Nielson vs lepanto

Facts:

An operating agreement was executed before World War II (on 30

January 1937) between Nielson & Co. Inc. and the Lepanto Consolidated
Mining Co. whereby the former operated and managed the mining
properties owned by the latter for a management fee of P2,500.00 a month
and a 10% participation in the net profits resulting from the operation of the
mining properties, for a period of 5 years. In 1940, a dispute arose
regarding the computation of the 10% share of Nielson in the profits. The
Board of Directors of Lepanto, realizing that the mechanics of the contract
was unfair to Nielson, authorized its President to enter into an agreement
with Nielson modifying the pertinent provision of the contract effective 1
January 1940 in such a way that Nielson shall receive (1) 10% of the
dividends declared and paid, when and as paid, during the period of the
contract and at the end of each year, (2) 10% of any depletion reserve that
may be set up, and (3) 10% of any amount expended during the year out of
surplus earnings for capital account. In the latter part of 1941, the parties
agreed to renew the contract for another period of 5 years, but in the
meantime, the Pacific War broke out in December 1941. In January 1942
operation of the mining properties was disrupted on account of the war. In
February 1942, the mill, power plant, supplies on hand, equipment,
concentrates on hand and mines, were destroyed upon orders of the
United States Army, to prevent their utilization by the invading Japanese
Army. 

The Japanese forces thereafter occupied the mining properties, operated

the mines during the continuance of the war, and who were ousted from the
mining properties only in August 1945. After the mining properties were
liberated from the Japanese forces, LEPANTO took possession thereof and
embarked in rebuilding and reconstructing the mines and mill; setting up
new organization; clearing the mill site; repairing the mines; erecting staff
quarters and bodegas and repairing existing structures; installing new
machinery and equipment; repairing roads and maintaining the same;
salvaging equipment and storing the same within the bodegas; doing police
work necessary to take care of the materials and equipment recovered;
repairing and renewing the water system; and retimbering. The
rehabilitation and reconstruction of the mine and mill was not completed
until 1948. On 26 June 1948 the mines resumed operation under the
exclusive management of LEPANTO. Shortly after the mines were liberated
from the Japanese invaders in 1945, a disagreement arose between
NIELSON and LEPANTO over the status of the operating contract which as
renewed expired in 1947. Under the terms thereof, the management
contract shall remain in suspense in case fortuitous event or force majeure,
such as war or civil commotion, adversely affects the work of mining and
milling. On 6 February 1958, NIELSON brought an action against
LEPANTO before the Court of First Instance of Manila to recover certain
sums of money representing damages allegedly suffered by the former in
view of the refusal of the latter to comply with the terms of a management
contract entered into between them on 30 January 1937, including
attorney's fees and costs. LEPANTO in its answer denied the material
allegations of the complaint and set up certain special defenses, among
them, prescription and laches, as bars against the institution of the action. 

After trial, the court a quo rendered a decision dismissing the complaint
with costs. The court stated that it did not find sufficient evidence to
establish LEPANTO's counterclaim and so it likewise dismissed the same.
NIELSON appealed. The Supreme Court reversed the decision of the trial
court and enter in lieu thereof another, ordering Lepanto to pay Nielson (1)
10% share of cash dividends of December, 1941 in the amount of
P17,500.00, with legal interest thereon from the date of the filing of the
complaint; (2) management fee for January, 1942 in the amount of
P2,500.00, with legal interest thereon from the date of the filing of the
complaint; (3) management fees for the sixty-month period of extension of
the management contract, amounting to P150,000.00, with legal interest
from the date of the filing of the complaint; (4) 10% share in the cash
dividends during the period of extension of the management contract,
amounting to P1,400,000.00, with legal interest thereon from the date of
the filing of the complaint; (5) 10% of the depletion reserve set up during
the period of extension, amounting to P53,928.88, with legal interest
thereon from the date of the filing of the complaint; (6) 10% of the expenses
for capital account during the period of extension, amounting to
P694,364.76, with legal interest thereon from the date of the filing of the
complaint; (7) to issue and deliver to Nielson and Co. Inc. shares of stock
of Lepanto Consolidated Mining Co. at par value equivalent to the total of
Nielson's 10% share in the stock dividends declared on November 28,
1949 and August 22, 1950, together with all cash and stock dividends, if
any, as may have been declared and issued subsequent to November 28,
1949 and August 22, 1950, as fruits that accrued to said shares; provided
that if sufficient shares of stock of Lepanto's are not available to satisfy this
judgment, Lepanto shall pay Nielson an amount in cash equivalent to the
market value of said shares at the time of default, that is, all shares of stock
that should have been delivered to Nielson before the filing of the complaint
must be paid at their market value as of the date of the filing of the
complaint; and all shares, if any, that should have been delivered after the
filing of the complaint at the market value of the shares at the time Lepanto
disposed of all its available shares, for it is only then that Lepanto placed
itself in condition of not being able to perform its obligation; (8) the sum of
P50,000.00 as attorney's fees; and (9) the costs. 

