatives are treated as the corporation itself and should be held liable for corporate acts. The corporation’s distinct personality is disregarded, and the corporation is seen as a mere aggregation of persons undertaking a business under the collective name of the corporation.

Hence, when the directors, as in this case, are impleaded in a case against a corporation, alleging malice or bad faith on their part in directing the affairs of the corporation, complainants are effectively alleging that the directors and the corporation are not acting as separate entities. They are alleging that the acts or omissions by the corporation that violated their rights are also the directors’ acts or omissions. Rules of Court, Rule 2, sec. 2.

However, when the courts disregard the corporation’s distinct and separate personality from its directors or officers, the courts do not say that the corporation, in all instances and for all purposes, is the same as its directors, stockholders, officers, and agents. It does not result in an absolute

confusion of personalities of the corporation and the persons composing or

representing it. Courts merely discount the distinction and treat them as one, in relation to a specific act, in order to extend the terms of the contract and the liabilities for all damages to erring corporate officials who participated in the corporation’s illegal acts. This is done so that the legal fiction cannot be used to perpetrate illegalities and injustices.

Part 6. Powers of the Corporation, Commercial Law

Powers of Corporation under Sec. 36 of the Corporation Code:

1. To sue and be sued in its corporate name;

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 or repeal the same in accordance with this Code;

6. In case of stock corporations, to issue or sell stocks 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-stock corporation;

7. To purchase, receive, take or grant, hold, convey, sell, lease, pledge, mortgage and otherwise deal with such real and personal

property, including securities and bonds of other corporations, as the transaction of the lawful business of the corporation may 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 this Code;

9. To make reasonable donations, including those for the public welfare or for hospital, 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; and

11. To exercise such other powers as may be essential or necessary to carry out its purpose or purposes as stated in its articles of incorporation.

Part 5 Basic Principles in Commercial Law. Dispute Resolution

Corporate representatives may be compelled to submit to arbitration proceedings pursuant to a contract entered into by the corporation they represent if there are allegations of bad faith or malice in their acts representing the corporation. GERARDO LANUZA, JR. v BF Corp et al GR 174938 Oct. 1 2014

This court recognized in Heirs of Augusto Salas, Jr. v. Laperal Realty Corporation that an arbitration clause shall not apply to persons who were neither parties to the contract nor assignees of previous parties, thus:

A submission to arbitration is a contract. As such, the Agreement, containing the stipulation on arbitration, binds the parties thereto, as well as their assigns and heirs. But only they.

Consistent with the above-mentioned policy of encouraging alternative dispute resolution methods, courts should liberally

construe arbitration clauses. Provided such clause is susceptible of an interpretation that covers the asserted dispute, an order to arbitrate should be granted. Any doubt should be resolved in favor of arbitration.

A more clear-cut statement of the state policy to encourage arbitration and to favor interpretations that would render effective an arbitration clause was later expressed in Republic Act No. 9285:

SEC. 2. Declaration of Policy. - It is hereby declared the policy of the State to actively promote party autonomy in the resolution of disputes or the freedom of the party to make their own arrangements to resolve their disputes. Towards this end, the State shall encourage and actively promote the use of Alternative Dispute Resolution (ADR) as an important means to achieve speedy and impartial justice and declog court dockets. As such, the State shall provide means for the use of ADR as an efficient tool and an alternative procedure for the resolution of appropriate cases. Likewise, the State shall enlist active private sector participation in the settlement of disputes

through ADR. This Act shall be without prejudice to the adoption by the Supreme Court of any ADR system, such as mediation, conciliation, arbitration, or any combination thereof as a means of achieving speedy and efficient means of resolving cases pending before all courts in the Philippines which shall be governed by

such rules as the Supreme Court may approve from time to time.

SEC. 25. Interpretation of the Act. - In interpreting the Act, the court shall have due regard to the policy of the law in favor of arbitration. Where action is commenced by or against multiple parties, one or more of whom are parties who are bound by the

arbitration agreement although the civil action may continue as to those who are not bound by such arbitration agreement. 

Thus, if there is an interpretation that would render effective an arbitration clause for purposes of avoiding litigation and expediting resolution of the dispute, that interpretation shall be adopted.

