1.

Garcia vs Lim Chu Sing

TIRSO GARCIA, in his capacity as receiver of the Mercantile Bank of China, plaintiff-appellee,
vs.
LIM CHU SING, defendant-appellant.

Marcelino Lontok for appellant.

Nicolas Santiago for appellee.

VILLA-REAL, J.:

This is an appeal taken by the defendant Lim Chu Sing from the judgment rendered by the Court of
First Instance of Manila, the dispositive part of which reads as follows:

Wherefore, judgment is rendered sentencing the defendant to pay the sum of P9,105.17 with interest
thereon at the rate of six per cent per annum from September 1, 1932, until fully paid, plus the sum
of P910.51, as attorney's fees, with the costs of this suit.

In conformity with the stipulation, this judgment shall be subject to execution after ninety (90) days.
So ordered.

In support of his appeal, the appellant assigns the following alleged errors as committed by the court
a quo in its decision, to wit:

1. In denying the motion dated December 27, 1932, praying for the inclusion of Lim Cuan Sy, being
the principal debtor, as party to this suit.

2. In holding as improper the compensation of the defendant's debt of P9,106.17, claimed in the
complaint, with his credit amounting to P10,000 with the Mercantile Bank of China.

3. In not ordering that after the compensation the plaintiff-appellee, as receiver of the Mercantile
Bank of China, should liquidate the dividends of the defendant-appellant's shares.

4. In sentencing the defendant-appellant to pay to the plaintiff-appellee the sum of P910.51 as

attorney's fees, plus interest at 6 per cent per annum on the sum of P9,105.17, with costs.

5. In denying the motion for a new trial.

When the case was called for hearing, the parties submitted the following stipulation of facts for the
consideration of the trial court, to wit:

Come now both parties and to this Honorable Court respectfully submit the following stipulation:

1. The defendant admits the facts alleged in the complaint.

2. The plaintiff admits the allegations in the answer, particularly with reference to the fact that the
defendant is the owner of two hundred shares at a par value of fifty pesos (P50) each, that is
(Pl0,000).

3. The court may render judgment in accordance with this stipulation, but the same shall be subject
to execution after ninety (90) days.

Wherefore, they respectfully submit this stipulation and pray that judgment be rendered in
accordance therewith.
The facts alleged in the complaint and admitted by both parties under the above quoted stipulation
of facts are as follows:

On June 20, 1930, the defendant-appellant Lim Chu Sing executed and delivered to the Mercantile
Bank of China promissory note for the sum of P19,605.17 with interest thereon at 6 per cent per
annum, payable monthly as follows: P1,000 on July 1, 1930; P500 on August 1, 1930; and P500 on
the first of every month thereafter until the amount of the promissory note together with the interest
thereon is fully paid (Exhibit A). One of the conditions stipulated in said promissory note is that in
case of defendant's default in the payment of any of the monthly installments, as they become due,
the entire amount or the unpaid balance thereof together with interest thereon at 6 per cent per
annum, shall become due and payable on demand. The defendant had been, making several partial
payments thereon, leaving an unpaid balance of P9,105.17. However, he defaulted in the payment
of several installments by reason of which the unpaid balance of P9,105.17 on the promissory note
has ipso facto become due and demandable.

The facts alleged in the answer and admitted by both parties under the same stipulation of facts are
as follows:

The debt which is the subject matter of the complaint was not really an indebtedness of the defendant
but of Lim Cuan Sy, who had an account with the plaintiff bank in the form of "trust receipts"
guaranteed by the defendant as surety and with chattel mortgage securities. The plaintiff bank,
without the knowledge and consent of the defendant, foreclosed the chattel mortgage and privately
sold the property covered thereby. Inasmuch as Lim Cuan Sy failed to comply with his obligations,
the plaintiff required the defendant, as surety, to sign a promissory note for the sum of P19,105.17
payable in the manner hereinbefore stated (Exhibit A). The defendant had been paying the
corresponding installments until the debt was reduced to the sum of P9,105.17 claimed in the
complaint. The defendant is the owner of shares of stock of the plaintiff Mercantile Bank of China
amounting to P10,000. The plaintiff bank is now under liquidation.

On December 27, 1932, the defendant-appellant Lim Chu Sing filed a motion praying for the inclusion
of the principal debtor Lim Cuan Sy as party defendant so that he could avail himself of the benefit
of the exhaustion of the property of said Lim Cuan Sy. Said motion was denied in open court by the
presiding judge without the defendant-appellant having excepted to such order of denial.

The proceeds of the sale of the mortgaged chattels together with other payments made were applied
to the amount of the promissory note in question, leaving the balance which the plaintiff now seeks
to collect.

The first question to be decided in this appeal is whether or not the court a quo erred in denying the
motion for inclusion of a party a defendant, filed by the defendant-appellant.

According to the provisions of section 141 of the Code of Civil Procedure, ". . . Rulings of the court
upon minor matters, such as adjournments, postponements of trials, the extension of time for filing
pleadings or motions, and other matters addressed to the discretion of the court in the performance
of its duty, shall not be subject to exception. But exception may be taken to any other ruling, order,
or judgment of the court made during the pendency of the action in the Court of First Instance." "An
`exception' has been defined as an objection taken to the decision of the trial court upon a matter of
law, and is a notice that the party taking it preserves for the consideration of the appellate court a
ruling deemed erroneous. (8 Am. Enc. P. and P., 157.)" " `Errors in a judgment or decree will not be
noticed on appeal in the absence of objections and exceptions taken below, and they should be
sufficiently specific to direct the attention of the court to the alleged defects.' (8 Enc. Pl and Pr., 289.)"
(Garcia de Lara vs. Gonzales de Lara, 2 Phil., 297.) Inasmuch as an exception is an objection taken
to the decision of the trial court upon a matter of law and is a notice that the party taking it will submit
for the consideration of the appellate court the ruling deemed erroneous, failure to interpose it
deprived the appellant of the right to raise the question whether or not the court a quo committed the
alleged error attributed to it in its ruling which had not been excepted to by the said appellant. The
inclusion in, or exclusion from an action of a certain party is a question of law. The herein defendant-
appellant, not having excepted to the order of the Court of First Instance of Manila denying his motion
for the inclusion of Lim Cuan Sy as party defendant, is estopped from raising such question upon
appeal (Roman Catholic Bishop of Lipa vs. Municipality of San Jose, 27 Phil., 571; Vergara vs.
Laciapag, 28 Phil., 439; Andrews vs. Morente Rosario, 9 Phil., 634).

The second question to be decided is whether or not it is proper to compensate the defendant-
appellant's indebtedness of P9,105.17, which is claimed in the complaint, with the sum of P10,000
representing the value of his shares of stock with the plaintiff entity, the Mercantile Bank of China.

According to the weight of authority, a share of stock or the certificate thereof is not an indebtedness
to the owner nor evidence of indebtedness and, therefore, it is not a credit (14 Corpus Juris, p. 388,
see. 511). Stockholders, as such, are not creditors of the corporation (14 Corpus Juris, p. 848, Sec.
1289). It is the prevailing doctrine of the American courts, repeatedly asserted in the broadest terms,
that the capital stock of a corporation is a trust fund to be used more particularly for the security of
creditors of the corporation, who presumably deal with it on the credit of its capital stock (14 Corpus
Juris, p. 383, sec. 505). Therefore, the defendant-appellant Lim Chu Sing not being a creditor of the
Mercantile Bank of China, although the latter is a creditor of the former, there is no sufficient ground
to justify a compensation (art. 1195, Civil Code; Acuña Co Chongco vs. Dievas, 12 Phil., 250).

The third question to be decided in this appeal is whether or not the court a quo erred in sentencing
the said defendant-appellant to pay the sum of P910.51 as attorney's fees in addition to interest at
6 per cent per annum on the amount sought in the complaint.

The pertinent clause of the promissory note Exhibit A reads as follows: "In case of default of any of
the above installments, the total amount of the balance still unpaid of this note will become due and
payable on demand plus interest thereon at the rate of 6 per cent per annum from date of this note
until payment is made. And I further agree to pay an additional sum equivalent to 10 per cent of the
said note to cover cost and attorney's fees for collection."

The stipulation relative to the payment of interest at the rate of 6 per cent per annum on the unpaid
balance of the promissory note Exhibit A refers to the capital and the 10 per cent stipulated for costs
and attorney's fees cannot be considered as interest but an indemnity for damages occasioned by
the collection of the indebtedness through judicial process. Therefore the two rates in question
cannot be combined and considered usurious interest.

With reference to the costs, the 10 per cent stipulated in the promissory note is for costs and
attorney's fees which may be incurred in the collection of the indebtedness through judicial process.
Therefore, the defendant-appellant should not again be made to pay for them (Bank of the Philippine
Islands vs. Yulo, 31 Phil., 476).

In view of the foregoing, this court is of the opinion and so holds: (1) That failure to file an exception
to a ruling rendered in open court denying a motion for the inclusion of a party as defendant deprives
the petitioner, upon appeal of the right to raise the question whether such denial proper or improper;
(2) that the shares of a banking corporation do not constitute an indebtedness of the corporation to
the stockholder and, therefore, the latter is not a creditor of the former for such shares; (3) that the
indebtedness of a shareholder to a banking corporation cannot be compensated with the amount of
his shares therein, there being no relation of creditor and debtor with respect to such shares; and (4)
that the percentage stipulated in a contract, for costs and attorney's fees for the collection of an
indebtedness, includes judicial costs.

Wherefore, with the sole modification that the costs be eliminated from the appealed judgment, the
same is hereby affirmed, without special pronouncement as to costs of this instance. So ordered.

2. National Exchange vs Dexter

This action was instituted in the Court of First Instance of Manila by the National Exchange Co., Inc.,
as assignee (through the Philippine National Bank) of C. S. Salmon & Co., for the purpose of
recovering from I. B. Dexter a balance of P15,000, the par value of one hundred fifty shares of the
capital stock of C. S. Salmon & co., with interest and costs. Upon hearing the cause the trial judge
gave judgment for the plaintiff to recover the amount claimed, with lawful interest from January 1,
1920, and with costs. From this judgment the defendant appealed.

It appears that on August 10, 1919, the defendant, I. B. Dexter, signed a written subscription to the
corporate stock of C. S. Salmon & Co. in the following form:

I hereby subscribe for three hundred (300) shares of the capital stock of C. S. Salmon and Company,
payable from the first dividends declared on any and all shares of said company owned by me at the
time dividends are declared, until the full amount of this subscription has been paid.

Upon this subscription the sum of P15,000 was paid in January, 1920, from a dividend declared at
about that time by the company, supplemented by money supplied personally by the subscriber.
Beyond this nothing has been paid on the shares and no further dividend has been declared by the
corporation. There is therefore a balance of P15,000 still paid upon the subscription.

As the case reaches this court the sole question here presented for consideration is one of law,
namely, whether the stipulation contained in the subscription to the effect that the subscription is
payable from the first dividends declared on the shares has the effect of relieving the subscriber from
personal liability in an action to recover the value of the shares. The trial court held, in effect, that
the stipulation mentioned is invalid.

In discussing this problem we accept as sound law the proposition propounded by the appellant's
attorneys and taken from Fletcher's Cyclopedia as follows:

In the absence of restrictions in its character, a corporation, under its general power to contract, has
the power to accept subscriptions upon any special terms not prohibited by positive law or contrary
to public policy, provided they are not such as to require the performance of acts which are beyond
the powers conferred upon the corporation by its character, and provided they do not constitute a
fraud upon other subscribers or stockholders, or upon persons who are or may become creditors of
the corporation. (Fletcher, Cyc. Corp., sec. 602, p. 1314.)

Under the American regime corporate franchises in the Philippine Islands are granted subject to the
provisions of section 74 of the Organic Act of July 1, 1902, which, in the part here material, is
substantially reproduced in section 28 of the Autonomy Act of August 29, 1916. In the Organic Act it
is among other things, declared: "That all franchises, privileges, or concessions granted under this
Act shall forbid the issue of stock or bonds except in exchange for actual cash or for property at a
fair valuation equal to the par value of the stock or bonds so issued; . . . ." (Act of Congress of July
1, 1902, sec. 74.)

Pursuant to this provision we find that the Philippine Commission inserted in the Corporation Law,
enacted March 1, 1906, the following provision: ". . . no corporation shall issue stock or bonds except
in exchange for actual cash paid to the corporation or for property actually received by it at a fair
valuation equal to the par value of the stock or bonds so issued." (Act No. 1459, sec. 16 as amended
by Act No. 2792, sec. 2.)

The prohibition against the issuance of shares by corporations except for actual cash to the par value
of the stock to its full equivalent in property is thus enshrined in both the organic and statutory law of
the Philippine; Islands; and it would seem that our lawmakers could scarely have chosen language
more directly suited to secure absolute equality stockholders with respect to their liability upon stock
subscriptions. Now, if it is unlawful to issue stock otherwise than as stated it is self-evident that a
stipulation such as that now under consideration, in a stock subcription, is illegal, for this stipulation
obligates the subcriber to pay nothing for the shares except as dividends may accrue upon the stock.
In the contingency that dividends are not paid, there is no liability at all. This is a discrimination in
favor of the particular subcriber, and hence the stipulation is unlawful.
The general doctrine of corporation law is in conformity with this conclusion, as may be seen from
the following proposition taken from the standard encyclopedia treatise, Corpus Juris:

Nor has a corporation the power to receive a subscription upon such terms as will operate as a fraud
upon the other subscribers or stockholders by subjecting the particular subcriber to lighter burdens,
or by giving him greater rights and privileges, or as a fraud upon creditors of the corporation by
withdrawing or decreasing the capital. It is well settled therefore, as a general rule, that an agreement
between a corporation and a particular subscriber, by which the subscription is not to be payable, or
is to be payable in part only, whether it is for the purpose of pretending that the stock is really greater
than it is, or for the purpose of preventing the predominance of certain stockholders, or for any other
purpose, is illegal and void as in fraud of other stockholders or creditors, or both, and cannot be
either enforced by the subcriber or interposed as a defense in an action on the subcription. (14 C.
J., p. 570.)

