DOJ Opinion No. 195, s. 1989

DOJ OPINION NO. 195 , s. 1989 October 3, 1989 Hon. Catalino Macaraig, Jr. Executive Secretary Office of the President Malacaang, Manila Sir : This refers to your request for "a formal ruling confirming" that the Philippine Fund. Inc. (the "Fund"),a non-diversified, closed-end management investment company organized under the laws of the State of Maryland, U.S.A.,and registered under the U.S. Investment Company Act of 1940, may invest in Class "A" shares of Philippine companies in accordance with the investment plan described in the Prospectus of the Fund filed with the Securities and Exchange Commission of the United States on September 11, 1989. The basic papers disclose the following facts: 1. The Fund, in order to raise capital, will offer its shares of common stock to foreign investors in the United States and other countries, including Filipinos and persons of Philippine origin residing abroad and other investors wishing to participate in the Philippine economy through investment in Philippine securities (Prospectus, p. 1) 2. The Fund's investment objective is long-term capital appreciation through investment primarily in equity securities of Philippine companies (Ibid.,p. 13). 3. The Fund will be managed by Clemente Capital, Inc. (the "Investment Adviser"),a registered investment adviser under the United States Investment Advisers Act of 1940 and wholly-owned by Lilia Clemente and Leopoldo Clemente, Jr.,both citizens of the Philippines. The Philippines National Bank ("PNB"),through a wholly-owned subsidiary, will act as Philippine adviser to the Fund pursuant to a research and advisory agreement (Prospectus, p.9); prcd 4. The Fund generally will invest in securities of Philippine companies through a Trust Agreement (the Philippine Trust) between the Fund and the PNB (the "Trustee").The Trust Agreement will provide that the Fund's assets in the Philippine Trust will be held, invested and reinvested for the exclusive benefit of the Fund in accordance with applicable Philippine laws and regulations, the Fund's invested objective and policies, and instructions from the Fund's Investment Adviser, Clemente Capital, Inc. The Trustee will have no independent investment discretion (Prospectus, p. 25). 5. The Trust Agreement will remain in effect for the life of the Fund, unless terminated in accordance with its terms. The Trust Agreement may be terminated at any time either the Fund or the Trustee on sixty days' written notice (Ibid.,p. 26). 6. Under the Trust Agreement, the Trustee will have the exclusive right to direct the voting of securities held under the Agreement, and the Fund's Board of Directors will have no right to direct the voting of such securities (Ibid.,p. 26). 7. The Fund may invest in securities of Philippine companies directly in appropriate cases (Ibid.,p. 1) but it may not make any investment for the purpose of exercising control or management (Ibid.,p. 21). It appears that the Government, through the President of the Philippines, has expressed support for the organization and marketing of the Fund in the light of the many beneficent effects of the Fund to the Philippine economy. Further, we were informed by the Fund's Philippine counsel that the Fund binds itself not to purchase or hold, directly or through the Trustee, shares of any Philippine-incorporated company exceeding in the aggregate, and inclusive of "A" and "B" shares, five (5) per cent of the total number of such share outstanding. The issue now before us is whether, the foregoing considered, the Philippine Fund, Inc.,may be allowed to acquire and hold, through the PNB as Trustee, Class "A" shares of Philippine companies. We are not aware of any statutory or constitutional mandate for the classification of corporate shares into Class "A" and Class "B" shares, with Class "A" shares reserved only for Philippine nationals and Class "B" shares open for acquisition by both Philippine and foreign nationals. It appears that such arrangement is only a device internally adopted by Philippine companies to facilitate monitoring of foreign equity in the company, and in the case of Philippine companies engaged in party-nationalized businesses, to ensure compliance with applicable nationality requirements. This practice is recognized, but not mandated, by the Corporation Code which allows "(a) corporation (to) classify its shares for the purpose of insuring compliance with constitutional or legal requirements" (Sec. 6, B.P. Blg. 68). There is no doubt that unless prohibited by the Articles of Incorporation of a particular Philippine corporation, which is not engaged in a nationalized or partly-nationalized business, the Fund may invest in Class "A" shares without violating the Constitution or the nationalization laws. The problem arises if the Fund would invest in a nationalized or partly-nationalized business and its investment therein would result in an "overflow" of the foreign equity in the corporation beyond or in excess of the permissible 40% foreign equity therein. It appears that the Securities and Exchange Commission confirmed that "the Philippine Trust (investing for the Fund) may invest in any class of shares of Philippine companies in accordance with existing laws",provided that the Philippine Trust limit(s) itself to purchasing no more than ten (10) percent of any Philippine company's outstanding voting securities and provided further that it will not act in concert with other investors for the purpose of exercising control over any Philippine company" (letter dated August 29, 1989 of Chairman Rosario Lopez, SEC, to Messrs. Joker P. Arroyo and Edgardo B. Espiritu, Chairman and President, respectively, of the PNB).As the agency in charge of the enforcement of the corporation and securities laws, its action on the matter deemed controlling. We may add, however, that in case of the Fund's investment in a nationalized or partly-nationalized business, the applicable Filipino-foreign equity ration must be observed. prcd The nationality requirement