DOJ Opinion No. 001, s. 2002

DOJ OPINION NO. 001 , s. 2002 January 3, 2002 Undersecretary Cornelio G. Gison Department of Finance Roxas Blvd., Manila Mr. Norberto C. Nazareno President and Chief Executive Officer Philippine Deposit Insurance Corporation 2228 Chino Roces Avenue Makati City Sir : This refers to your request for opinion in connection with the proposed rehabilitation plan for the Philippine National Bank (PNB) and the eventual disposition of the shareholdings of the National Government (NG) in PNB. You state that NG's shareholdings in PNB, after a series of public offerings of NG shares in PNB and stock rights offering by PNB of its shares between 1989 and 2000, presently stand at 16.58% of PNB's outstanding capital stock. NG's PNB shareholdings are expected to be diluted to 9.88% by November 16, 2005 when the Lucio Tan Group (LTG) which presently owns 66.38% of PNB's equity, exercises its option to convert its 256,019,731 convertible warrants, in which event, LTG's shareholdings in PNB will correspondingly increase up to a maximum of 81.04% of PNB's outstanding capital stock. You further state that due to massive depositor withdrawals experienced by PNB in late September, 2000, Bangko Sentral ng Pilipinas (BSP) and Philippine Deposit Insurance Corporation (PDIC) separately extended secured term loans to PNB amounting to P25 Billion on October 4, 2000. These loans are to be eventually folded into a Rehabilitation Plan for PNB. The Government (referring collectively to NG and PDIC) has agreed to the request of LTG for assistance in the rehabilitation of PNB in order to improve the financial condition of PNB and to protect Government's interest therein, both as shareholder and creditor, and in consideration of LTG's entering into, complying with, and performing a Memorandum of Agreement as well as its implementing agreements. The proposed rehabilitation plan of PNB basically calls for: (1) the quasi-reorganization of the capital structure of PNB; (2) the debt-to-equity conversion by PDIC of approximately P7,807,013,120 of the PDIC loan to PNB; (3) the offsetting of PDIC/BSP loans to PNB against selected outstanding government accounts owed to PNB not exceeding P10 Billion; and (4) the restructuring of the resulting balance of the PDIC/BSP loans for a maximum of 10 years. The details of the plan are as stated in your letter. As part of the implementation of the rehabilitation plan, PNB shall be under the joint management of the Government and LTG. You mention that a major financial component of the rehabilitation plan is the debt-to-equity conversion by PDIC of its loans to PNB as stated above, and the subsequent joint sale of the Government's and LTG's PNB shares at a combined total of at least 67% of the ownership of PNB in a public bidding subject to a right of first offer and right to match in favor of LTG. Under the proposed arrangement, LTG shall participate in the public bidding for the Government's shares. In the event that LTG shall exercise its right of first offer, and subsequently exercises its right to match the highest bid or negotiated price, LTG shall be required to buy all of the Government's PNB shares, including those which are not the subject of the bidding or negotiation. If LTG does not exercise its right of first offer, it shall not have the right to match. Upon these premises, you seek opinion on the following issues: 1) Whether or not the PDIC is authorized under its Charter, RA 3591, as amended, to hold or own common stocks of PNB by way of debt-to-equity conversion of the financial assistance granted to PNB, and participate in the joint management of PNB, as an arrangement necessary to protect PDIC's financial interest in PNB as a temporary arrangement in contemplation of the future sale of the Government's (NG and PDIC) shares in PNB to the private sector; 2) Whether or not the proposed joint sale arrangement and/or the sale solely by the Government, with right of first offer and right to match in favor of LTG, in either case accompanying a public bidding, does not violate the rules on public bidding insofar as the disposal of the Government's PNB shares is concerned; and 3) Whether or not the provisions of the draft Term Sheet are illegal or unenforceable. In a subsequent letter dated December 21, 2001, you informed us that on December 19, 2001, NG, PDIC, LTG and PNB approved a final Term Sheet which shall be the basis for the execution of a Memorandum of Agreement. Under the final Term Sheet, the Government has the following alternatives in the event that PDIC is found not eligible to acquire common stocks of PNB as contemplated in the first issue: a. the issuance by PNB of non-voting preferred shares in favor of PDIC the said preferred shares shall be issued at an issue price equivalent to the par value of P40 per preferred share. Each PNB preferred share shall (i) be non-voting, non-cumulative, fully-participating on dividends with a PNB common share, and (ii) be convertible, at any time at the option of the holder, to a PNB common share on a one (1) PNB preferred share for one (1) PNB common share basis; or b. the issuance by PNB of convertible bonds in favor of PDIC the said convertible bonds shall be issued at an issue price equivalent to a principal amount per unit of P40. Each bond unit shall (i) bear interest equivalent to the amount of any dividends per share declared from time to time by PNB to its shareholders during the life of the bond and which interest shall become due and payable simultaneously with the payment of the dividends, and (ii) be convertible, at any time at the option of the holder, to a PNB common share at a conversion price of P40 per PNB common share; or c. the assignment by PDIC of its rights and obligations under the Term Sheet, the MOA and the Implementing Agreements to a qualified and willing government agency or government-owned or controlled corporation. You also advised that under the final Term Sheet, in case LTG shall exercise its right to match, LTG may first purchase and acquire only