Atty. Maria Zarah R. Villanueva

September 24, 2003 SEC OPINION NO. 45-03 Atty. Maria Zarah R. Villanueva C/O San Beda College of Law Mendiola, Manila M a d a m : This refers to your letter dated 18 August 2003 requesting opinion on the legality of the dividend declaration made by the Board of Directors of your undisclosed corporation in favor of cumulative preferred shareholders. In your letter you stated that your corporation incurred losses for the years 1999, 2000, and 2001. Hence, it has no unrestricted retained earnings and was not able to declare dividends. However, in the year 2002, the company had unrestricted retained earnings and the Board of Directors declared dividends for the years 1999, 2000, 2001 in favor of all preferred cumulative shareholders at the rate of 10% of par value payable out of surplus or net profits. Hence, this query on the legality of the said act of your Board and whether the unrestricted retained earnings in 2002 should be made to answer for the non-declaration of dividends for 1999, 2000 and 2001. Please be advised that subject to the terms and conditions stated in your Articles of Incorporation and By-laws, a preferred share of stock 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. Preferred shares may be commonly 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; 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. There is no guaranty, however, that the share will receive any dividends. Under the Corporation Code, the board of directors of a stock corporation may declare dividends only out of unrestricted retained earnings. ( Section 43, Corporation Code ) 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, 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. 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. Furthermore, the dividends may be made cumulative. Cumulative, if the profits in any year are not enough to pay the preferred dividends the deficiency is made up from the profits of the subsequent year before dividends can be paid to the holders of the common stock. ( SEC Opinion addressed to Col. David B. dela Cruz, 11 April 1980 ) "Whatever preferential rights and privileges may thus be granted to a stockholder, the law regards them as contractual. The certificate of stock is the muniment of the shareholder's title, and evidence of his right. It expresses the contract between the corporation and his co-stockholders and himself."( Ballantine on Corporations, p. 501 ). CacTSI Based on the foregoing and subject to the terms and conditions stated in the Articles of Incorporation and By-laws of the corporation, the dividend declaration may be considered legally valid. ICDcEA Very truly yours, (SGD.) VERNETTE G. UMALI-PACO General Counsel