The rule thus stated is supported by a long line of decisions from numerous courts, with little or no
diversity of opinion. As stated in the headnote to the opinion of the Supreme Court of United States
in the case of Putnan vs. New Albany, etc. Railroad Co. as reported in 21 Law. ed., 361, the rule is
that "Conditions attached to subcriptions, which, if valid, lessen the capital of the company, are a
fraud upon the grantor of the franchise, and upon those who may become creditors of the
corporation, and upon unconditional stockholders."

In the appellant's brief attention is called to the third headnote to Bank vs. Cook (125 Iowa, 111),
where it is stated that a collateral agreement with a subcriber to stock that his subcription shall not
be collectible except from dividends on the stock, is valid as between the parties and a complete
defense to a suit on notes given for the amount of the subscription. A careful persual of the decision
will show that the rule thus broadly stated in the headnote is not justified by anything in the reported
decision; for what the court really held was that the making of such promise by the agent of the
corporation who sold the stock is admissible in evidence in support of the defense of fraud and failure
of consideration. Moreover, even if the decision had been to the effect supposed, the relu announced
in the headnote could have no weight in a jurisdiction like this were there is a statutory provision
prohibiting such agreements.

We may add that the law in force in this jurisdiction makes no distinction, in respect to the liability of
the subcriber, between shares subscribed before incorporation is effected and shares subscribed
thereafter. All like are bound to pay full value in cash or its equivalent, and any attempt to discriminate
in favor of one subscriber by relieving him of this liability wholly or in part is forbidden. In what is here
said we have reference of course primarily to subcriptions to shares that have not been previously
issued. It is conceivable that the power of the corporation to make terms with the purchaser would
be greater where the shares which are the subject of the transaction have been acquired by the
corporation in course of commerce, after they have already been once issued. But the shares with
which are here concerned are not of this sort.

The judgment appealed from must be affirmed, and it is so ordered, with costs against the appellant.

Malcolm, Ostrand, Johns, Romualdez and Villa-Real, JJ., concur.

3. Lingayen Gulf v Baltazar

These two cases here on appeal stem from the same case, that of civil case No. 10944 of the Court
of First Instance of Pangasinan. From the trial court's decision, plaintiff Lingayen Gulf Electric Power
Company, Inc. appealed directly to this court under G.R. No. L-4824. Defendant Irineo Baltazar
appealed to the Court of Appeals. By a resolution of that appellate tribunal, the appeal was certified
to this court pursuant to section 17, (5) and (6) of the Judiciary Act of 1948, and is now listed here
under G.R. No. L-6344.

The main facts of the case are not disputed, and we are reproducing and making our own the relation
of facts contained in the decision appealed from.

The plaintiff, Lingayen Gulf Electric Power Company is a domestic corporation with an authorized
capital stock of P300,000 divided into 3,000 shares with a par value of P100 per share. The
defendant, Irineo Baltazar appears to have subscribed for 600 shares on account of which he had
paid upon the organization of the corporation the sum of P15,000. (See Exhibit A, page 2). After
incorporation, the defendant made further payments on account of his subscription, leaving a
balance of P18,500 unpaid for, which amount, the plaintiff now claims in this action.

On July 23, 1946, a majority of the stockholders of the corporation, among them the herein
defendant, held a meeting and adopted stockholders' resolution No. 17. By said resolution, it was
agreed upon by the stockholders present to call the balance of all unpaid subscribed capital stock
as of July 23, 1946, the first 50 per cent payable within 60 days beginnning August 1, 1946, and the
remaining 50 per cent payable within 60 days beginning October 1, 1946. The resolution also
provided, that all unpaid subscription after the due dates of both calls would be subject to 12 per
cent interest per annum. Lastly, the resolution provided, that after the expiration of 60 days' grace
which would be on December 1, 1946, for the first call, and on February 1, 1947, for the second call,
all subscribed stocks remaining unpaid would revert to the corporation. (See Exhibit F and Exhibit I).

On September 22, 1946, the plaintiff corporation wrote a letter to the defendant reminding him that
the first 50 per cent of his unpaid subscription would be due on October 1, 1946. The plaintiff
requested the defendant to "kindly advise the company thru the undersigned your decision regarding
this matter." (See Exhibit 4). The defendant answered on September 25, 1946, asking the
corporation that he be allowed to pay his unpaid subscription by February 1, 1947. In his answer,
the defendant also agreed that if he could not pay the balance of his subscription by February 1,
1947, his unpaid subscription would be reverted to the corporation. (See Exhibit 5).

On December 19, 1947, the defendant wrote another letter to the members of the Board of Directors
of the plaintiff corporation, offering to withdraw completely from the corporation by selling out to the
corporation all his shares of stock in the total amount of P23,000. (See Exhibit 8). Apparently this
offer of the defendant was left unacted upon by the plaintiff.

On April 17, 1948, the Board of Directors of the plaintiff corporation held a meeting, and in the course
of the said meeting they adopted Resolution No. 17. This resolution in effect set aside the
stockholders resolution approved on June 23, 1946 (Exhibit D), on the ground that said stockholders'
resolution was null and void, and because the plaintiff corporation was not in a financial position to
absorb the unpaid balance of the subscribed capital stock. At the said meeting the directors also
decided to call 50 per cent of the unpaid subscription within 30 days from April 17, 1948, the call
payable within 60 days from receipt of notice from the Secretary-Treasurer. This resolution also
authorized legal counsel of the company to take all the necessary legal steps for the collection of the
payment of the call. (See Exhibit E-2).

On June 10, 1949, the stockholders of the corporation held another meeting in which the
stockholders were all present, either in person or by proxy. At such meeting, the stockholders
adopted resolution No. 4, whereby it was agreed to revalue the stocks and assets of the company
so as to attract outside investors to put in money for the rehabilitation of the company. The president
was authorized to make all arrangement for such appraisal and the Secretary to call a meeting upon
completion of the reassessment. (See Exhibit 2).

It was admitted by the defendant that he received notice from the Secretary-Treasurer of the
company, demanding payment of the unpaid balance of his subscription. It was agreed by the parties
that the call of the Board of Directors was not published in a newspaper of general circulation as
required by section 40 of the Corporation Law.
On September 28, 1949, the legal counsel of the plaintiff corporation wrote a letter to the defendant,
demanding the payment of the unpaid balance of his subscription amounting to P18,500. Copy of
this letter was sent by registered mail to the defendant on September 29,1 949. (See Exhibit G). The
defendant ignored the said demand. Hence this action.

The defendant, in his answer, disclaims liability tot he plaintiff corporation on the following grounds:

1. That the plaintiffs' action is premature because there was no valid call; and

2. That granting that there was a valid call, he was released from the obligation of the balance of his
subscription by stockholders' resolution No. 17 and No. 4.

By way of counterclaim, the defendant also claims from the plaintiff a reasonable compensation at
the rate of P700 per month as president of the company, for the period from March 1, 1946 to
December 31, 1948.

In the light of the foregoing undisputed facts, the only questions are as follows:

1. Was the call Exhibit E-2 valid?

2. Was the defendant released from the obligation of the unpaid balance of his subscription by virtue
of stockholders' resolution Nos. 17 and 4?

3. Is the defendant entitled to compensation as president of the plaintiff corporation?

In an exhaustive and well prepared decision, Judge M. Mejia of the lower court found that the call
for payment embodied in resolution No. 17 of July 23, 1946 was null and void for lack of publication;
consequently, he dismissed the complaint as premature. He further held said resolution null and void
in so far as it tried to relieve the defend- ant from liability on his unpaid subscription, on the ground
that the resolution was not approved by all the stockholders of the corporation. He also dismissed
the defendant's counterclaim for compensation as president of the corporation.

Inasmuch as in the two appeals, the assignment of errors are related to each other, and because
they refer to the same case, we propose to determine both appeals in one single decision.

We agree with the lower court that the law requires that notice of any call for the payment of unpaid
subscription should be made not only personally but also by publication. This is clear from the
provisions of section 40 of the Corporation Law, Act No. 1459, as amended, which reads as follows:

SEC. 40. Notice of call for unpaid subscriptions must be either personally served upon each
stockholder or deposited in the post office, postage prepaid, addressed to him at his place of
residence, if known, and if not known, addressed to the place where the principal office of the
corporation is situated. The notice must also be published once a week for four successive weeks
in some newspaper of general circulation devoted to the publication of general news published at
the place where the principal office of the corporation is established or located, and posted in some
prominent place at the works of the corporation if any such there be. If there be no newspaper
published at the place where the principal office of the corporation is established or located, then
such notice may be published in any newspaper of general news in the Philippines.

It will be noted that section 40 is mandatory as regards publication, using the word "must". As
correctly stated by the trial court, the reason for the mandatory provision is not only to assure notice
to all subscribers, but also to assure equality and uniformity in the assessment on stockholders. (14
C.J. 639).

This rule finds support in authorities on corporation law, such as, Thompson on Corporations, Vol.
5, 3rd edition, pages 588-590, from which we make the following quotation:
SEC. 3744. Provisions requiring notice of calls. — The governing statute, charter or by-laws usually
require that notice of calls be given the subscriber or stockholder. If any particular notice or demand
is required by either of these, or by the contract of subscription, then such notice or demand must
be given, and must be alleged and proved in order to maintain an action for the call.

xxx xxx xxx

SEC. 3745. Notice. — Compliance with requirements-From what has preceded it is clear that where
any particular form or kind of notice is required, such form or kind must be given-the requirement
must be complied with. Thus, where the charter expressly required notice to be given in certain
newspapers for a certain number of days, the corporation must show compliance with the conditions
before recovery on the call. An action is ordinarily made effective by notice thereof to the subscribers,
in accordance with the by-laws or general regulations of the corporation in that regard. So, where
there are statutory or other regulations as to the form and sufficiency of the notice, these must be
followed. Thus, where such a notice was required to be signed by the directors, a notice with the
names of the directors signed by a clerk, was held insufficient. These cases and others proceed on
the theory that where the manner of giving notice is prescribed by law every condition precedent
must be strictly and literally complied with. (Thompson on Corporations, Vol. 5, 3rd ed.)

This view is shared by Justice Fisher. In his book "The Philippine Law on Stock Corporations" he
says: "Not only must personal notice be given in one of these manners, but the notice must also be
published once a week, for four consecutive weeks, in some newspaper." (p. 110.).

We find the citation of authorities made by the plaintiff and appellant inapplicable. In the case of
Velasco vs. Poizat (37 Phil. 805), the corporation involved was insolvent, in which case all unpaid
stock subscriptions become payable on demand and are immediately recoverable in an action
instituted by the assignee. Said the court in that case:

. . . . it is now quite well settled that when the corporation becomes insolvent, with proceedings
instituted by creditors to wind up and distribute its assets, no call or assessment is necessary before
the institution of suits to collect unpaid balance on subscription.

But when the corporation is a solvent concern, the rule is:

It is again insisted that plaintiffs cannot recover because the suit was not proceeded by a call or
assessment against the defendant as a subscriber, and that until this is done no right of action
accrues. In a suit by a solvent going corporation to collect a subscription, and in certain suits provided
by statute this would be true;. . . . . (Id.)

Going to the claim of defendant and appellant that Resolution No. 17 of 1946 released him from the
obligation to pay for his unpaid subscription, the authorities are generally agreed that in order to
effect the release, there must be unanimous consent of the stockholders of the corporation. We
quote some authorities:

Subject to certain exceptions, considered in subdivision (3) of this section, the general rule is that a
valid and binding subscription for stock of a corporation cannot be cancelled so as to release the
subscriber from liability thereon without the consent of all the stockholders or subscribers.
Furthermore, a subscription cannot be cancelled by the company, even under a secret or collateral
agreement for cancellation made with the subscriber at the time of the subscription, as against
persons who subsequently subscribed or purchased without notice of such agreement. (18 C.J.S.
874).

(3) Exceptions.

In particular circumstances, as where it is given pursuant to a bona fide compromise, or to set off a
debt due from the corporation, a release, supported by consideration, will be effectual as against
dissenting stockholders and subsequent and existing creditors. A release which might originally have
been held invalid may be sustained after a considerable lapse of time. (18 C.J.S. 874).

In the present case, the release claimed by defendant and appellant does not fall under the exception
above referred to, because it was not given pursuant to a bona fide compromise, or to set off a debt
due from the corporation, and there was no consideration for it.

Another authority:

SEC. 850. Unanimous consent of stockholders necessary to release subscriber. — It may be

asserted as the first rule under this proposition that, after a valid subscription to the capital stock of
a corporation has been made and accepted, there can be no cancellation or release from the
obligation without the consent of the corporation and all the stockholders; . . . . (2 Thompson on
Corporation, p. 186).

He states the reason for the rule as follows:

SEC. 855. Right to withdraw as against subscribers. — A contract of subscription is, at least in the
sense which creates as estoppel, a contract among the several subscribers. For this reason no one
of the subscribers can withdraw from the contract without the consent of all the others, and thereby
diminish, without the universal consent, the common fund in which all have acquired an interest. . .
. (2 Thompson on Corporations, p. 194.).

As already found by the trial court, the release attempted in Resolution No. 17 of 1946 was not valid
for lack of a unanimous vote. If found that at least seven stockholders were absent from the meeting
when said resolution was approved.