of the Constitution is essentially based on the primordial consideration that the "situs of control , whether in a stock or non-stock corporation" should be in the hands of Filipinos (Sec. of Justice, Op. No. 178, s. 1974, Emphasis supplied; see also Register of Deeds of Rizal vs. Ong Siu Si Temple, 97 Phil. 61). This consideration still holds under the 1987 Constitution as can be gleaned from the deliberations of the 1986 Constitutional Commission, to wit: "MR. NOLLEDO. In Section 3, 9, and 15, the Committee stated local or Filipino equity and foreign equity; namely 60-40 in Section 3, 60-40 in Section 9 and 2/3 1/3 in Section 15. MR. VILLEGAS. That is right. MR. NOLLEDO. In teaching law, we are always faced with this question: "Where do we base the equity requirement, is it on the authorized capital stock, on the subscribed capital stock, or on the paid-up capital stock of a corporation"? Will the Committee please enlighten me on this? MR. VILLEGAS.We have just had a long discussion with the members of the team from the UP Law Center who provided us a draft. The phrase that is contained here which we adopted from the UP draft is "60 percent of voting stock." (Records of the Constitutional Commission, August 13, 1986, p. 255. Emphasis supplied) Since all common stocks to be issued by the Fund, irrespective of classification, are voting stocks, foreign investment in common stocks of a nationalized or partly-nationalized business should not exceed 40%. It is claimed that the investments of the Fund will be done through a Philippine Trustee, the PNB, which under the Trust Agreement, shall have the exclusive right to direct the voting of the securities held under the Agreement. But the Philippine Trustee, under this arrangement, would still be acting for and in the interest of the Fund which is legally and factually the owner of the stocks. It bears mentioning that under the Trust Agreement, the PNB will have no independent investment discretion but that the Fund's assets "will be held, invested and reinvested for the exclusive benefit of the Fund ...the Fund's investment objectives and policies, and instructions from the Fund's Investment Adviser, Clemente Capital, Inc." (see Prospectus, p. 25). Be that as it may, it is believed that the proposed investments of the Fund in Class "A" shares to the extent of 5% of the outstanding voting stocks of the corporation may be allowed for it may be assumed that there are also Filipino investors holding "Class B" shares therein and that the total foreign equity, including that of the Fund, in the corporation will not exceed the maximum percentage prescribed by law. However, owing to the perceived difficulty of monitoring the percentage of Filipino-foreign equity participation particularly in cases of stocks traded in the stock market, and to ensure that the Fund's investment in the corporation will not violate the constitutional equity participation of foreigners in the corporation, such investment should be made subject to the condition that the Trustee (the PNB or any subsequent Trustee) shall waive the right to vote such shares in the election of the members of the board of directors of the corporations in which such shares are held by the Trustee in trust for the Fund. Since the board of directors control and direct the business of the corporation, this condition is a safeguard which will ensure that the "situs or control" will remain in the hands of Filipinos. Besides, this is consistent with the representation that the Fund is not interested in exercising control, or participating in the management of any Philippine company. prcd Having regard to all the various legal, social, and economic considerations that bear upon the matter under consideration, it is the considered view of this Department that the Fund, through the Trustee, may acquire Class "A" shares of Philippine companies/corporations subject to the following conditions. (1) The Trustee must at all times be a Philippine national, i.e.,a Philippine citizen or a corporation or association at least 60% of the capital of which is owned by Philippine citizens. (2) The Total investment of the Fund, directly or through the Trustee, in any Philippine corporation shall not exceed five (5%) per cent of said corporation's outstanding capital stock, exclusive of the "Class "A" and Class "B" shares. (3) The Trustee will at all times be vested by the Fund with the voting control of shares held by it for the benefit of the Fund. The Fund's Board of Directors will have no right to direct the voting of such securities, and neither the Fund nor the Trustee will act in concert with any other investor for the purpose of exercising control or influencing the management of the Philippine company in which the Fund has investments. (4) The Trustee shall not exercise the right to vote the shares held by it for the benefit of the Fund in the election of the members of the Board of directors of the corporations in which such shares are held. For this purpose, the Trustee shall execute a written undertaking to this effect to be furnished each corporation in which the Trustee holds shares for the benefit of the Fund. (5) This ruling applies only to purchases by the Trustee of Class "A" shares listed in the stock exchanges, and should not be construed as authorizing the Fund or the Trustee to freely purchase unlisted Class "A" shares. In the latter case, it would be incumbent upon the Fund or the Trustee to inquire whether such purchase may be lawfully made, having regard to any applicable constitutional or statutory nationality requirements. (6) The investment of the Trustee in Class "A" shares is permitted or is not otherwise prohibited by the articles of incorporation or charter or any other organic documents of the Philippine corporation in which the investment is to be made. prcd (7) That the investment of the Trustee shall be subject to prior approval by the proper government agencies, whenever required by law. Very truly yours, (SGD.) SEDFREY A. ORDOEZ Secretary of Justice