Part 4 Basic Principles you need to know about Commercial Law Review

A corporation may be placed under receivership, or management committees may be created to preserve properties involved in a suit and to protect the rights of the parties under the control and supervision of the court. Management committees and receivers are appointed when the corporation is in imminent danger of “(1) [d]issipation, loss, wastage or

destruction of assets or other properties; and (2) [p]aralysation of its business operations that may be prejudicial to the interest of the minority stockholders, parties-litigants, or the general public.” Interim Rules, Rule 9, sec. 1. Thus, in Sy Chim v. Sy Siy Ho & Sons, Inc., this court said:

. . . the creation and appointment of a management committee and a receiver is an extraordinary and drastic remedy to be exercised with care and caution; and only when the requirements under the Interim Rules are shown. It is a drastic course for the benefit of the minority stockholders, the parties-litigants or the general public are allowed only under pressing circumstances and, when there is inadequacy, ineffectual or exhaustion of legal or other remedies . . . The power of the court to continue a business of a corporation . . . must be exercised with the greatest care and caution.

There should be a full consideration of all the attendant facts, including the interest of all the parties concerned.

The Regional Trial Court has original and

exclusive jurisdiction to hear and decide intra-corporate controversies, including incidents of such controversies. These incidents include applications for the appointment of receivers or management committees. Rep. Act No. 8799 (2000), otherwise known as The Securities Regulation Code.

Sec. 5.2. The Commission’s jurisdiction over all cases enumerated under Section 5 of Presidential Decree No. 902-A is hereby transferred to the Courts of general jurisdiction or the appropriate Regional Trial Court: Provided, that the Supreme Court in the exercise of its authority may designate the Regional Trial Court branches that shall exercise jurisdiction over these cases. The Commission shall retain jurisdiction over pending cases involving intra-corporate disputes submitted for final resolution which should be resolved within one (1) year from the enactment of this Code. The Commission shall retain jurisdiction over pending suspension of payments/rehabilitation cases filed as of 30 June 2000 until finally disposed. 

See also Interim Rules, Rule 1, sec. 9. 

Sec. 9. Assignment of cases. - All cases filed under these Rules shall be tried by judges designated by the Supreme Court to hear and decide cases transferred from the Securities and Exchange Commission to the Regional Trial Courts and filed directly with said courts pursuant to Republic Act No. 8799, otherwise known as the Securities Regulation Code.

In this regard, you have to know what is meant by intra-corporate dispute. Stay tuned for Part 5. 

Part 3 Continuation General principles in Commercial Law

A derivative suit is an action filed by stockholders to enforce a corporate action. It is an exception to the general rule that the corporation’s power to sue is exercised only by the board of directors or trustees. Hi-Yield Realty, Incorporated v. Court of Appeals, 608 Phil. 350, 358 (2009) [Per J. Quisumbing, Second Division], citing R.N. Symaco Trading Corporation v. Santos, 504 Phil. 573, 589 (2005) [Per J. Callejo, Sr., Second Division].

Individual stockholders may be allowed to sue on behalf of the corporation whenever the directors or officers of the corporation refuse to sue to vindicate the rights of the corporation or are the ones to be sued and

are in control of the corporation. It is allowed when the “directors [or officers] are guilty of breach of . . . trust, [and] not of mere error of judgment. Hi-Yield Realty, Incorporated v. Court of Appeals, 608 Phil. 350, 358 (2009) [Per J. Quisumbing, Second Division]. See also Asset Privatization Trust v. Court of Appeals, 360 Phil. 768, 805 (1998)

[Per J. Kapunan, Third Division] and Republic Bank v. Cuaderno, 125 Phil. 1076, 1082 (1967) [Per J. J.B.L. Reyes, En Banc] Bitong v. Court of Appeals, 354 Phil. 516, 545 (1998) [Per J. Bellosillo, First Division].

In derivative suits, the real party in interest is the corporation, and the suing stockholder is a mere nominal party. Hi-Yield Realty, Incorporated v. Court of Appeals.

The Court has recognized that a stockholder’s right to institute a derivative suit is not based on any express provision of the Corporation Code, or even the Securities Regulation Code, but is impliedly recognized when the said laws make corporate directors or officers liable for damages suffered by the corporation and its stockholders for violation of their fiduciary duties. In effect, the suit is an action for specific performance of an obligation, owed by the corporation to the stockholders, to assist its rights of action when the corporation has been put in default by the wrongful refusal of the directors or management to adopt suitable measures for its protection. Cua, Jr. v. Tan, G.R. Nos. 181455–56 and 182008, December 4, 2009, 607 SCRA 645, 696 [Per J. Chico-Nazario, Third Division].

Rule 8, Section 1 of the Interim Rules of Procedure for Intra- Corporate Controversies (Interim Rules) provides the five (5) requisites for filing derivative suits:

SECTION 1. Derivative action. – A stockholder or member may bring an action in the name of a corporation or association, as the case may be, provided,  that:

(1) He was a stockholder or member at the time the acts or transactions subject of the action occurred and at the time the action was filed;

(2) He exerted all reasonable efforts, and alleges the same with particularity in the complaint, to exhaust all remedies available

under the articles of incorporation, by-laws, laws or rules governing the corporation or partnership to obtain the relief he desires;

(3) No appraisal rights are available for the act or acts complained of; and

(4) The suit is not a nuisance or harassment suit. In case of nuisance or harassment suit, the court shall forthwith dismiss the case.