Defendant and appellant, however, contends that after dismissing the complaint for being premature,
there was no necessity or reason for the trial court to go further and say that defendant was not
validly released from the payment for his unpaid subscription. It must be borne in mind, however,
that this was one of the principal issues involved in the case and the trial court was called upon to
pass upon it, because unless so passed upon and deter- mined, it might decisively affect the case
on appeal. Supposing that on appeal the appellate court decides that the call was valid, then it would
be important to know whether or not in spite of the validity of the call, defendant was nevertheless
not liable because he had been validly released by a resolution of the corporation. If that question
was not decided by the trial court, and naturally was not touched upon in the appeal, then the
appellate court would have no occasion to pass upon it, and it might be necessary to bring another
action to determine the point, which means multiplicity of suits. Moreover, the authority given to the
courts to render judgments for declaratory relief in order to determine the rights or duties of parties
over a certain transaction or under a certain written instrument, or to remove the uncertainty or
controversy over the same (Rule 66 of the Rules of Court), justified the trial court in passing upon
this question of release.

As regards the compensation of President claimed by defendant and appellant, it is clear that he is
not entitled to the same. The by-laws of the company are silent as to the salary of the President.
And, while resolutions of the incorporators and stockholders (Exhibits G-1 and I-1) provide salaries
for the general manager, secretary-treasurer and other employees, there was no provision for the
salary of the President. On the other hand, other resolutions (Exhibits H-1 and J-3) provide for per
diems to be paid to the President and the directors of each meeting attended, P10 for the President
and P8 for each director, which were later increased to P25 and P15, respectively. This leads to the
conclusions that the President and the board of directors were expected to serve without salary, and
that the per diems paid to them were sufficient compensation for their services. Furthermore, for
defendant's several years of service as President and up to the filing of the action against him, he
never filed a claim for salary. He thought of claiming it only when this suit was brought against him.

In conclusion we hold that under the Corporation Law, notice of call for payment for unpaid
subscribed stock must be published, except when the corporation is insolvent, in which case,
payment is immediately demandable. We also rule that release from such payment must be made
by all the stockholders.

In view of the foregoing and finding no reversible error in the decision appealed, the same is hereby
affirmed.

No pronouncement as to costs.

Paras, C.J., Pablo, Bengzon, Padilla, Tuason, Reyes, Jugo, Bautista Angelo and Labrador, JJ.,
concur.

4. Keller vs COB

This case is about the liability of a marketing distributor under its sales agreements with the owner
of the products. The petitioner presented its evidence before Judges Castro Bartolome and
Benipayo. Respondents presented their evidence before Judge Tamayo who decided the case.

A review of the record shows that Judge Tamayo acted under a misapprehension of facts and his
findings are contradicted by the evidence. The Appellate Court adopted the findings of Judge
Tamayo. This is a case where this Court is not bound by the factual findings of the Appellate Court.
(See Director of Lands vs. Zartiga, L-46068-69, September 30, 1982, 117 SCRA 346, 355).

Edward A. Keller & Co., Ltd. appointed COB Group Marketing, Inc. as exclusive distributor of its
household products, Brite and Nuvan in Panay and Negros, as shown in the sales agreement dated
March 14, 1970 (32-33 RA). Under that agreement Keller sold on credit its products to COB Group
Marketing.
As security for COB Group Marketing's credit purchases up to the amount of P35,000, one Asuncion
Manahan mortgaged her land to Keller. Manahan assumed solidarily with COB Group Marketing the
faithful performance of all the terms and conditions of the sales agreement (Exh. D).

In July, 1970 the parties executed a second sales agreement whereby COB Group Marketing's
territory was extended to Northern and Southern Luzon. As security for the credit purchases up to
P25,000 of COB Group Marketing for that area, Tomas C. Lorenzo, Jr. and his father Tomas, Sr.
(now deceased) executed a mortgage on their land in Nueva Ecija. Like Manahan, the Lorenzos
were solidarily liable with COB Group Marketing for its obligations under the sales agreement (Exh.
E).

The credit purchases of COB Group Marketing, which started on October 15, 1969, limited up to
January 22, 1971. On May 8, the board of directors of COB Group Marketing were apprised by Jose
E. Bax the firm's president and general manager, that the firm owed Keller about P179,000. Bax was
authorized to negotiate with Keller for the settlement of his firm's liability (Exh. 1, minutes of the
meeting).

On the same day, May 8, Bax and R. Oefeli of Keller signed the conditions for the settlement of COB
Group Marketing's liability, Exhibit J, reproduced as follows:

This formalizes our conditions for the settlement of C.O.B.'s account with Edward Keller Ltd.

1. Increase of mortgaged collaterals to the full market value (estimated by Edak at P90,000.00).

2. Turn-over of receivables (estimated outstandings P70,000.00 to P80,000.00).

3. Turn-over of 4 (four) trucks for outright sale to Edak, to be credited against C.0.B.'s account.

4. Remaining 8 (eight) trucks to be assigned to Edak, C.O.B will continue operation with these
8 trucks. They win be returned to COB after settlement of full account.

5. C.O.B has to put up securities totalling P200,000.00. P100,000.00 has to be liquidated within
one year. The remaining P100,000.00 has to be settled within the second year.

6. Edak wig agree to allow C.O.B. to buy goods to the value of the difference between
P200,000.00 and their outstandings, provided C.O.B. is in a position to put up securities amounting
to P200,000.00.

Discussion held on May 8, 1971.

Twelve days later, or on May 20, COB Group Marketing, through Bax executed two second chattel
mortgages over its 12 trucks (already mortgaged to Northern Motors, Inc.) as security for its
obligation to Keller amounting to P179,185.16 as of April 30, 1971 (Exh. PP and QQ). However, the
second mortgages did not become effective because the first mortgagee, Northern Motors, did not
give its consent. But the second mortgages served the purpose of being admissions of the liability
COB Group Marketing to Keller.

The stockholders of COB Group Marketing, Moises P. Adao and Tomas C. Lorenzo, Jr., in a letter
dated July 24, 1971 to Keller's counsel, proposed to pay Keller P5,000 on November 30, 1971 and
thereafter every thirtieth day of the month for three years until COB Group Marketing's mortgage
obligation had been fully satisfied. They also proposed to substitute the Manahan mortgage with a
mortgage on Adao's lot at 72 7th Avenue, Cubao, Quezon City (Exh. L).

These pieces of documentary evidence are sufficient to prove the liability of COB Group Marketing
and to justify the foreclosure of the two mortgages executed by Manahan and Lorenzo (Exh. D and
E).
Section 22, Rule 130 of the Rules of Court provides that the act, declaration or omission of a party
as to a relevant fact may be given in evidence against him "as admissions of a party".

The admissions of Bax are supported by the documentary evidence. It is noteworthy that all the
invoices, with delivery receipts, were presented in evidence by Keller, Exhibits KK-1 to KK-277-a
and N to N-149-a, together with a tabulation thereof, Exhibit KK, covering the period from October
15, 1969 to January 22, 1971. Victor A. Mayo, Keller's finance manager, submitted a statement of
account showing that COB Group Marketing owed Keller P184,509.60 as of July 31, 1971 (Exh. JJ).
That amount is reflected in the customer's ledger, Exhibit M.

On the other hand, Bax although not an accountant, presented his own reconciliation statements
wherein he showed that COB Group Marketing overpaid Keller P100,596.72 (Exh. 7 and 8). He
claimed overpayment although in his answer he did not allege at all that there was an overpayment
to Keller.

The statement of the Appellate Court that COB Group Marketing alleged in its answer that it overpaid
Keller P100,596.72 is manifestly erroneous first, because COB Group Marketing did not file any
answer, having been declared in default, and second, because Bax and the other stockholders, who
filed an answer, did not allege any overpayment. As already stated, even before they filed their
answer, Bax admitted that COB Group Marketing owed Keller around P179,000 (Exh. 1).

Keller sued on September 16, 1971 COB Group Marketing, its stockholders and the mortgagors,
Manahan and Lorenzo.

COB Group Marketing, Trinidad C. Ordonez and Johnny de la Fuente were declared in default (290
Record on Appeal).

After trial, the lower court (1) dismissed the complaint; (2) ordered Keller to pay COB Group
Marketing the sum of P100,596.72 with 6% interest a year from August 1, 1971 until the amount is
fully paid: (3) ordered Keller to pay P100,000 as moral damages to be allocated among the
stockholders of COB Group Marketing in proportion to their unpaid capital subscriptions; (4) ordered
the petitioner to pay Manahan P20,000 as moral damages; (5) ordered the petitioner to pay P20,000
as attomey's fees to be divided among the lawyers of all the answering defendants and to pay the
costs of the suit; (6) declared void the mortgages executed by Manahan and Lorenzo and the
cancellation of the annotation of said mortgages on the Torrens titles thereof, and (7) dismissed
Manahan's cross-claim for lack of merit.

The petitioner appealed. The Appellate Court affirmed said judgment except the award of P20,000
as moral damages which it eliminated. The petitioner appealed to this Court.

Bax and the other respondents quoted the six assignments of error made by the petitioner in the
Appellate Court, not the four assignments of error in its brief herein. Manahan did not file any
appellee's brief.

We find that the lower courts erred in nullifying the admissions of liability made in 1971 by Bax as
president and general manager of COB Group Marketing and in giving credence to the alleged
overpayment computed by Bax .

The lower courts not only allowed Bax to nullify his admissions as to the liability of COB Group
Marketing but they also erroneously rendered judgment in its favor in the amount of its supposed
overpayment in the sum of P100,596.72 (Exh. 8-A), in spite of the fact that COB Group Marketing
was declared in default and did not file any counterclaim for the supposed overpayment.

The lower courts harped on Keller's alleged failure to thresh out with representatives of COB Group
Marketing their "diverse statements of credits and payments". This contention has no factual basis.
In Exhibit J, quoted above, it is stated by Bax and Keller's Oefeli that "discussion (was) held on May
8, 1971."
That means that there was a conference on the COB Group Marketing's liability. Bax in that
discussion did not present his reconciliation statements to show overpayment. His Exhibits 7 and 8
were an afterthought. He presented them long after the case was filed. The petitioner regards them
as "fabricated" (p. 28, Appellant's Brief).

Bax admitted that Keller sent his company monthly statements of accounts (20-21 tsn, September
2, 1976) but he could not produce any formal protest against the supposed inaccuracy of the said
statements (22). He lamely explained that he would have to dig up his company's records for the
formal protest (23-24). He did not make any written demand for reconciliation of accounts (27-28).

As to the liability of the stockholders, it is settled that a stockholder is personally liable for the financial
obligations of a corporation to the extent of his unpaid subscription (Vda. de Salvatierra vs. Garlitos
103 Phil. 757, 763; 18 CJs 1311-2).

While the evidence shows that the amount due from COB Group Marketing is P184,509.60 as of
July 31, 1971 or P186,354.70 as of August 31, 1971 (Exh. JJ), the amount prayed for in Keller's
complaint is P182,994.60 as of July 31, 1971 (18-19 Record on Appeal). This latter amount should
be the one awarded to Keller because a judgment entered against a party in default cannot exceed
the amount prayed for (Sec. 5, Rule 18, Rules of Court).

WHEREFORE, the decisions of the trial court and the Appellate Court are reversed and set aside.

COB Group marketing, Inc. is ordered to pay Edward A. Keller & Co., Ltd. the sum of P182,994.60
with 12% interest per annum from August 1, 1971 up to the date of payment plus P20,000 as
attorney's fees.

Asuncion Manahan and Tomas C. Lorenzo, Jr. are ordered to pay solidarity with COB Group
Marketing the sums of P35,000 and P25,000, respectively.

The following respondents are solidarity liable with COB Group Marketing up to the amounts of their
unpaid subscription to be applied to the company's liability herein: Jose E. Bax P36,000; Francisco
C. de Castro, P36,000; Johnny de la Fuente, P12,000; Sergio C. Ordonez, P12,000; Trinidad C.
Ordonez, P3,000; Magno C. Ordonez, P3,000; Adoracion C. Ordonez P3,000; Tomas C. Lorenzo,
Jr., P3,000 and Luz M. Aguilar-Adao, P6,000.

If after ninety (90) days from notice of the finality of the judgment in this case the judgment against
COB Group Marketing has not been satisfied fully, then the mortgages executed by Manahan and
Lorenzo should be foreclosed and the proceeds of the sales applied to the obligation of COB Group
Marketing. Said mortgage obligations should bear six percent legal interest per annum after the
expiration of the said 90-day period. Costs against the private respondents.

SO ORDERED.
5. Phil Trust vs Rivera

This action was instituted on November 21, 1921, in the Court of First Instance of Manila, by the
Philippine Trust Company, as assignee in insolvency of La Cooperativa Naval Filipina, against
Marciano Rivera, for the purpose of recovering a balance of P22,500, alleged to be due upon
defendant's subscription to the capital stock of said insolvent corporation. The trial judge having
given judgment in favor of the plaintiff for the amount sued for, the defendant appealed.

It appears in evidence that in 1918 the Cooperativa Naval Filipina was duly incorporated under the
laws of the Philippine Islands, with a capital of P100,000, divided into one thousand shares of a par
value of P100 each. Among the incorporators of this company was numbered the defendant Mariano
Rivera, who subscribed for 450 shares representing a value of P45,000, the remainder of the stock
being taken by other persons. The articles of incorporation were duly registered in the Bureau of
Commerce and Industry on October 30 of the same year.

In the course of time the company became insolvent and went into the hands of the Philippine Trust
Company, as assignee in bankruptcy; and by it this action was instituted to recover one-half of the
stock subscription of the defendant, which admittedly has never been paid.

The reason given for the failure of the defendant to pay the entire subscription is, that not long after
the Cooperativa Naval Filipina had been incorporated, a meeting of its stockholders occurred, at
which a resolution was adopted to the effect that the capital should be reduced by 50 per centum
and the subscribers released from the obligation to pay any unpaid balance of their subscription in
excess of 50 per centum of the same. As a result of this resolution it seems to have been supposed
that the subscription of the various shareholders had been cancelled to the extent stated; and fully
paid certificate were issued to each shareholders for one-half of his subscription. It does not appear
that the formalities prescribed in section 17 of the Corporation Law (Act No. 1459), as amended,
relative to the reduction of capital stock in corporations were observed, and in particular it does not
appear that any certificate was at any time filed in the Bureau of Commerce and Industry, showing
such reduction.

