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The Supreme Court clarified the role of these tests in determining compliance with the required
Filipino equity threshold. The Court explained that the use of the Grandfather Rule is a supplement
to the Control Test in implementing the wisdom of the Filipinization provisions of the Constitution.
The Supreme Court recognized the intention of the framers of the Constitution to apply the
Grandfather Rule in cases where there is corporate layering. It likewise noted that corporate
layering, while admittedly allowed by the Foreign Investment Act, becomes illegal if used to
circumvent the Constitution and other applicable laws.
The Court further discussed that the Grandfather Rule applies only when the 60-40 Filipino-foreign
ownership is in doubt or where there is reason to believe that there is non-compliance with the
provisions of the Constitution on the nationality restriction.
How then we do we determine the existence of doubt? In its Resolution, the high court clarified that
doubt does not automatically mean the mere failure of the Filipino ownership to meet the 60%
threshold of the corporations equity. Doubt refers to various indicia that the beneficial ownership
and control of the corporation do not in fact reside in Filipino shareholders but in foreign
stakeholders.
To demonstrate these signs of doubt, the Court referred to the indicators of a dummy status as
identified in a Department of Justice Opinion on the Anti-Dummy Law. These would be where the
foreign investors provide practically all the funds and technological support for a joint venture
undertaken with their Filipino partners, and where such foreign investors get to manage the company
even while being minority stockholders.
In the Narra Nickel Mining case, the Supreme Court found that while the petitioning corporations
complied with the Control Test, factual circumstances nonetheless raise doubt as to their true
nationality and therefore requires the application of the Grandfather Rule. Some of the indicators of
doubt found by the Court in the said case are the following: (1) the three mining corporations had
the same 100% Canadian owned foreign investor, (2) the similar corporate structure and shareholder
composition of the three corporations, (3) a major Filipino shareholder within the corporate layering
did not pay any amount with respect to its subscription, and (4) the dubious act of the foreign
investor in conveying its interests in the mining corporations to another domestic corporation, among
others. These instances demonstrate that corporate layering was utilized to allow a foreign
corporation to gain control of these mining corporations in the Philippines.
After applying the Grandfather Rule, the Supreme Court was able to trace and conclude that the
Filipino shareholders did not actually have the required amount of control and beneficial ownership
in the mining companies, and consequently failed to comply with the nationality requirement under
the Constitution.
In a fitting ending, the Supreme Court enunciated its original April 2014 decision that the Control
Test is still the prevailing mode of determining whether or not a corporation is a Filipino corporation.
It is only in case of doubt, based on the attendant facts and circumstances of the case, that the
Grandfather Rule is applied.
Last week, the Supreme Court issued an entry of judgment on its ruling in June 2011 on the issue of
foreign ownership in PLDT where it held that the 60-40 (percent) nationality requirement in public
utility corporations, in favor of Filipinos, refers to common shares entitled to vote in the election of
directors, not to the totality of the companys capital stock.
With the denial of the motions for reconsideration, that decision, per the entry of judgment, became
final and executory as of Oct. 18, 2012.
Unlike previous entries of judgment (which simply state the case number and names of the parties),
the instant entry bore the note that the 40 percent foreign ownership cap relates only to common
shares and not to total outstanding capital stock (common and non-voting preferred shares).
The special mention, in effect, sets aside the tribunals statement in its denial of the motions for
reconsideration that the 60-40 ownership requirement in favor of Filipinos must apply separately to
each class of shares, whether common, preferred non-voting, preferred voting or any other class of
shares.
This statement drew strong reaction from the business community. It said the inclusion of stocks,
other than common, in determining compliance with the ownership rule would discourage foreign
investments.
The clarification in the entry of judgment was a welcome relief to the business community.
Application
With this development, the SEC has gained more flexibility in crafting the rules and regulations that
will govern the ownership of corporations engaged in nationalized businesses.
In this effort, it has to find a middle ground between complying with the tribunals instructions on the
enforcement of the nationality rules and the need to make the countrys investment climate more
attractive to foreign investors.
For one, the SEC has to take a close look at its approach in determining the nationality of
corporations for purposes of verifying compliance with the ownership benchmark.
At present, it uses two methods in addressing this issue: the control test and grandfather rule.
Under the control test, if, on the basis of the documents submitted, it can be seen that at least 60
percent of a corporations capital is owned by Filipinos, the corporation will be considered of
Philippine nationality.
Once the 60 percent Filipino ownership is established, no further inquiries will be made on the
citizenship of the rest of the stockholders.
The grandfather rule, on the other hand, provides that the nationality of the stockholders is material or
critical in determining the nationality of a corporation or its compliance with our laws on permissible
foreign investments.
Criteria
Under this rule, the stocks owned by or registered in the name of foreigners are sorted out and added
to determine if they meet the allowable maximum percentage of foreign ownership in nationalized
businesses, e.g., 30 percent for advertising companies, 25 percent for recruitment agencies and 60
percent for financing companies.
The past rulings of the SEC show that it applies the control test in determining a corporations
nationality, unless there are questions about the true character of such ownership.
If there are, the corporation is grandfathered, meaning, the nationality of the owners of the stocks
under question is examined to determine if it meets the nationality requirements.
With the PLDT ruling already in force, the SEC may have to set aside the control test and apply the
grandfather rule to corporations engaged in nationalized businesses.
For this purpose, it can require the key officials of the affected companies to submit sworn statements
of their compliance with the minimum requirement on ownership of common shares by Filipino
citizens.
But the problem is it is difficult to take affidavits at their face value. It is common knowledge that most
Filipinos have little regard for written statements even if made under oath and notary publics will
notarize any document for the right price.
Examination
If caught lying in a sworn statement (which is a big if), the person concerned can raise any of the
following defenses: lack of knowledge of the significance of his statement, that he signed upon a
lawyers advice, and that he acted in good faith in claiming compliance with the law.
The more worrisome part of the problem is, the record of conviction in our country for perjury or false
affirmation in sworn statements is dismal. Hardly anybody goes to prison for that crime.
Unless the SEC wants to take a chance on the credibility of sworn statements, it has no recourse but
apply the grandfather rule to all covered corporations.
Its tough, but it has no choice. Otherwise, it runs the risk of being dressed down by the tribunal for
not performing its duty to monitor compliance by corporations with the nationality rules.
If the examination involves only natural persons, the task is easy. The birth certificates or passports of
the people will be the best proof of their nationality.
Unfortunately, its not going to be a walk in the park for corporations that are stockholders of
corporations covered by the nationality rules.
When the corporations under review consist of two or more corporations with different areas of
registration which, in turn, consist of corporations as stockholders, will the examination be limited to
the first layer of stockholder-corporations or would also cover the second or third layer, if any?
Layering of corporations (or using corporations as stockholders of other corporations in different
stages of organization) is a common practice in the business community. Unless used for unlawful
purposes, its perfectly legal.
The SEC has to make sure that, in applying the grandfather rule in its monitoring activities, the
business of business is not unduly hampered.