The fifth requisite for filing derivative suits, while not included in the enumeration, is implied in the first paragraph of Rule 8, Section 1 of the Interim Rules: The action brought by the stockholder or member must be “in the name of [the] corporation or association. . . .” This requirement has already been settled in jurisprudence.

Thus, in Western Institute of Technology, Inc., et al. v. Salas, et al., this court said that “[a]mong the basic requirements for a derivative suit to prosper is that the minority shareholder who is suing for and on behalf of the corporation must allege in his complaint before the proper forum that he is suing on a derivative cause of action on behalf of the corporation and all other shareholders similarly situated who wish to join [him].” This principle on derivative suits has been repeated in, among other cases, Tam Wing Tak v. Hon. Makasiar and De Guia66 and in Chua v. Court of Appeals, which was cited in Hi-Yield Realty, Incorporated v. Court of Appeals.

Moreover, it is important that the corporation be made a party to the case. This court explained in Asset Privatization Trust v. Court of Appeals why it is a condition sine qua non that the corporation be impleaded as party in derivative suits. Thus: Not only is the corporation an indispensible party, but it is also the present rule that it must be served with process. The reason given is that the judgment must be made binding upon the corporation in order that the corporation may get the benefit of the suit and may not bring a subsequent suit against the same defendants for the same cause of action. In other words the corporation must be joined as party because it is its cause of action that is being litigated and because judgment must be a res judicata against it.

In the same case, this court enumerated the reasons for disallowing a direct individual suit. The reasons given for not allowing direct individual suit are:

(1) . . . “the universally recognized doctrine that a stockholder in a corporation has no title legal or equitable to the corporate property; that both of these are in the corporation itself for the benefit of the stockholders.” In other words, to allow shareholders to sue separately would conflict with the separate corporate entity principle;

(2) . . . that the prior rights of the creditors may be prejudiced. Thus, our Supreme Court held in the case of Evangelista v. Santos, that ‘the stockholders may not directly claim those damages for themselves for that would result in the appropriation by, and the distribution among them of part of the corporate assets before the dissolution of the corporation and the liquidation of its debts and liabilities, something which cannot be legally done in view of Section 16 of the Corporation Law. . .”;

(3) the filing of such suits would conflict with the duty of the management to sue for the protection of all concerned;

(4) it would produce wasteful multiplicity of suits; and

(5) it would involve confusion in ascertaining the effect of partial recovery by an individual on the damages recoverable by the corporation for the same act.

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Individual suits are filed when the cause of action belongs to the individual stockholder personally, and not to the stockholders as a group or to the corporation, e.g., denial of right to inspection and denial of dividends

to a stockholder. If the cause of action belongs to a group of stockholders, such as when the rights violated belong to preferred stockholders, a class or representative suit may be filed to protect the stockholders in the group. Cua, Jr. v. Tan, G.R. Nos. 181455–56 and 182008, December 4, 2009, 607 SCRA 645, 690 [Per J.

Chico-Nazario, Third Division].

Corporations have a personality that is separate and distinct from their stockholders and directors. A wrong to the corporation does not necessarily create an individual cause of action. “A cause of action is the act or omission by which a party violates the right of another.” A cause of action must pertain to complainant if he or she is to be entitled to the reliefs sought.

Part 2 Continuation General Principles in Commercial Law

NovemBar is coming 2019. It will come before you know it. 

Now, let us continue. 

In Cua, Jr. v. Tan, 22 the Court elaborated on the distinctions among a derivative suit, an individual suit, and a representative or class suit:

A derivative suit must be differentiated from individual and representative or class suits, thus:

“Suits by stockholders or members of a corporation based on wrongful or fraudulent acts of directors or other persons may be classified into individual suits, class suits, and derivative suits. Where a stockholder or member is denied the right of inspection, his suit would be individual because the wrong is done to him personally and not to the other stockholders or the corporation. Where the wrong is done to a group of stockholders, as where preferred stockholders’ rights are violated, a class or representative suit will be proper for the protection of all stockholders belonging to the same group. But where the acts complained of constitute a wrong to the corporation itself, the cause of action belongs to the corporation and not to the individual stockholder or member. 