His Honor, the trial judge, therefore held that the resolution relied upon the defendant was without
effect and that the defendant was still liable for the unpaid balance of his subscription. In this we
think his Honor was clearly right.

It is established doctrine that subscription to the capital of a corporation constitute a find to which
creditors have a right to look for satisfaction of their claims and that the assignee in insolvency can
maintain an action upon any unpaid stock subscription in order to realize assets for the payment of
its debts. (Velasco vs. Poizat, 37 Phil., 802.) A corporation has no power to release an original
subscriber to its capital stock from the obligation of paying for his shares, without a valuable
consideration for such release; and as against creditors a reduction of the capital stock can take
place only in the manner an under the conditions prescribed by the statute or the charter or the
articles of incorporation. Moreover, strict compliance with the statutory regulations is necessary (14
C. J., 498, 620).

In the case before us the resolution releasing the shareholders from their obligation to pay 50 per
centum of their respective subscriptions was an attempted withdrawal of so much capital from the
fund upon which the company's creditors were entitled ultimately to rely and, having been effected
without compliance with the statutory requirements, was wholly ineffectual.

The judgment will be affirmed with cost, and it is so ordered.

Araullo, C. J., Malcolm, Avanceña, Villamor, Ostrand, Johns, and Romualdez, JJ., concur.

The Lawphil Project - Arellano Law Foundation

6. Miranda vs Tarlac Rice Mill

1. CORPORATIONS; PAYMENT OF SUBSCRIPTIONS TO CAPITAL STOCK. — Section 38 of the

Corporation Law provides that the board of directors of every corporation may at any time declare
due and payable to the corporation unpaid subscriptions to the capital stock and may collect the
same with interest accrued thereon or such percentage of said unpaid subscriptions as it may deem
necessary.

2. ID.; A STOCK SUBSCRIPTION IS A CONTRACT. — A stock subscription is a contract between

the corporation and the subscriber, and courts will enforce it for or against either. A corporation has
no legal capacity to release a subscriber to its capital stock from the obligation to pay for his shares,
and any agreement to this effect is invalid. (Velasco v. Poizat, 37 Phil., 802.)

3. ID.; ID.; ACTION TO RECOVER AMOUNT PAID IN TO THE CORPORATION. — This is not an
action by the corporation to recover on a subscription agreement, but an action by the administratrix
of a stockholder to recover what was paid in to the corporation by the stockholder. Neither the fact
that the corporation has ceased to do business, nor the fact that the other stockholders have not
been required to pay for their shares, in accordance with their subscription agreement, would justify
an order requiring the corporation to return to the plaintiff the amount paid by the stockholder.

DECISION
VICKERS, J.:

This is an appeal by the plaintiff from a decision of Judge A.M. Recto of the Court of First Instance
of Tarlac, dismissing the case without a special finding as to costs.

The case was tried on the following agreed statement of facts:jgc:chanrobles.com.ph

"Comparecen las partes — la demandante, asistida de su infrascrito abogado, y la demandada, por

medio de su presidente y abogado que subscriben — y para abreviar la vista de esta causa y sin
perjuicio de practicarse pruebas adicionales sobre hechos en los que las partes no estan de
acuerdo, respetuosamente someten, para la decision de esta causa, las siguientes
estipulaciones:jgc:chanrobles.com.ph

"1. Que la demandante Romana Miranda es la administradora judicial, debidamente nombrada, del
Intestado del finado Don Alberto Miranda, Civil No. 3090, de este mismo Juzgado; y la entidad
demandada es una corporacion debidamente organizada de acuerdo con las leyes en vigor en estas
Islas, teniendo su domicilio legal, lo mismo que la demandante, en esta cabecera de Tarlac,
Provincia de Tarlac;

"2. Que, con fecha 8 de junio de 1926, el hoy difunto Don Alberto Miranda — de cuyo intestado es
administradora judicial la aqui damandante — subscribio acciones de la corporacion, demandada,
otorgando al efecto un contrato de subscripcion, copia autentica del cual se une al presente y se
hace parte integrante del mismo, como Exhibit A;

"3. Que, en relacion con el contrato de subscripcion Exhibit A, a que se contrae el parrafo que
precede, Don Alberto Miranda otorgo luego una escritura de poder a favor de la demandada, cuyo
original se une asimismo al presente, haciendose parte integrante del mismo, como Exhibit B;

"4. Que, por virtud de los documentos a que se contraen los dos parrafos inmediatamente anteriores
la corporacion demandada contrajo una deuda de P10,000 a los Sres. Mariano Tablante y Carmen
Gueco, de Angeles, Pampanga, como se acredita por la escritura de prestamo hipotecario otorgada
al efecto, que tambien se adjunta a la presente, como Exhibits C y C-1;

"5. Que la demandada no ha pagado en ningun tiempo ni el capital, ni los intereses, de prestamo
arriba mencionado, motivo por el cual el referido Don Alberto Miranda hubo de entrar en arreglo
amistoso con los acreedores, al expirar el plazo convenido para el pago, satisfaciendo dicho
prestamo y sus intereses devengados, segun consta en la carta de pago extendida al efecto, que
se hace parte integrante del presente convenio como Anexo o Exhibit D;

"6. Que, a partir desde el año 1928 hasta esta fecha, la demandada ha dejado de hacer negocios y
operaciones de ninguna clase;

"7. Que, con excepcion del citado Don Alberto Miranda, ninguno de las otras accionistas y directores
de la corporacion demandada ha pagado o se la ha hecho pagar, conforme los terminos de los
contratos de subscripcion otorgados al efecto, el importe de sus respectivas acciones, y a pesar de
esta morosidad de los referidos accionistas y directores, la corporacion demandada no ha dado,
hasta la fecha, ningun paso tendente a compeler la efectividad de las referidas acciones
morosas."cralaw virtua1aw library

The only additional evidence presented was the testimony of Marciano David, which is of no
consequence in our view of the case.

The appellant makes the following assignment of errors:jgc:chanrobles.com.ph

"The trial court erred:jgc:chanrobles.com.ph

"1. In declaring that the defendant corporation did not violate the terms of the power of attorney
Exhibit B, for the plaintiff, when she obtained the loan Exhibit C;

"2. In declaring that ’all responsibility originating in the execution by the officers of the defendant
corporation of the mortgage contract Exhibit C has already ceased’;

"3. In pretending to base the decision in this case upon theories neither presented by the pleadings
of the parties nor deduced from the evidence produced by the parties’

"4. In denying the motion for new trial of the plaintiff-appellant; and

"5. In not sentencing the defendant to pay the plaintiff the sum of P10,000, with interest thereon at
P1,200 a year, from the year 1927 until paid, plus the sum of P1,500, which the principal had to pay
in the form of a penal clause for the violation of the terms of the mortgage contract Exhibit C, aside
from the legal interests of all these amounts from the presentation of the present complaint, and the
costs of the suit."cralaw virtua1aw library

It appears from the evidence that on June 8, 1926 Alberto Miranda executed a written contract
whereby he subscribed for 100 shares of the capital stock of a corporation to be organized under
the laws of the Philippine Islands for the purpose of operating a rice mill in Tarlac, said corporation
to be known as Tarlac Rice Mill Company, Inc.; that the par value of each share was P100; and that
Alberto Miranda obligated himself to pay to the treasurer of the corporation or its assign the sum of
P10,000 as follows:chanrob1es virtual 1aw library

On or before September 21, 1926 P1,000.00

On or before January 21, 1927 2,000.00

On or before January 21, 1928 2,000.00

On or before January 21, 1929 2,500.00

On or before January 21, 1930 2,500.00

On July 10, 1926 Alberto Miranda by means of a public document "assigned, mortgaged, or
transferred in lieu of cash for the benefit and to the credit of the Tarlac Rice Mill Company, Inc., a
corporation to be organized and to exist under and by virtue of the laws of the Philippine Islands",
the parcel of land described in certificate No. 751 in the land records of the Province of Tarlac; and
"to carry out the true intent, meaning, and purposes thereof I have hereby further voluntarily made,
constituted, and appointed and by these presents do make, constitute and appoint, either jointly,
Evaristo Magbag, duly elected President and Treasurer of said Company, Eusebio R. Cabrera and
Marcos P. Puno, duly elected Vice-Presidents of the same company, or anyone of the three named
elected officers of the Tarlac Rice Mill Company, Inc., jointly with C. M. Dizon to be my true and
lawful attorneys-in-fact, for me and in my name, and in my behalf to transfer, mortgage, convey or
confirm or in any way convenient to them to any local or foreign bank, firm or individual in order to
obtain, secure or solicit credit against my above described property in an amount not to exceed ten
thousand pesos (P10,000), Philippine currency, in accordance with the subscription contract
voluntary executed by me, for or to increase the capital of the said Tarlac Rice Mill Company, Inc.,
in order to carry out the purposes for which such firm is to be organized.

"That for the foregoing purposes, I hereby transfer my right and interest in the said described
properties, and by these presents do hereby give and grant unto my said attorneys-in-fact full power
and authority to do and perform all and every act and thing whatsoever requisite and necessary to
be done in all about the premises as fully to all intents and purposes as I might or could do if
personally present with full power of substitution or revocation, hereby ratify and confirm all that my
said attorneys-in-fact, anyone or all of the three, Evaristo Magbag, Eusebio R. Cabrera, and Marcos
P. Puno, jointly with C.M. Dizon or their substitutes shall lawfully do or cause to be done by virtue of
these presents."cralaw virtua1aw library

On February 19, 1927 the president and vice-president of the Tarlac Rice Mill Company, Inc., and
C.M. Dizon, acting on behalf of said corporation and Alberto Miranda, borrowed P10,000 from
Mariano Tablante, and agreed to repay said sum on or before February 19, 1928, with interest at 12
per cent per annum, and to pay a further sum of 25 per cent of the principal for attorney’s fees and
expenses of collection in case the promissory note should not be paid at maturity. Marcos Puno,
Evaristo Magbag, and Dizon & Co., Inc., jointly and severally guaranteed the payment of this sum;
and the president and vice-president of the Tarlac Rice Mill Company, Inc., and C.M. Dizon as
attorneys-in-fact of Alberto Miranda mortgaged to Mariano Tablante the aforementioned parcel of
land to secure the payment of said promissory note.

The sum of P10,000 obtained from Mariano Tablante was retained by the corporation. When the
promissory note became due, Alberto Miranda arranged for an extension of time in which to pay it,
and on July 19, 1929 he sold the aforementioned parcel of land under pacto de retro to Vicente
Panlilio for P10,000, and paid Mariano Tablante.

According to an allegation in the complaint, Alberto Miranda died on May 24, 1930.

It is agreed that the defendant corporation ceased to do business from the year 1928, and that the
other stockholders have not paid for their shares in accordance with their subscription agreement,
and that no action has been taken by the corporation to require them to do so.

The principal contention of the appellant is that the officers of the corporation violated the terms of
the power of attorney in mortgaging the land on February 19, 1927 for P10,000, because the only
sum then due and payable by Alberto Miranda to the corporation was P3,000, and that when the
remaining installments of the stock subscription became due, Alberto Miranda was under no
obligation to pay them, because the corporation had already ceased to do business, and it had taken
no steps to compel the other stockholders to pay for the shares for which they had subscribed.

No question as to the validity of subscription agreement is raised, and no fraud on the part of the
officers of the corporation is alleged or proved. We shall therefore confine ourselves to the issues
raised by the pleading.

It is true that when the property was mortgaged on February 19, 1927 the amount due from Alberto
Miranda in accordance with the subscription agreement was only P3,000, and it is likewise true that
it does not appear from the evidence that any call was issued by the directors for the payment of any
subscriptions.

The fact that Alberto Miranda agreed on June 8, 1926 to pay the amount of his subscription in
installments on certain fixed dates did not, of course, prevent him from authorizing the officers of the
corporation as his attorneys-in-fact to pay his subscription prior to the dates fixed in the subscription
agreement. Great stress is laid by the appellant upon the fact that in one paragraph of the power of
attorney it is stated that the attorneys-in-fact of Alberto Miranda are authorized to mortgage or convey
the property in any way convenient to them in the amount not to exceed P10,000 in accordance with
the subscription contract, but the phrase "in accordance with the subscription contract" is followed
by the following words "for or to increase the capital of the said Tarlac Rice Mill Company, Inc., in
order to carry out the purposes for which said firm is to be organized." Under the circumstances, it
seems to us that it would be a strained construction of the power of attorney, taking into consideration
the whole document, to hold that the officers of the corporation acting as attorneys-in-fact of Alberto
Miranda were authorized to mortgage or convey the land for only the amount then due from Alberto
Miranda in accordance with the subscription agreement. It can hardly be contended that the power
of attorney contemplated that the property should be mortgaged three times, that is, each time that
an installment became due. We are inclined to the view that it was the intention of the parties that
the property should be mortgaged immediately for a sum not to exceed P10,000, not only for the
purpose of paying the subscription agreement of Alberto Miranda, but also for the purpose, as stated
in the power of attorney, of increasing the capital of the corporation, not the capital stock, in order to
carry out the purposes for which it was to be organized. This view of the matter is confirmed by the
subsequent conduct of the parties. Although the corporation retained the full amount of the loan
obtained from Mariano Tablante, and Alberto Miranda had to pay that obligation, he never sought,
so far as the record shows, to recover from the corporation any part of the sum of P10,000. As we
have already stated, the mortgage was executed on February 19, 1927; it was satisfied by Alberto
Miranda on July 19, 1929, and he lived until May 24, 1930. It does not appear that he ever sought
to evade the satisfaction of the mortgage by alleging that his attorneys-in-fact exceeded their
authority in mortgaging the property on February 19, 1927 for P10,000. On the contrary he repaid to
Mariano Tablante the amount which the officers of the corporation had borrowed. The fact that he at
no time sought to recover from the corporation any part of the sum borrowed by the officers of the
corporation in his name certainly tends to show that he acquiesced in the action taken by them. The
phrase "in accordance with the subscription contract" found in the power of attorney probably was
intended to mean "in pursuance of the subscription agreement", that is, it referred to the obligation,
and had no particular reference to the dates when the different installments were to be paid.