those PNB shares offered for sale by the Government but after two years, the Government may exercise a put option and require LTG to purchase the Government's remaining PNB shares at a pre-agreed put option price. Likewise, under the final Term Sheet, LTG shall deliver to the Government upon issuance of the preferred shares or convertible bonds, duly executed assignments of voting rights with irrevocable proxy in favor of NG with full power of substitution by and delegation to any government agency or government-owned or controlled corporation, covering such number of PNB shares as will maintain voting parity in PNB for NG and LTG. The effectivity of the assignment of voting rights with irrevocable proxy shall expire upon the expiration of the Memorandum of Agreement or the total conversion of the preferred shares or the convertible bonds into PNB common shares, whichever comes first. In the light of the approval of the final Term Sheet, you also seek opinion on the following supplemental query: Whether or not PDIC is authorized under its Charter to hold or own non-voting preferred share or convertible bonds, by way of conversion of the financial assistance granted to PNB with the conversion feature of the preferred shares or convertible bonds not exercised by PDIC but passed on to qualified third parties at the proper time. These preferred shares or convertible bonds will likewise be the subject of the joint sale with LTG as in the earlier draft Term Sheet, with the right of first offer and right to match by LTG. We answer the first issue in the negative. We believe that PDIC is prohibited by its Charter to acquire voting or common shares of PNB by way of debt-to-equity conversion of PDIC loans to PNB. Section 12(c) of R.A. No. 3591 (PDIC Charter) provides as follows: "(c) When the Corporation (PDIC) has determined that an insured bank is in danger of closing, in order to prevent such closing, the Corporation, in the discretion of its Board of Directors, is authorized to make loans to, or purchase the assets of, or assume liabilities of, or make deposits in such insured bank, upon such terms and conditions as the Board of Directors may prescribe, when in the opinion of the Board of Directors, the continued operation of such bank is essential to provide adequate banking service in the community or maintain financial stability in the economy. xxx xxx xxx In all cases, however, the Corporation, prior to the exercise of this power, shall determine that actual payoff and liquidation thereof will be more expensive than the exercise of this power. Finally, the Corporation may not use its authority under this subsection to purchase the voting or common stock of an insured bank but it can enter into and enforce agreements that it determines to be necessary to protect its financial interests ." (As amended by PD 120, 29 January 1973; RA 7400, 13 April 1992) Pursuant to this provision, PDIC may make loans to, or purchase the assets or assume the liabilities of, or make deposits in a distressed insured bank when in the opinion of its Board of Directors the continued operations of such bank is essential to provide adequate banking service in the community or maintain financial stability in the economy. However, PDIC may not use its authority under this subsection to purchase the voting or common stock of an insured bank "but it can enter into and enforce agreements that it determines to be necessary to protect its financial interests". The clear implication of this provision is that PDIC is prohibited from acquiring voting or common shares of stock of an insured bank whether directly or by way of debt-to-equity conversion evidently in order to remove PDIC from the incongruous situation where it would exercise regulatory authority over an insured bank which it partly owns, controls and manages. The principle in the law on public officers which prohibits the holding by a public officer of incompatible offices very well applies in this case. It is said that offices are incompatible when from the nature and relation to each other, of the two offices, they ought not to be held by the same person, from the contrariety and antagonism which would result in the attempt by one person to faithfully and impartially discharge the duties of one, toward the incumbent of the other. (Mechem, Pub. Off. & Officers, Sec. 422 cited in Martin & Martin, Administrative Law, Law of Public Officers and Election Law, pp. 201-202) One of the most important tests as to whether offices are incompatible is found in the principle that the incompatibility is recognized whenever one is subordinate to the other in some of its important duties, or is subject to supervision by the other, or where contrariety and antagonism would result in the attempt by the person to discharge the duties of both. Under this principle two offices are incompatible where the incumbent of one has the power to remove the incumbent of the other, though the contingency on which the power may be exercised is remote, and it also exists where the incumbent of one office has the power of appointment as to the other office. (22 R.C.L. 414; ibid .) Applied to this case, PDIC would be assuming an incompatible position if it acquires ownership of an insured bank and exercises, as a consequence of such ownership, management and control of such bank vis-a-vis its mandated role and functions as an insurer of banks under R.A. No. 3591, as amended, specifically, its power to examine and impose sanctions on delinquent banks under Section 7, Section 8, paragraph 8 and Section 16 of said Act. Section 8, paragraph 8 empowers PDIC "to conduct independent examination of and to require information and reports from banks". Section 7 and Section 16 authorize PDIC to impose sanctions against insured banks found engaged in or committing unsafe or unsound practices in conducting the business of the bank or committing willful violations of the provisions of the Act or any law or regulation to which the insured bank is subject. Verily, if PDIC has shareholdings in