Although in most every case of wrong to the corporation, each stockholder is necessarily affected because the value of his interest therein would be impaired, this fact of itself is not sufficient to give him an individual cause of action since the corporation is a person distinct and separate from him, and can and should itself sue the wrongdoer. Otherwise, not only would the theory of separate entity be violated, but there would be multiplicity of suits as well as a violation of the priority rights of creditors. 

Furthermore, there is the difficulty of determining the amount of damages that should be paid to each individual stockholder. However, in cases of mismanagement where the wrongful acts are committed by the directors or trustees themselves, a stockholder or member may find that he has no redress because the former are vested by law with the right to decide whether or not the corporation should sue, and they will never be willing to sue themselves. The corporation would thus be helpless to seek remedy. Because of the frequent occurrence of such a situation, the common law gradually recognized the right of a stockholder to sue on behalf of a corporation in what eventually became known as a “derivative suit.” 

It has been proven to be an effective remedy of the minority against the abuses of management. Thus, an individual stockholder is permitted to institute a derivative suit on behalf of the corporation wherein he holds stock in order to protect or vindicate corporate rights, whenever officials of the corporation refuse to sue or are the ones to be sued or hold the control of the corporation. In such actions, the suing stockholder is regarded as the nominal party, with the corporation as the party in interest.”

A shareholder’s derivative suit seeks to recover for the benefit of the corporation and its whole body of shareholders when injury is caused to the corporation that may not otherwise be redressed because of failure of the corporation to act. Thus, ‘the action is derivative, i.e., in the corporate right, if the gravamen of the complaint is injury to the corporation, or to the whole body of its stock and property without any

severance or distribution among individual holders, or it seeks to recover assets for the corporation or to prevent the dissipation of its assets.’ x x x. In contrast, “a direct action

[is one] filed by the shareholder individually (or on behalf of a class of shareholders to which he or she belongs) for injury to his or her interest as a shareholder. x x x. [T]he two actions are mutually exclusive: i.e., the right of action and recovery belongs to either the shareholders (direct action) or the corporation (derivative action). Citing American jurisprudence in NESTOR CHING and ANDREW v Subic Bay Golf et al GR 174353

Part 1 General Principles you need to know about Commercial Law Review

A corporation, as a juridical entity, primarily acts through its board of directors, which exercises its corporate powers. In this capacity, the general rule is that, in the absence of authority from the board of directors, no person, not even its officers, can validly bind a corporation. (Olongapo City v SUBIC WATER AND SEWERAGE CO GR 171626, August 6, 2014)

In People’s Aircargo and Warehousing Co., Inc. v. Court of Appeals,63 we held that under Section 23 of the Corporation Code, the power and responsibility to decide whether a corporation can enter into a binding contract is lodged with the board of directors, subject to the articles of incorporation, by-laws, or relevant provisions of law.

A corporate officer or agent may represent and bind the corporation in transactions with third persons to the extent that [the] authority to do so has been conferred upon him, and this includes powers which have been intentionally conferred, and also such powers as, in the usual course of the particular business, are incidental to, or may be implied from, the powers intentionally conferred, powers added by custom and usage, as usually pertaining to the particular officer or agent, and such apparent powers as the corporation has caused persons dealing with the officer or agent to believe that it has conferred. Cebu Mactan Members Center, Inc. v. Tsukahara, G.R. No. 159624, July 17, 2009

It is basic in corporation law that a corporation is a juridical entity vested with a legal personality separate and distinct from those acting for and in its behalf and, in general, from the people comprising it. Heirs of Tan Uy v. International Exchange Bank, G.R. No. 166282 & 166283, February 13, 2013, 690 SCRA 519, 525.

The corporate veil should not and cannot be pierced unless it is clearly established that the separate and distinct personality of the corporation was used to justify a wrong, protect fraud, or perpetrate a deception. Heirs of Tan Uy v. International Exchange Bank, G.R. No. 166282 & 166283, February 13, 2013, 690 SCRA 519, 525.

In Concept Builders, Inc. v. NLRC, 67 the Court enumerated the

possible probative factors of identity which could justify the application of the doctrine of piercing the corporate veil. These are:

(1) Stock ownership by one or common ownership of both corporations;

(2) Identity of directors and officers;

(3) The manner of keeping corporate books and records; and

( 4) Methods of conducting the business. 68

The burden of proving the presence of any of these probative factors lies with the one alleging it. Unfortunately, if petitioner simply claimed that one corporation took over another's (water) operations in a place (Olongapo City) and apart from this allegation, petitioner failed to demonstrate any link to justify the construction that the corporation (Subic Water) and another (OCWD) are one and the same, the doctrine of separate juridical personality will lie. (Olongapo City v SUBIC WATER AND SEWERAGE CO GR 171626, August 6, 2014