Section 38 of the Corporation Law provides that the board of directors of every corporation may at
any time declared due and payable to the corporation unpaid subscriptions to the capital stock and
may collect the same with interest accrued thereon or such percentage of said unpaid subscriptions
as it may deem necessary. In his work, "The Philippine Law of Stock Corporations", page 97, Justice
Fisher expressed the opinion that this power of the directors is absolute and cannot be limited by the
subscription contract, but this does not mean that the directors may not rely on the subscription
contract it they see fit to do so.

"No call is necessary when a subscription is payable, not upon call or demand by the directors or
stockholders, but immediately, or on a specified day, or on or before a specified day, or when it is
payable in installments at specified times. In such cases it is the duty of the subscriber to pay the
subscription or installment thereof as soon as it is due, without any call or demand, and , if fails to
do so, an action may be brought at any time." (Flecther: Cyclopedia of the Law of Private
Corporations, vol. 2, page 1509.)

When this action was filed on September 2, 1930, the last of the installments had already become
payable in accordance with the subscription agreement. It must be borne in mind that this is not an
action by the corporation to recover on a subscription agreement, but an action by the administratrix
of a stockholder to recover what was paid in to the corporation by the stockholder. It does not appear
from the evidence whether or not the corporation has any debts. Neither the fact that the corporation
has ceased to do business nor the fact that the other stockholders have not been required to pay for
their shares in accordance with their subscription agreement justifies us in ordering the corporation
to return to the plaintiff the amount paid in by Alberto Miranda. If the directors have failed to perform
their duty with respect to the other stockholders, the law provides a remedy therefor.

In the case of Velasco v. Poizat (37 Phil., 802), this court held that a stock subscription is a contract
between the corporation and the subscriber, and courts will enforce it for or against either; that a
corporation has no legal capacity to release a subscriber to its capital stock from the obligation to
pay for his shares, and that any agreement to this effect is invalid.

In the case at bar it is not contended that Alberto Miranda cancelled his subscription agreement, or
that the corporation attempted to release him therefrom.

For the foregoing reasons, the decision appealed from is affirmed, with the costs against the
Appellant.

Street, Malcolm, Ostrand and Imperial, JJ., concur.

7. De Silva vs Aboitiz

The plaintiff subscribed for 650 shares of stock of the defendant corporation of the value of P500
each, of which he has paid only the total value of 200 shares, there remaining 450 shares unpaid,
for which he was indebted to the corporation in the sum of P225,000, the value thereof. On April 22,
1922, he was notified by the secretary of the corporation of a resolution adopted by the board of
directors of the corporation on the preceding day, declaring the unpaid subscriptions to the capital
stock of the corporation to have become due and payable on the following May 31st at the office
thereof, the payment to be made to the treasurer, and stating that all such shares as may have not
been paid then, with the accrued interest up to that date, will be declared delinquent, advertised for
sale at public auction, and sold on the following June 16th, for the purpose of paying up the amount
of the subscription and accrued interest, with the expenses of the advertisement and sale, unless
said payment was made before. The proper advertisement having been published, as announced in
the aforesaid notice, the plaintiff filed a complaint in the Court of First Instance of Cebu on May 5th
of the same year against the said corporation, wherein, after relating the above-mentioned facts, he
prayed for a judgment in his favor, decreeing that, in prescribing another method of paying the
subscription to the capital stock different from that provided in article 46 of its by-laws, in declaring
the aforesaid 450 shares delinquent, and in directing the sale thereof, as advertised, the corporation
had exceeded its executive authority, and as a consequence thereof he asked that a writ of injunction
be issued against the said defendant, enjoining it from taking any further action of whatever nature
in connection with the acts complained of and that it pay the costs of this
suit.chanroblesvirtualawlibrary chanrobles virtual law library

The plaintiff alleged as the grounds of his petition: (1) That, according to aforesaid article 46 of the
by-law of the corporation, which was inserted in the complaint, all the shares subscribed to by the
incorporation that were not paid for at the time of the incorporation, shall be paid out of the 70 per
cent of the profit obtained, the same to be distributed among the subscribers, who shall not receive
any dividend until said shares were paid in full; (2) that in declaring the plaintiff's unpaid subscription
to the capital stock to have become due and payable on May 31st, and in publishing the aforesaid
notice declaring his unpaid shares delinquent, the defendant corporation has violated the aforesaid
article, which prescribes an operative method of paying for the shares continuously until their full
amortization, thus violating and disregarding a right of the plaintiff vested under the said by-laws; (3)
that the aforesaid acts of the defendant corporation were in excess of its powers and executive
authority and the plaintiff had no other plain, speedy and adequate remedy in the ordinary course of
law than that prayed for in the said complaint, to prevent the defendant from taking any further action
in connection with the sale and alienation of the said shares.chanroblesvirtualawlibrary chanrobles
virtual law library

A preliminary injunction having been issued against the defendant, as prayed for by the plaintiff,
upon the giving of the proper bond, and the defendant having been summoned, the latter filed a
demurrer to the complaint on the ground that the facts alleged therein did not constitute a cause of
action, and that even supposing the plaintiff to have any lawful claim against the defendant
corporation, the special remedy applied for by the plaintiff was not the most adequate and
speedy.chanroblesvirtualawlibrary chanrobles virtual law library

Hearing having been had the court below by an order dated September 21, 1922, sustained the
aforesaid demurrer on the first ground, giving the plaintiff five days within which to amend his
complaint, but the said period having elapsed without the plaintiff having amended his complaint,
upon motion of the defendant, that court, by an order dated the 2d of the following month of October,
dismissed the complaint and ordered the dissolution of the preliminary injunction previously issued,
with costs, to which orders the plaintiff excepted, asking at the same time for the annulment thereof
and a new hearing, which motion was denied by the lower court. To that ruling the plaintiff also
excepted, and brought the case to this court by the proper bill of
exceptions.chanroblesvirtualawlibrary chanrobles virtual law library

Assuming the truth of the facts alleged in the complaint filed against the herein defendant, as the
filling of a demurrer to a complaint is made on that assumption, the question to be decided reduces
itself to determining whether or not, under the provision of article 46 of the by-laws of the defendant
corporation, the latter may declare the unpaid shares delinquent, or collect their value by another
method different from that prescribed in the aforecited article.chanroblesvirtualawlibrary chanrobles
virtual law library

Said article reads thus:

ART. 46. The net profit resulting from the annual liquidation shall be distributed as follows: Ten per
cent (10%) for the Board of Directors and in the manner prescribed in article twenty-six (26) of these
by-laws; ten per cent (10%) for the general manager; ten per cent (10%) for the reserve fund, and
seventy per cent (70%) for the shareholders in equal parts; Provided, however, That from this
seventy per cent dividend the Board of Directors may deduct such amount as it may deem fit for the
payment of the unpaid subscription to the capital stock and not pay any dividend to the holders of
the said unpaid shares until they are fully paid; Provided, further, That when all the shares have been
paid in full as provided in the preceding paragraph, the Board of Directors may also deduct such
amount as it may deem fit for the creation of an emergency special fund, or extraordinary reserve
fund when in its judgment the same may convenient for the development of the business of the
corporation or for meeting any such contingencies as may arise from its operation, whenever the
distributable dividend is found, after the foregoing deduction, to be not less than ten per cent (10%)
of the paid up capital stock.chanroblesvirtualawlibrary chanrobles virtual law library

No dividend shall be declared or paid, except when there remains a net profit after the payment of
all the expenses incurred, or allowances made, by the corporation to carry out the operation of its
business; so that no such dividend may be declared as may affect the capital of the corporation.

As will be seen from the context of the said article, its first part specifies the manner in which the net
profit from the annual liquidation should be distributed, fixing a certain per cent for the board of
directors; another for the general manager; another for the reserve fund, and the remaining 70 per
cent to be distributed in equal parts among the shareholders. But it authorizes or empowers the
board of directors to collect the value of the shares subscribed to and not fully paid by deducting
from the 70 per cent, distributable in equal parts among the shareholders, such amount as may be
deemed convenient, to be applied on the payment of the said shares, and not to pay the subscriber
until the same are fully paid up. In no other way can the words "Provided, however, that from this
seventy per cent dividend the board of directors may deduct such amount as it may deem fit for the
payment, etc." And this is so clear that in that same article the board of directors is also authorized
to create a special emergency fund or extraordinary reserve fund, when, in its judgment, and in case
all the shares subscribed to have been fully paid, the same is convenient for the development of the
business of the corporation or for meeting any such contingencies as my arise from its operation,
applying said 70 per cent of the profit on the payment of the shares that may have not been fully
paid, provided that the distributable dividend remaining after the deduction to be made for the
creation of the said special emergency fund or extraordinary reserve fund is not less than 10 per
cent of the capital actually paid. So that it is discretionary on the part of the board of directors to do
whatever is provided in the said article relative to the application of a part of the 70 per cent of the
profit distributable in equal parts on the payment of the shares subscribed to and not fully paid, and
to the creation of a special emergency fund or extraordinary reserve fund; and the fact itself that said
special fund may not be created when the dividend appearing to be distributable, after deducting
from the said 70 per cent the amount to be applied on the payment of the unpaid subscription, is
less than 10 per cent of the capital actually paid, shows that it is the board of directors and not the
delinquent subscriber that may and must judge and decide whether or not such value must be paid
out of a part of the 70 per cent of the profit distributable in equal parts among the shareholders, as
provided in the first part of the said article. It lies therefore, within the discretion of the board of
directors to make use of such authority.chanroblesvirtualawlibrary chanrobles virtual law library

If the board of directors does not wish to make, or does not make, use of said authority it has two
other remedies for accomplishing the same purpose. As was said by this court in the case of Velasco
vs. Poizat (37 Phil., 802):

The first and most special remedy given by the statute consists in permitting the corporation to put
the unpaid stock for sale and dispose of it for the account of the delinquent subscriber. In this case
the provisions of sections 38 to 48, inclusive, of the Corporation Law are applicable and must be
followed. The other remedy is by action in court concerning which we find in section 49 the following
provision:chanrobles virtual law library

"Nothing in this Act prevent the directors from collecting, by action in any court of proper jurisdiction,
the amount due on any unpaid subscription, together with accrued interest and costs and expenses
incurred."

In the instant case the board of directors of the defendant corporation elected to avail itself of the
first of said two remedies, and, complying strictly with the provisions of sections 37 to 49, inclusive,
of the aforesaid Corporation Law, which is binding upon it and its stockholders. it being an artificial
entity created by virtue of that same law (sec. 2), the board of directors made use of the discretionary
power granted to it by that law and declared that payment of plaintiff's subscription to 450 shares
which had not been paid by him was due, and that said shares were delinquent, and performed all
the other acts subsequent to said declaration that are mentioned in the complaint, as it did not deem
it advantageous to the corporation to apply on the payment of said shares, as was authorized by the
by-law, a part of the profit that was, or might have been realized, and was distributable among the
stockholders in equal parts, as to the existence of which profit no allegation is made in the complaint,
or to enforce payment of such shares by bringing in court the proper action against the debtor or
delinquent stockholders. It is, however, alleged by the appellant that the by-law of the corporation
being of the nature of a contract between it and its stockholders or members, and article 46 of the
by-laws of the said corporation providing an operative method for the payment of stock subscriptions
continuously until the full amortization thereof, application cannot be made in the present case of the
provisions above cited of the Corporation Law for the purpose contemplated by the defendant, as
the provision of said article must prevail against that law.

Admitting that the provision of article 46 of the said by-laws maybe regarded as a contract between
the defendant corporation and its stockholders , yet as it is only to the board of directors of the
corporation that said articles gives the authority or right to apply on the payment of unpaid
subscriptions such amount of the 70 per cent of the profit distributable among the shareholders in
equal parts as may be deemed fit, it cannot be maintained that the said article has prescribe an
operative method for the payment of said subscription continuously until their full amortization, or,
what would be the same thing, that said article has prescribe that sole and exclusive method for that
purpose, for, in the first place, the adoption of that method for the purpose of collecting the value of
subscriptions due and unpaid lies, according to said article, within the discretion of the board of
directions, that is, it is subject to this condition, and this can in no way be reconciled with the idea of
method, which implies something fixed as a rule or permanent standard, and not variable at the will
of somebody and according to the circumstances; and, in the second place, in connection with the
provision of the said article relative to the aforesaid discretionary power of the board of directors to
adopt that method, there is also the discretionary power granted the same board of directors to avail
itself, for the same purpose, to either of the two remedies prescribed in sections 38 to 49, inclusive,
of the aforecited Corporation Law.

In the instant case, the defendant corporation, through its board of directors, made use of its
discretionary power, taking advantage of the first of the two remedies provided by the aforesaid law.
On the other hand, the plaintiff has no right whatsoever under the provision of the above cited article
46 of the said by-laws to prevent the board of directors from following, for that purpose, any other
method than that mentioned in the said article, for the very reason that the same does not give the
stockholders any right in connection with the determination of the question whether or not there
should be deducted from the 70 per cent of the profit distributable among the stockholders such
amount as may be deemed fit for the payment of subscriptions due and unpaid. Therefore, it is
evident that the defendant corporation has not violated, nor disregarded any right of the plaintiff
recognized by the said by-laws, nor exceeded its authority in the discharge of its executive functions,
nor abused its discretion when it performed the acts mentioned in the complaint as grounds thereof,
and, consequently, the facts therein alleged do not constitute a cause of action.