an insured bank and is in a position to control and direct its business, such circumstance could affect to a substantial degree PDIC's exercise of its examining and disciplining power over such bank in which it has a capital stake and control. The evident purpose of the prohibition in Section 12(c) is, therefore, to prevent PDIC from being in a position of weakness resulting from conflict of interest in an insured bank in which it has ownership of stocks and over which it exercises regulatory authority. DaScHC The view that Section 12(c) only prohibits a direct purchase of voting or common shares of stock and not an acquisition through debt-to-equity conversion of PDIC loans to an insured bank is unacceptable. A conflict of interest situation arises from ownership of voting or common shares in an insured bank irregardless of how they are acquired. It is an elementary rule of reason that what may not be done directly, may not also be done indirectly ( Cariday Investment Corporation vs . Court of Appeals, G.R. No. 83358, August 2, 1989). It is true that Section 12 (c) allows PDIC to extend financial assistance to a distressed insured bank and to "enter into and enforce agreements that it determines to be necessary to protect its financial interests" therein. However, it cannot use its authority to bail out a distressed insured bank by acquiring its voting or common shares of stock through conversion of its debt to equity. This will defeat the object and purposes of the law as discussed above. Anent your supplementary query, we believe that it is legally permissible for PDIC to acquire preferred shares of PNB by way of debt-to-equity conversion. Section 12(c) does not prohibit such acquisition and the feared consequences of the acquisition by PDIC of common stocks in a distressed bank, like PNB, will not arise if preferred shares, instead of common or voting shares, are acquired by PDIC. The same holds true in case of convertible bonds, for as long as the conversion to common or voting shares, in either case, is not exercised by PDIC. Relative to the second issue on whether the proposed joint sale arrangement with right of first offer and right to match given to LTG does not violate the rules on public bidding, we believe that it will not violate the rules on public bidding. The following rulings of the Supreme Court in JG Summit Holdings, Inc. vs. Court of Appeals, et. al ., G.R. No. 124293, promulgated on November 20, 2000 and Manila Prince Hotel vs. GSIS, 267 SCRA 408, are instructive. JG Summit Holdings, Inc. vs. Court of Appeals, et al. "Furthermore, while the right of first refusal entitled KHI to priority in the award of the contract, that right cannot bar another bidder from submitting a bid because, precisely, the law requires public bidding in government contracts. Thus, by engrafting in the provisions of the ASBR the right to top, which was only an offshoot of the right of first refusal, the APT effectively did away with public bidding insofar as KHI/PHI was concerned. To be sure, the right to top is different from the right to match. In the latter, a qualified bidder is given the privilege of offering the same bid as that of the highest bidder. In the former, as provided for by the ASBR, a non-bidder is accorded the right to top the highest bid. There is reason, therefore, for the petitioner to complain that the APT made a show of a public bidding in order to elicit the highest bid, only to award the sale to a non-bidder. The unfair manner by which the purported public bidding was conducted by the APT is even made more blatant by the fact that after the public bidding, KHI exercised the right to top through its nominee, private respondent PHI which has among its stockholders some losing bidders." (Emphasis supplied.) Manila Prince Hotel vs. GSIS "Paragraph V.J. 1 of the bidding rules provides that if for any other reason the Highest Bidder cannot be awarded the Block of Shares, GSIS may offer this to other Qualified Bidders that have validly submitted bids provided that these Qualified Bidders are willing to match the highest bid in terms of price per share. Certainly, the constitutional mandate itself is reason enough not to award the block of shares immediately to the foreign bidder notwithstanding its submission of a higher, or even the highest, bid. In fact, we cannot conceive of a stronger reason than the constitutional injunction itself. In the instant case, where a foreign firm submits the highest bid in a public bidding concerning the grant of rights, privileges and concessions covering the national economy and patrimony, thereby exceeding the bid of a Filipino, there is no question that the Filipino will have to be allowed to match the bid of the foreign entity. And if the Filipino matches the bid of a foreign firm the award should go to the Filipino. It must be so if we are to give life and meaning to the Filipino First Policy provision of the 1987 Constitution. For, while this may neither be expressly stated nor contemplated in the bidding rules, the constitutional fiat is omnipresent to be simply disregarded. To ignore it would be to sanction a perilous skirting of the basic law." Very clearly, what is given to LTG is the right to match, and not the right to top. The right to match, as held in the case of J.G. Summit Holdings, Inc., gives the privilege to a qualified bidder unlike the right to top which is given to a non-bidder. The latter is violative of the rules on public bidding because the sale is awarded to a person who did not participate in the public bidding thereby making the bidding a sham. In the instant case, LTG will participate in the public bidding and will in fact be required to exercise its right of first offer before it could exercise its right to match. Regarding the third issue, the same has been rendered moot and academic in view of the approval of the final Term Sheet by all of the parties thereto. Accordingly, we no longer find it necessary to make any comment thereon. Very truly yours, (SGD.) HERNANDO B. PEREZ Secretary