Sycip Salazar Hernandez and Gatmaitan

August 28, 1995 Sycip Salazar Hernandez and Gatmaitan Suite 317, 3rd Flr. M. Diaz Bldg. Osmea Blvd.,600 Cebu City S i r : This refers to your letter dated July 18, 1995, addressed to our Cebu Extension Office, requesting opinion on the validity of the following proposed transfer restriction clauses in the articles of incorporation of a close corporation: 1. " No shares of stock may be mortgaged pledged, or otherwise encumbered in favor of a person who is not a stockholder of record of the Corporation, except with the prior approval of at least a majority vote of all the members of the Board of Directors of the Corporation ." (Emphasis supplied) 2. Should a stockholder (the "Offeror") desire to mortgage, pledge, or otherwise encumber all or a portion of his shares of stock in the Corporation to secure the payment of any bona fide indebtedness or obligation, he should first formally offer such mortgage, pledge, or encumbrance to the Corporation in consideration for a loan therefrom to pay or discharge such indebtedness or obligation. Should the Corporation for one reason or another be unable to accept such offer within a period of thirty (30) days the other stockholders of record, by air/speed mail and facsimile transmission, of such offer. The other stockholders shall be accorded the same period of thirty (30) days from receipt of such notice within which to relay to the Offeror their acceptance of his offer. In such case, the other stockholders shall agree among themselves who shall provide the loan and in what particular proportion; otherwise, such loan shall be allocated among the accepting stockholders in proportion to their respective shareholdings. If no stockholder accepts the offer within the reglementary period, the offeror shall be free to encumber his shares of stock to any third party under the same terms and conditions as contained in the offer." (Emphasis supplied) It is well-settled that shares of stock in a corporation are personal property and the owner thereof has an inherent right, as an incident of his ownership, to transfer the same at will. This right is expressly recognized under the Corporation Code which provides: "SECTION 63. Certificate of stock and transfer of shares . ...Shares of stock so issued are personal property and may be transferred by delivery of the certificate or certificates indorsed by the owner of his attorney-in-fact or other person legally authorized to make the transfer. ...(Emphasis supplied) As such, the facility of transferring them must not be unduly hampered by imposing restrictions as would amount to restraint on free alienation of property. The Commission, however, as a matter of policy, allows reasonable restrictions on transfer of shares in the articles of incorporation if the restriction complies with the following provision of the Corporation Code: "SECTION 98. Validity of restrictions on transfer of shares . Restrictions on the right to transfer shares must appear in the articles of incorporation and in the by-laws as well as in the certificate of stock ;otherwise, the same shall not be binding on any purchaser thereof in good faith. Said restrictions shall not be more onerous than granting the existing stockholders or the corporation the option to purchase the shares of the transferring stockholder with such reasonable terms, conditions or period stated therein .If upon expiration of said period, the existing stockholders or the corporation fails to exercise the option to purchase, the transferring stockholder may sell his shares to any third person. " (Emphasis provided) Thus, the Commission on several occasions, has opined that a provision in the articles of incorporation requiring stockholders desiring to transfer or sell their stocks, to offer it first to the corporation or to the existing stockholders at a given reasonable period before disposing of it to third parties, may be considered valid and enforceable. A restriction clause is not valid and enforceable if it absolutely prohibits the sale or transfer of stock without the consent of the Board of Directors and/or stockholders, as this would violate the general law on free alienability of shares of stock as personal property. ( SEC Letter addressed to Atty. Helen C. De Leon-Manzano dated June 8, 1995 ). The above principle on restrictions on the transferability of shares applies in the case of transfer of shares of stock by way of pledge or mortgage, which transfers are recognized under Section 55 of the Corporation Code, quoted hereunder. "SECTION 55. Right to vote of pledgors, mortgagors and administrators . In case of pledged or mortgaged shares in stock corporations, the pledgor or mortgagor shall have the right to attend and vote at meetings of stockholders, unless the pledgee or mortgagee is expressly given such right in writing which is recorded on the appropriate corporate books by the pledgor or mortgagor. " (Emphasis supplied). Accordingly, since the first restriction mentioned in your letter absolutely prohibits the stockholders from pledging or mortgaging their shares of stock without the consent of the Board of Directors, it would be violative of the statutory right of the stockholders to encumber shares of stocks. However, the second restriction may be allowed as it merely allows the corporation or existing stockholders to accept the offer within the option period, and thereafter, if no one accepts the offer, the stockholder is free to pledge or mortgage his shares in favor of any third party. Please be advised accordingly. (SGD.) FE ELOISA C. GLORIA Associate Commissioner