For the foregoing, the orders appealed from are affirmed, with the costs of both instances against
the appellant. So ordered.

Street, Malcolm, Avanceña, Ostrand, Johns, and Romualdez, JJ., concur.

9.Republic Planters v Honorable Agana

This is a petition for certiorari seeking the annulment of the Decision 1 of the then Court of First
Instance of Rizal 2 for having been rendered in grave abuse of discretion. Private respondents
Robes-Francisco Realty and Development Corporation (hereafter, "the Corporation") and Adalia F.
Robes filed in the court a quo, an action for specific performance to compel petitioner to redeem 800
preferred shares of stock with a face value of P8,000.00 and to pay 1% quarterly interest thereon as
quarterly dividend owing them under the terms and conditions of the certificates of stock.

The court a quo rendered judgment in favor of private respondents; hence, this instant petition.

Herein parties debate only legal issues, no issues of fact having been raised by them in the court a
quo. For ready reference, however, the following narration of pertinent transactions and events is in
order:

On September 18, 1961, private respondent Corporation secured a loan from petitioner in the
amount of P120,000.00. As part of the proceeds of the loan, preferred shares of stocks were issued
to private respondent Corporation, through its officers then, private respondent Adalia F. Robes and
one Carlos F. Robes. In other words, instead of giving the legal tender totaling to the full amount of
the loan, which is P120,000.00, petitioner lent such amount partially in the form of money and
partially in the form of stock certificates numbered 3204 and 3205, each for 400 shares with a par
value of P10.00 per share, or for P4,000.00 each, for a total of P8,000.00. Said stock certificates
were in the name of private respondent Adalia F. Robes and Carlos F. Robes, who subsequently,
however, endorsed his shares in favor of Adalia F. Robes.

Said certificates of stock bear the following terms and conditions:

The Preferred Stock shall have the following rights, preferences, qualifications and limitations, to wit:

1. Of the right to receive a quarterly dividend of One Per Centum (1%), cumulative and
participating.

xxx xxx xxx

2. That such preferred shares may be redeemed, by the system of drawing lots, at any time
after two (2) years from the date of issue at the option of the Corporation. . . .

On January 31, 1979, private respondents proceeded against petitioner and filed a Complaint
anchored on private respondents' alleged rights to collect dividends under the preferred shares in
question and to have petitioner redeem the same under the terms and conditions of the stock
certificates. Private respondents attached to their complaint, a letter-demand dated January 5, 1979
which, significantly, was not formally offered in evidence.
Petitioner filed a Motion to Dismiss 3 private respondents' Complaint on the following grounds: (1)
that the trial court had no jurisdiction over the subject-matter of the action; (2) that the action was
unenforceable under substantive law; and (3) that the action was barred by the statute of limitations
and/or laches.

Petitioner's Motion to Dismiss was denied by the trial court in an Order dated March 16, 1979. 4
Petitioner then filed its Answer on May 2, 1979. 5 Thereafter, the trial court gave the parties ten (10)
days from July 30, 1979 to submit their respective memoranda after the submission of which the
case would be deemed submitted for resolution. 6

On September 7, 1979, the trial court rendered the herein assailed decision in favor of private
respondents. In ordering petitioner to pay private respondents the face value of the stock certificates
as redemption price, plus 1% quarterly interest thereon until full payment, the trial court ruled:

There being no issue of fact raised by either of the parties who filed their respective memoranda
delineating their respective contentions, a judgment on the pleadings, conformably with an earlier
order of the Court, appears to be in order.

From a further perusal of the pleadings, it appears that the provision of the stock certificates in
question to the effect that the plaintiffs shall have the right to receive a quarterly dividend of One Per
Centum (1%), cumulative and participating, clearly and unequivocably [sic] indicates that the same
are "interest bearing stocks" which are stocks issued by a corporation under an agreement to pay a
certain rate of interest thereon (5 Thompson, Sec. 3439). As such, plaintiffs become entitled to the
payment thereof as a matter of right without necessity of a prior declaration of dividend.

On the question of the redemption by the defendant of said preferred shares of stock, the very
wordings of the terms and conditions in said stock certificates clearly allows the same.

To allow the herein defendant not to redeem said preferred shares of stock and/or pay the interest
due thereon despite the clear import of said provisions by the mere invocation of alleged Central
Bank Circulars prohibiting the same is tantamount to an impairment of the obligation of contracts
enshrined in no less than the fundamental law itself.

Moreover, the herein defendant is considered in estoppel from taking shelter behind a General
Banking Act provision to the effect that it cannot buy its own shares of stocks considering that the
very terms and conditions in said stock certificates allowing their redemption are its own handiwork.

As to the claim by the defendant that plaintiffs' cause of action is barred by prescription, suffice it to
state that the running of the prescriptive period was considered interrupted by the written extrajudicial
demands made by the plaintiffs from the defendant. 7

Aggrieved by the decision of the trial court, petitioner elevated the case before us essentially on pure
questions of law. Petitioner's statement of the issues that it submits for us to adjudicate upon, is as
follows:

A. RESPONDENT JUDGE COMMITTED A GRAVE ABUSE OF DISCRETION AMOUNTING

TO LACK OR EXCESS OF JURISDICTION IN ORDERING PETITIONER TO PAY RESPONDENT
ADALIA F. ROBES THE AMOUNT OF P8213.69 AS INTERESTS FROM 1961 TO 1979 ON HER
PREFERRED SHARES.

B. RESPONDENT JUDGE COMMITTED A GRAVE ABUSE OF DISCRETION AMOUNTING

TO LACK OR EXCESS OF JURISDICTION IN ORDERING PETITIONER TO REDEEM
RESPONDENT ADALIA F. ROBES' PREFERRED SHARES FOR P8,000.00.

C. RESPONDENT JUDGE COMMITTED A GRAVE ABUSE OF DISCRETION AMOUNTING

TO LACK OR EXCESS OF JURISDICTION IN DISREGARDING THE ORDER OF THE CENTRAL
BANK TO PETITIONER TO DESIST FROM REDEEMING ITS PREFERRED SHARES AND FROM
PAYING DIVIDENDS THEREON . . . .

D. THE TRIAL COURT ERRED IN NOT HOLDING THAT THE COMPLAINT DOES NOT
STATE A CAUSE OF ACTION.

E. THE TRIAL COURT ERRED IN NOT HOLDING THAT THE CLAIM OF RESPONDENT
ADALIA F. ROBES IS BARRED BY PRESCRIPTION OR LACHES. 8

The petition is meritorious.

Before passing upon the merits of this petition, it may be pertinent to provide an overview on the
nature of preferred shares and the redemption thereof, considering that these issues lie at the heart
of the dispute.

A preferred share of stock, on one hand, is one which entitles the holder thereof to certain
preferences over the holders of common stock. The preferences are designed to induce persons to
subscribe for shares of a corporation. 9 Preferred shares take a multiplicity of forms. The most
common forms may be classified into two: (1) preferred shares as to assets; and (2) preferred shares
as to dividends. The former is a share which gives the holder thereof preference in the distribution
of the assets of the corporation in case of liquidation; 10 the latter is a share the holder of which is
entitled to receive dividends on said share to the extent agreed upon before any dividends at all are
paid to the holders of common stock. 11 There is no guaranty, however, that the share will receive
any dividends. Under the old Corporation Law in force at the time the contract between the petitioner
and the private respondents was entered into, it was provided that "no corporation shall make or
declare any dividend except from the surplus profits arising from its business, or distribute its capital
stock or property other than actual profits among its members or stockholders until after the payment
of its debts and the termination of its existence by limitation or lawful dissolution." 12 Similarly, the
present Corporation Code 13 provides that the board of directors of a stock corporation may declare
dividends only out of unrestricted retained earnings. 14 The Code, in Section 43, adopting the
change made in accounting terminology, substituted the phrase "unrestricted retained earnings,"
which may be a more precise term, in place of "surplus profits arising from its business" in the former
law. Thus, the declaration of dividends is dependent upon the availability of surplus profit or
unrestricted retained earnings, as the case may be. Preferences granted to preferred stockholders,
moreover, do not give them a lien upon the property of the corporation nor make them creditors of
the corporation, the right of the former being always subordinate to the latter. Dividends are thus
payable only when there are profits earned by the corporation and as a general rule, even if there
are existing profits, the board of directors has the discretion to determine whether or not dividends
are to be declared. 15 Shareholders, both common and preferred, are considered risk takers who
invest capital in the business and who can look only to what is left after corporate debts and liabilities
are fully paid. 16

Redeemable shares, on the other hand, are shares usually preferred, which by their terms are
redeemable at a fixed date, or at the option of either issuing corporation, or the stockholder, or both
at a certain redemption price. 17 A redemption by the corporation of its stock is, in a sense, a
repurchase of it for cancellation. 18 The present Code allows redemption of shares even if there are
no unrestricted retained earnings on the books of the corporation. This is a new provision which in
effect qualifies the general rule that the corporation cannot purchase its own shares except out of
current retained earnings. 19 However, while redeemable shares may be redeemed regardless of
the existence of unrestricted retained earnings, this is subject to the condition that the corporation
has, after such redemption, assets in its books to cover debts and liabilities inclusive of capital stock.
Redemption, therefore, may not be made where the corporation is insolvent or if such redemption
will cause insolvency or inability of the corporation to meet its debts as they mature. 20

We come now to the merits of the case. The petitioner argues that it cannot be compelled to redeem
the preferred shares issued to the private respondent. We agree. Respondent judge, in ruling that
petitioner must redeem the shares in question, stated that:
On the question of the redemption by the defendant of said preferred shares of stock, the very
wordings of the terms and conditions in said stock certificates clearly allows the same. 21

What respondent judge failed to recognize was that while the stock certificate does allow redemption,
the option to do so was clearly vested in the petitioner bank. The redemption therefore is clearly the
type known as "optional". Thus, except as otherwise provided in the stock certificate, the redemption
rests entirely with the corporation and the stockholder is without right to either compel or refuse the
redemption of its stock. 22 Furthermore, the terms and conditions set forth therein use the word
"may". It is a settled doctrine in statutory construction that the word "may" denotes discretion, and
cannot be construed as having a mandatory effect. We fail to see how respondent judge can ignore
what, in his words, are the "very wordings of the terms and conditions in said stock certificates" and
construe what is clearly a mere option to be his legal basis for compelling the petitioner to redeem
the shares in question.

The redemption of said shares cannot be allowed. As pointed out by the petitioner, the Central Bank
made a finding that said petitioner has been suffering from chronic reserve deficiency, 23 and that
such finding resulted in a directive, issued on January 31, 1973 by then Gov. G.S. Licaros of the
Central Bank, to the President and Acting Chairman of the Board of the petitioner bank prohibiting
the latter from redeeming any preferred share, on the ground that said redemption would reduce the
assets of the Bank to the prejudice of its depositors and creditors. 24 Redemption of preferred shares
was prohibited for a just and valid reason. The directive issued by the Central Bank Governor was
obviously meant to preserve the status quo, and to prevent the financial ruin of a banking institution
that would have resulted in adverse repercussions, not only to its depositors and creditors, but also
to the banking industry as a whole. The directive, in limiting the exercise of a right granted by law to
a corporate entity, may thus be considered as an exercise of police power. The respondent judge
insists that the directive constitutes an impairment of the obligation of contracts. It has, however,
been settled that the Constitutional guaranty of non-impairment of obligations of contract is limited
by the exercise of the police power of the state, the reason being that public welfare is superior to
private rights. 25

The respondent judge also stated that since the stock certificate granted the private respondents the
right to receive a quarterly dividend of One Per Centum (1%) cumulative and participating, it "clearly
and unequivocably (sic) indicates that the same are "interest bearing stocks" or stocks issued by a
corporation under an agreement to pay a certain rate of interest thereon. As such, plaintiffs (private
respondents herein) become entitled to the payment thereof as a matter of right without necessity of
a prior declaration of dividend." 26 There is no legal basis for this observation. Both Sec. 16 of the
Corporation Law and Sec. 43 of the present Corporation Code prohibit the issuance of any stock
dividend without the approval of stockholders, representing not less than two-thirds (2/3) of the
outstanding capital stock at a regular or special meeting duly called for the purpose. These provisions
underscore the fact that payment of dividends to a stockholder is not a matter of right but a matter
of consensus. Furthermore, "interest bearing stocks", on which the corporation agrees absolutely to
pay interest before dividends are paid to common stockholders, is legal only when construed as
requiring payment of interest as dividends from net earnings or surplus only. 27 Clearly, the
respondent judge, in compelling the petitioner to redeem the shares in question and to pay the
corresponding dividends, committed grave abuse of discretion amounting to lack or excess of
jurisdiction in ignoring both the terms and conditions specified in the stock certificate, as well as the
clear mandate of the law.

Anent the issue of prescription, this Court so holds that the claim of private respondent is already
barred by prescription as well as laches. Art. 1144 of the New Civil Code provides that a right of
action that is founded upon a written contract prescribes in ten (10) years. The letter-demand made
by the private respondents to the petitioner was made only on January 5, 1979, or almost eighteen
years after receipt of the written contract in the form of the stock certificate. As noted earlier, this
letter-demand, significantly, was not formally offered in evidence, nor were any other evidence of
demand presented. Therefore, we conclude that the only time the private respondents saw it fit to
assert their rights, if any, to the preferred shares of stock, was after the lapse of almost eighteen
years. The same clearly indicates that the right of the private respondents to any relief under the law
has already prescribed. Moreover, the claim of the private respondents is also barred by laches.
Laches has been defined as the failure or neglect, for an unreasonable length of time, to do that
which by exercising due diligence could or should have been done earlier; it is negligence or
omission to assert a right within a reasonable time, warranting a presumption that the party entitled
to assert it either has abandoned it or declined to assert it. 28

Considering that the terms and conditions set forth in the stock certificate clearly indicate that
redemption of the preferred shares may be made at any time after the lapse of two years from the
date of issue, private respondents should have taken it upon themselves, after the lapse of the said
period, to inquire from the petitioner the reason why the said shares have not been redeemed. As it
is, not only two years had lapsed, as agreed upon, but an additional sixteen years passed before the
private respondents saw it fit to demand their right. The petitioner, at the time it issued said preferred
shares to the private respondents in 1961, could not have known that it would be suffering from
chronic reserve deficiency twelve years later. Had the private respondents been vigilant in asserting
their rights, the redemption could have been effected at a time when the petitioner bank was not
suffering from any financial crisis.

WHEREFORE, the instant petition, being impressed with merit, is hereby GRANTED. The
challenged decision of respondent judge is set aside and the complaint against the petitioner is
dismissed.

Costs against the private respondents.

SO ORDERED.

Bellosillo, Vitug and Kapunan, JJ., concur.

Padilla, J., concurs in the result.

10. Commissioner vs Manning

Under a trust agreement, Julius Reese who owned 24,700 shares of the 25,000 common shares of
MANTRASCO, and the three private respondents who owned the rest, at 100 shares each,
deposited all their shares with the Trustees. The trust agreement provided that upon Reese’s death
MANTRASCO shall purchase Reese’s shares. The trust agreement was executed in view of Reese’s
desire that upon his death the Company would continue under the management of respondents.
Upon Reese’s death and partial payment by the company of Reeses’s share, a new certificate was
issued in the name of MANTRASCO, and the certificate indorsed to the Trustees. Subsequently, the
stockholders reverted the 24,700 shares in the Treasury to the capital account of the company as
stock dividends to be distributed to the stockholders. When the entire purchase price of Reese’s
interest in the company was paid in full by the latter, the trust agreement was terminated, and the
shares held in trust were delivered to the company.

The Bureau of Internal Revenue concluded that the distribution of the 24,700 shares of Reese as
stock dividends was in effect a distribution of the "assets or property of the corporation." It therefore
assessed respondents for deficiency income taxes as well as for fraud penalty and interest charges.
The Court of Tax Appeals absolved respondent from any liability for receiving the questioned stock
dividends on the ground that their respective one-third interest in the Company remained the same
before and after the declaration of the stock dividends and only the number of shares held by each
of them had changed.

On a petition for review, the Supreme Court held that the newly acquired shares were not treasury
shares; their declaration as treasury stock dividends was a complete nullity and that the assessment
by the Commissioner of fraud penalty and the imposition of interest charges pursuant to the provision
of the Tax Code were made in accordance with law.

Judgment of the Court of Tax Appeals se aside.

SYLLABUS

1. PRIVATE CORPORATIONS; SHARES OF STOCKS; TREASURY; SHARES. — Treasury

shares are stocks issued and fully paid for and re-acquired by the corporation either by purchase,
donation, forfeiture or other means. They are therefore issued shares, but being in the treasury they
do not have the status of outstanding shares. Consequently, although a treasury share, not having
been retired by the corporation re-acquiring it, may be re-issued or sold again, such share, as long
as it is held by the corporation as a treasury share, participates neither in dividends, because
dividends cannot be declared by the corporation to itself, nor in the meetings of the corporations as
voting stock, for otherwise equal distribution of voting powers among stockholders will be effectively
lost and the directors will be able to perpetuate their control of the corporation though it still represent
a paid — for interest in the property of the corporation.

2. ID.; ID.; ID.; DECLARATION OF QUESTIONED SHARES AS TREASURY STOCK

DIVIDENDS, A NULLITY. — Where the manifest intention of the parties to the trust agreement was,
in sum and substance, to treat the shares of a deceased stockholder as absolutely outstanding
shares of said stockholder’s estate until they were fully paid. the declaration of said shares as
treasury stock dividend was a complete nullity and plainly violative of public policy.

3. ID.; ID.; STOCK DIVIDEND PAYABLE ONLY FROM RETAINED EARNINGS. — A stock
dividend, being one payable in capital stock, cannot be declared out of outstanding corporate stock,
but only from retained earnings.
4. ID.; ID.; PURCHASE OF HOLDING RESULTING IN DISTRIBUTION OF EARNINGS
TAXABLE. — Where by the use of a trust instrument as a convenient technical device, respondents
bestowed unto themselves the full worth and value of a deceased stockholder’s corporate holding
acquired with the very earnings of the companies, such package device which obviously is not
designed to carry out the usual stock dividend purpose of corporate expansion reinvestment, e.g.,
the acquisition of additional facilities and other capital budget items, but exclusively for expanding
the capital base of the surviving stockholders in the company, cannot be allowed to deflect the latter’s
responsibilities toward our income tax laws. The conclusion is ineluctable that whenever the
company parted with a portion of its earnings "to buy" the corporate holdings of the deceased
stockholders, it was in ultimate effect and result making a distribution of such earnings to the
surviving stockholders. All these amounts are consequently subject to income tax as being, in truth
and in fact, a flow of cash benefits to the surviving stockholders.

5. ID.; ID.; ID.; COMMISSIONER ASSESSMENT BASED ON THE TOTAL ACQUISITION

COST OF THE ALLEGED TREASURY STOCK DIVIDENDS, ERROR. — Where the surviving
stockholders, by resolution, partitioned among themselves, as treasury stock dividends, the
deceased stockholder’s interest, and earnings of the corporation over a period of years were used
to gradually wipe out the holdings therein of said deceased stockholder, the earnings (which in effect
have been distributed to the surviving stockholders when they appropriated among themselves the
deceased stockholder’s interest), should be taxed for each of the corresponding years when
payments were made to the deceased’s estate on account of his shares. In other words, the Tax
Commissioner may not asses the surviving stockholders, for income tax purposes, the total
acquisition cost of the alleged treasury stock dividends in one lump sum. However, with regard to
payment made with the corporation’s earnings before the passage of the resolution declaring as
stock dividends the deceased stockholder’s interest (while indeed those earnings were utilized in
those years to gradually pay off the value of the deceased stockholder’s holdings), the surviving
stockholders should be liable (in the absence of evidence that prior to the passage of the
stockholder’s resolution the contributed of each of the surviving stockholder rose corresponding), for
income tax purposes, to the extent of the aggregate amount paid by the corporation (prior to such
resolution) to buy off the deceased stockholder’s shares. The reason is that it was only by virtue of
the authority contained in said resolution that the surviving stockholders actually, albeit illegally,
appropriated and petitioned among themselves the stockholders equity representing the deceased
stockholder’s interest.

6. TAXATION; INCOME TAX; ASSESSMENT OF FRAUD PENALTY AND IMPOSITION OF

INTEREST CHARGES IN ACCORDANCE WITH LAW DESPITE NULLITY OF RESOLUTION
AUTHORIZING DISTRIBUTION OF EARNINGS. — The fact that the resolution authorizing the
distribution of earnings is null and void is of no moment. Under the National Internal Revenue Code,
income tax is assessed on income received from any property, activity or service that produces
income. The Tax Code stands as an indifferent, neutral party on the matter of where the income
comes from. The action taken by the Commissioner of assessing fraud penalty and imposing interest
charges pursuant to the provisions of the Tax Code is in accordance with law.

DECISION

CASTRO, J.:

This is a petition for review of the decision of the Court of Tax Appeals, in CTA case 1626, which set
aside the income tax assessments issued by the Commissioner of Internal Revenue against John L.
Manning, W.D. McDonald and E.E. Simmons (hereinafter referred to as the respondents), for alleged
undeclared stock dividends received in 1958 from the Manila Trading and Supply Co. (hereinafter
referred to as the MANTRASCO) valued at P7,973,660.
In 1952 the MANTRASCO had an authorized capital stock of P2,500,000 divided into 25,000
common shares; 24,700 of these were owned by Julius S. Reese, and the rest, at 100 shares each,
by the three respondents.

On February 29, 1952, in view of Reese’s desire that upon his death MANTRASCO and its two
subsidiaries, MANTRASCO (Guam), Inc. and the Port Motors, Inc., would continue under the
management of the respondents, a trust agreement on his and the respondents’ interests in
MANTRASCO was executed by and among Reese (therein referred to as OWNER), MANTRASCO
(therein referred to as COMPANY), the law firm of Ross, Selph, Carrascoso and Janda (therein
referred to as TRUSTEES), and the respondents (therein referred to as MANAGERS).

The trust agreement pertinently provides as follows:jgc:chanrobles.com.ph

"1. Upon the execution of this agreement the OWNER shall deposit with the TRUSTEES, duly
endorsed and ready for transfer Twenty-Four Thousand Seven Hundred (24,700) shares of the
capital stock of the COMPANY, these shares being all shares of the capital stock of the COMPANIES
belonging to him . . .

"2. Upon the execution of this Agreement the MANAGERS shall deposit with the TRUSTEES,
duly endorsed and ready for transfer, all shares of the capital stock of the COMPANIES belonging
to any of them.

"3. (a) The OWNER and the MANAGERS, and each of them, agree that if any of them shall at
any time during the life of this trust acquire any additional shares of stock of any of the COMPANIES,
or of any successor company, or any shares in substitution, exchange or replacement of the shares
subject to this agreement, they shall forthwith endorse and deposit such shares with the TRUSTEES
hereunder and such additional or other shares shall become subject to this agreement; shares
deposited by the OWNER and shares received by the TRUSTEES as stock dividends on, or in
substitution, exchange or replacement of, such shares so deposited under this agreement being
MANAGERS’ SHARES.

"(b) All shares deposited under paragraphs 1, 2 and 3(a) hereof shall, during the life of the
OWNER, remain in the name of and shall be voted by the respective parties making the deposit ...

"4. (a) Upon the death of the OWNER and the receipt by the TRUSTEES of the initial payment
from the company purchasing the OWNER’S SHARES, the TRUSTEES shall cause the OWNER’S
SHARES to be transferred into the name of such company and such company shall thereupon
transfer such shares into the name of the TRUSTEES and the TRUSTEES shall hold such shares
until payment for all such shares shall have been made by the company as provided in this
agreement.

x x x

"(c) The TRUSTEES shall vote all stock standing in their name or the name of their nominees at
all meetings and shall be in all respects entitled to all the rights as owners of said shares, subject,
however, to the provisions of this agreement of trust.

"(d) Any and all dividends paid on said shares after the death of the OWNER shall be subject to
the provisions of this agreement.

x x x

"5. (b) It is expressly agreed and understood, however, that the declaration of dividends and
amount of earnings transferred to surplus shall be subject to the approval of the TRUSTEES and the
TRUSTEES shall participate to such extent in the affairs of the COMPANIES as they deem
necessary to insure the carrying out of this agreement and the discharge of the obligations of the
COMPANIES and each of them and of the MANAGERS hereunder.

"(c) The TRUSTEES shall designate one or more directors of each of the COMPANIES as they
shall consider advisable and corresponding shares shall be transferred to such directors to qualify
them to act.

x x x

"8. (a) Upon the death of the OWNER, the COMPANIES or any one or more of them shall
purchase the OWNER’S SHARES; it being the intent that any of the COMPANIES shall purchase all
or a proportionate part of the OWNER’S SHARES . . .

"(b) The purchase price of such shares shall be the book value of such share computed in United
States dollars . . .

x x x

"(d) All dividends paid on stock that had been OWNER’S SHARES, from the time of the transfer
of such shares by one or more of the COMPANIES to the TRUSTEES as provided in Article 4 until
payment in full for such OWNER’S SHARES shall have been made by each of the COMPANIES
which shall have purchased the same, shall be credited as payments on account of the purchase
price of such shares and shall be a prepayment on account of the next due installment or installments
of such purchase price.

x x x

"12. The TRUSTEES may from time to time increase or decrease the unpaid balance of the
purchase price of the shares being purchased by any COMPANY or COMPANIES should they in
their exclusive discretion determine that such increase or decrease would be necessary to carry out
the intention of the parties that the Estate and heirs of the OWNER shall receive the fair value of the
shares deposited in Trust as such value existed at the date of the death of the OWNER. . .

"13. Should the said COMPANIES or any of them be unable or unwilling to comply with their
obligations hereunder when due, the TRUSTEES may terminate this agreement and dispose of all
the shares of stock deposited hereunder, whether or not payment shall have been made for part of
such stock, applying the proceeds of such sale or disposition to the unpaid balance of the purchase
price:jgc:chanrobles.com.ph

"(a) If, upon any such sale or disposition of the stock, the TRUSTEES shall receive an amount in
excess of the unpaid balance of the purchase price agreed to be paid by the COMPANIES for the
OWNER’S SHARES such excess, after deducting all expenses, charges and taxes, shall be paid to
the then MANAGERS.

x x x

"17. Until the delivery to him of the shares purchased by him, no MANAGER, shall sell, assign,
mortgage, pledge, transfer or in anywise encumber or hypothecate such shares or his interest in this
agreement.

x x x
"19. After the death of the OWNER and during the period of this trust the COMPANIES shall pay
no dividends except as may be authorized by the TRUSTEES. Dividends on MANAGER’S SHARES
shall, so long as they shall not be in default under this agreement, be paid over by the TRUSTEES
to the MANAGERS. Dividends on OWNER’S SHARES shall be applied in liquidation of the
COMPANIES’ liabilities hereunder as provided in Article 8(d).

x x x

"26. The TRUSTEES may, after the death of the OWNER and during the life of this trust, vote any
and all shares held in trust, at any general and special meeting of stockholders for all purposes,
including but not limited to wholly or partially liquidating or reducing the capital of any COMPANY or
COMPANIES, authorizing the sale of any or all assets, and election of directors . . .

x x x

"28. The COMPANIES and each of them undertake and agree by proper corporate act to reduce
their capitalization, sell or encumber their assets, amend their articles of incorporation, reorganize,
liquidate, dissolve and do all other things the TRUSTEES in their discretion determine to be
necessary to enable them to comply with their obligations hereunder and the TRUSTEES are hereby
irrevocably authorized to vote all shares of the COMPANIES and each of them at any general or
special meeting for the accomplishment of such purposes. . . ."cralaw virtua1aw library

On October 19, 1954 Reese died. The projected transfer of his shares in the name of MANTRASCO
could not, however, be immediately effected for lack of sufficient funds to cover initial payment on
the shares.

On February 2, 1955, after MANTRASCO made a partial payment of Reese’s shares, the certificate
for the 24,700 shares in Reese’s name was cancelled and a new certificate was issued in the name
of MANTRASCO. On the same date, and in the meantime that Reese’s interest had not been fully
paid, the new certificate was endorsed to the law firm of Ross, Selph, Carrascoso and Janda, as
trustees for and in behalf of MANTRASCO.

On December 22, 1958, at a special meeting of MANTRASCO stockholders, the following resolution
was passed:jgc:chanrobles.com.ph

"RESOLVED, that the 24,700 shares in the Treasury be reverted back to the capital account of the
company as a stock dividend to be distributed to shareholders of record at the close of business on
December 22, 1958, in accordance with the action of the Board of Directors at its meeting on
December 19, 1958 which action is hereby approved and confirmed."cralaw virtua1aw library

On November 25, 1963 the entire purchase price of Reese’s interest in MANTRASCO was finally
paid in full by the latter, On May 4, 1964 the trust agreement was terminated and the trustees
delivered to MANTRASCO all the shares which they were holding in trust.

Meanwhile, on September 14, 1962, an examination of MANTRASCO’s books was ordered by the
Bureau of Internal Revenue. The examination disclosed that (a) as of December 31, 1958 the 24,700
shares declared as dividends had been proportionately distributed to the respondents, representing
a total book value or acquisition cost of P7,973,660; (b) the respondents failed to declare the said
stock dividends as part of their taxable income for the year 1958; and (c) from 1956 to 1961 the
following amounts were paid by MANTRASCO to Reese’s estate by virtue of the trust agreement, to
wit:chanrob1es virtual 1aw library

Amounts

Year Liabilities Paid

1956 P5,830,587.86P 2,143,073.00

1957 5,317,137.86 513,450.00

1958 4,824,059.28 493,078.58

1959 4,319,420.14 504,639.14

1960 3,849,720.14 469,700.00

1961 3,811,387.69 38,332.45

On the basis of their examination, the BIR examiners concluded that the distribution of Reese’s
shares as stock dividends was in effect a distribution of the "asset or property of the corporation as
may be gleaned from the payment of cash for the redemption of said stock and distributing the same
as stock dividend." On April 14, 1965 the Commissioner of Internal Revenue issued notices of
assessment for deficiency income taxes to the respondents for the year 1958, as follows:chanrob1es
virtual 1aw library

J.L. Manning W.D. McDonald E.E. Simmons

Deficiency Income Tax P1,416,469.00P1,442,719.00 P1,450,434.00

Add 50% surcharge* 723,234.50 721,359.507 25,217.00

1/2% monthly interest from

6-20-59 to 6-20-62 260,364.42 259,689.42 261,078.12

———— ———— ————

TOTAL AMOUNT DUE

& COLLECTIBLE P2,430,067.92 P2,423,767.922,436,729.12

The respondents unsuccessfully challenged the foregoing assessments and, failing to secure a
favorable reconsideration, appealed to the Court of Tax Appeals.

On October 30, 1967 the CTA rendered judgment absolving the respondents from any liability for
receiving the questioned stock dividends on the ground that their respective one-third interest in
MANTRASCO remained the same before and after the declaration of stock dividends and only the
number of shares held by each of them had changed.

Hence, the present recourse.

All the parties rely upon the same provisions of the Tax Code and internal revenue regulations to
bolster their respective positions. These are:chanrob1es virtual 1aw library

A. National Internal Revenue Code

"SEC. 83. Distribution of dividends or assets by corporations — (a) Definition of Dividends —

The term ‘dividends’ when used in this Title means any distribution made by a corporation to its
shareholders out of its earnings or profits accrued since March first, nineteen hundred and thirteen,
and payable to its shareholders, whether in money or in other property.
"Where a corporation distributes all of its assets in complete liquidation or dissolution the gain
realized or loss sustained by the stockholder, whether individual or corporate, is a taxable income or
deductible loss, as the case may be.

"(b) Stock dividend. — A stock dividend representing the transfer of surplus to capital account
shall not be subject to tax. However, if a corporation cancels or redeems stock issued as a dividend
at such time and in such manner as to make the distribution and cancellation or redemption, in whole
or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed
in redemption or cancellation of the stock shall be considered as taxable income to the extent that it
represents a distribution of earnings or profits accumulated after March first, nineteen hundred and
thirteen."cralaw virtua1aw library

B. B.I.R. Regulations

"SEC. 251. Dividends paid in property. — Dividends paid in securities or other property (other
than its own stock), in which the earnings of the corporation have been invested, are income to the
recipients to the amount of the full market value of such property when receivable by individual
stockholders . . .

"SEC. 252. Stock dividend. — A stock dividend which represents the transfer of surplus to capital
account is not subject to income tax. However, a dividend in stock may constitute taxable income to
the recipients thereof notwithstanding the fact that the officers or directors of the corporation (as
defined in section 84) choose to call such distribution as a stock dividend. The distinction between a
stock dividend which does not, and one which does, constitute income taxable to the shareholders
is the distinction between a stock dividend which works no change in the corporate entity, the same
interest in the same corporation being represented after the distribution by more shares of precisely
the same character, and a stock dividend where there either has been change of corporate identity
or a change in the nature of the shares issued as dividends whereby the proportional interest of the
shareholder after the distribution is essentially different from the former interest. A stock dividend
constitutes income if it gives the shareholder an interest different from that which his former
stockholdings represented. A stock dividend does not constitute income if the new shares confer no
different rights or interests than did the old — the new certificate plus the old representing the same
proportionate interest in the net assets of the corporation as did the old."cralaw virtua1aw library

The parties differ, however, on the taxability of the "treasury" stock dividends received by the
respondents.

The respondents anchor their argument on the same basis as the Court of Tax Appeals; whereas
the Commissioner maintains that the full value (P7,973,660) of the shares redeemed from Reese by
MANTRASCO which were subsequently distributed to the respondents as stock dividends in 1958
should be taxed as income of the respondents for that year, the said distribution being in effect a
distribution of cash. The respondents’ interests in MANTRASCO, he further argues, were only .4%
prior to the declaration of the stock dividends in 1958, but rose to 33 1/3% each after the said
declaration.

In submitting their respective contentions, it is the assumption of both parties that the 24,700 shares
declared as stock dividends were treasury shares. We are however convinced, after a careful study
of the trust agreement, that the said shares were not, on December 22, 1958 or at anytime before
or after that date, treasury shares. The reasons are quite plain.

Although authorities may differ on the exact legal and accounting status of so-called "treasury
shares," 1 they are more or less in agreement that treasury shares are stocks issued and fully paid
for and re-acquired by the corporation either by purchase, donation, forfeiture or other means. 2
Treasury shares are therefore issued shares, but being in the treasury they do not have the status
of outstanding shares. 3 Consequently, although a treasury share, not having been retired by the
corporation re-acquiring it, may be re-issued or sold again, such share, as long as it is held by the
corporation as a treasury share, participates neither in dividends, because dividends cannot be
declared by the corporation to itself, 4 nor in the meetings of the corporation as voting stock, for
otherwise equal distribution of voting powers among stockholders will be effectively lost and the
directors will be able to perpetuate their control of the corporation, 5 though it still represents a paid-
for interest in the property of the corporation. 6 The foregoing essential features of a treasury stock
are lacking in the questioned shares. Thus,

(a) under paragraph 4(c) of the trust agreement, the trustees were authorized to vote all stock
standing in their names at all meetings and to exercise all rights "as owners of said shares" — this
authority is reiterated in paragraphs 26 and 28 of the trust agreement;

(b) under paragraph 4(d), "Any and all dividends paid on said shares after the death of the
OWNER shall be subject to the provisions of this agreement;"

(c) under paragraph 5(b), the amount of retained earnings to be declared as dividends was made
subject to the approval of the trustees of the 24,700 shares;

(d) under paragraph 5(c), the choice of corporate directors was delegated exclusively to the
trustees who were also given the authority to transfer qualifying shares to such directors; and

(e) under paragraph 19, MANTRASCO and its two subsidiaries were expressly prohibited from
paying "dividends except as may be authorized by the TRUSTEES;" in the same paragraph mention
was also made of "dividends on OWNER’S SHARES" which shall be applied to the liquidation of the
liabilities of the three companies for the price of Reese’s shares.

The manifest intention of the parties to the trust agreement was, in sum and substance, to treat the
24,700 shares of Reese as absolutely outstanding shares of Reese’s estate until they were fully
paid. Such being the true nature of the 24,700 shares, their declaration as treasury stock dividend
in 1958 was a complete nullity and plainly violative of public policy. A stock dividend, being one
payable in capital stock, cannot be declared out of outstanding corporate stock, but only from
retained earnings: 7

Of pointed relevance is this useful discussion of the nature of a stock dividend: 8

"‘A stock dividend always involves a transfer of surplus (or profit) to capital stock.’ Graham and Katz,
Accounting in Law Practice, 2d ed. 1938, No. 70. As the court said in United States v. Siegel, 8 Cir.,
1931, 52 F 2d 63, 65, 78 ALR 672: ‘A stock dividend is a conversion of surplus or undivided profits
into capital stock, which is distributed to stockholders in lieu of a cash dividend.’ Congress itself has
defined the term ‘dividend’ in No. 115(a) of the Act as meaning any distribution made by a corporation
to its shareholders, whether in money or in other property, out of its earnings or profits. In Eisner v.
Macomber, 1920, 252 US 189, 40 S Ct 189, 64 L Ed 521, 9 ALR 1570, both the prevailing and the
dissenting opinions recognized that within the meaning of the revenue acts the essence of a stock
dividend was the segregation out of surplus account of a definite portion of the corporate earnings
as part of the permanent capital resources of the corporation by the device of capitalizing the same,
and the issuance to the stockholders of additional shares of stock representing the profits so
capitalized."cralaw virtua1aw library

The declaration by the respondents and Reese’s trustees of MANTRASCO’s alleged treasury stock
dividends in favor of the former, brings, however, into clear focus the ultimate purpose which the
parties to the trust instrument aimed to realize: to make the respondents the sole owners of Reese’s
interest in MANTRASCO by utilizing the periodic earnings of that company and its subsidiaries to
directly subsidize their purchase of the said interests, and by making it appear outwardly, through
the formal declaration of non-existent stock dividends in the treasury, that they have not received
any income from those firms when, in fact, by that declaration they secured to themselves the means
to turn around as full owners of Reese’s shares. In other words, the respondents, using the trust
instrument as a convenient technical device, bestowed unto themselves the full worth and value of
Reese’s corporate holdings with the use of the very earnings of the companies. Such package
device, obviously not designed to carry out the usual stock dividend purpose of corporate expansion
reinvestment, e.g. the acquisition of additional facilities and other capital budget items, but
exclusively for expanding the capital base of the respondents in MANTRASCO, cannot be allowed
to deflect the respondents’ responsibilities toward our income tax laws. The conclusion is thus
ineluctable that whenever the companies involved herein parted with a portion of their earnings "to
buy" the corporate holdings of Reese, they were in ultimate effect and result making a distribution of
such earnings to the respondents. All these amounts are consequently subject to income tax as
being, in truth and in fact, a flow of cash benefits to the respondents.

We are of the opinion, however, that the Commissioner erred in assessing the respondents the total
acquisition cost (P7,973,660) of the alleged treasury stock dividends in one lump sum. The record
shows that the earnings of MANTRASCO over a period of years were used to gradually wipe out the
holdings therein of Reese. Consequently, those earnings, which we hold, under the facts disclosed
in the case at bar, as in effect having been distributed to the respondents, should be taxed for each
of the corresponding years when payments were made to Reese’s estate on account of his 24,700
shares. With regard to payments made with MANTRASCO earnings in 1958 and the years before,
while indeed those earnings were utilized in those years to gradually pay off the value of Reese’s
holdings in MANTRASCO, there is no evidence from which it can be inferred that prior to the passage
of the stockholders’ resolution of December 22, 1958 the contributed equity of each of the
respondents rose correspondingly. It was only by virtue of the authority contained in the said
resolution that the respondents actually, albeit illegally, appropriated and partitioned among
themselves the stockholders’ equity representing Reese’s interests in MANTRASCO. As those
payments accrued in favor of the respondents in 1958 they are and should be liable, for income tax
purposes, to the extent of the aggregate amount paid, from 1955 to 1958, by MANTRASCO to buy
off Reese’s shares.

The fact that the resolution authorizing the distribution of the said earnings is null and void is of no
moment. Under the National Internal Revenue Code, income tax is assessed on income received
from any property, activity or service that produces income. 9 The Tax Code stands as an indifferent,
neutral party on the matter of where the income comes from. 10

Subject to the foregoing qualifications, we find the action taken by the Commissioner in all other
respects — that is, the assessment of a fraud penalty and imposition of interest charges pursuant to
the provisions of the Tax Code — to be in accordance with law.

ACCORDINGLY, the judgment of the Court of Tax Appeals absolving the respondents from any
deficiency income tax liability is set aside, and this case is hereby remanded to the Court of Tax
Appeals for further proceedings. More specifically, the Court of Tax Appeals shall recompute the
income tax liabilities of the respondents in accordance with this decision and with the Tax Code, and
thereafter pronounce and enter judgment accordingly. No costs.

Makasiar, Esguerra, Muñoz Palma and Martin, JJ., concur.

Teehankee, J., is on leave.