Lepanto seeks the reconsideration of the decision rendered on 17

December 1966. 

Issue:

Whether or not Nielson is entitled to stock dividend

Held:

Section 16 of the Corporation Law, in part, provides as follows:

No corporation organized under this Act shall create or issue bills, notes or
other evidence of debt, for circulation as money, and no corporation shall
issue stock or bonds except in exchange for actual cash paid to the
corporation or for: (1) property actually received by it at a fair valuation
equal to the par or issued value of the stock or bonds so issued; and in
case of disagreement as to their value, the same shall be presumed to be
the assessed value or the value appearing in invoices or other commercial
documents, as the case may be; and the burden or proof that the real
present value of the property is greater than the assessed value or value
appearing in invoices or other commercial documents, as the case may be,
shall be upon the corporation, or for (2) profits earned by it but not
distributed among its stockholders or members; Provided, however, That
no stock or bond dividend shall be issued without the approval of
stockholders representing not less than two-thirds of all stock then
outstanding and entitled to vote at a general meeting of the corporation or
at a special meeting duly called for the purpose.

xxx xxx xxx

No corporation shall make or declare any dividend except from the surplus
profits arising from its business, or divide or distribute its capital stock or
property other than actual profits among its members or stockholders until
after the payment of its debts and the termination of its existence by
limitation or lawful dissolution: Provided, That banking, savings and loan,
and trust corporations may receive deposits and issue certificates of
deposit, checks, drafts, and bills of exchange, and the like in the
transaction of the ordinary business of banking, savings and loan, and trust
corporations. (As amended by Act No. 2792, and Act No. 3518; Emphasis
supplied.)

From the above-quoted provision of Section 16 of the Corporation Law, the

consideration for which shares of stock may be issued are: (1) cash; (2)
property; and (3) undistributed profits. Shares of stock are given the special
name "stock dividends" only if they are issued in lieu of undistributed
profits. If shares of stocks are issued in exchange of cash or property then
those shares do not fall under the category of "stock dividends". A
corporation may legally issue shares of stock in consideration of services
rendered to it by a person not a stockholder, or in payment of its
indebtedness. A share of stock issued to pay for services rendered is
equivalent to a stock issued in exchange of property, because services is
equivalent to property.14 Likewise a share of stock issued in payment of
indebtedness is equivalent to issuing a stock in exchange for cash. But a
share of stock thus issued should be part of the original capital stock of the
corporation upon its organization, or part of the stocks issued when the
increase of the capitalization of a corporation is properly authorized. In
other words, it is the shares of stock that are originally issued by the
corporation and forming part of the capital that can be exchanged for cash
or services rendered, or property; that is, if the corporation has original
shares of stock unsold or unsubscribed, either coming from the original
capitalization or from the increased capitalization. Those shares of stock
may be issued to a person who is not a stockholder, or to a person already
a stockholder in exchange for services rendered or for cash or property.
But a share of stock coming from stock dividends declared cannot be
issued to one who is not a stockholder of a corporation.

A "stock dividend" is any dividend payable in shares of stock of the

corporation declaring or authorizing such dividend. It is, what the term itself
implies, a distribution of the shares of stock of the corporation among the
stockholders as dividends. A stock dividend of a corporation is a dividend
paid in shares of stock instead of cash, and is properly payable only out of
surplus profits.15 So, a stock dividend is actually two things: (1) a dividend,
and (2) the enforced use of the dividend money to purchase additional
shares of stock at par.16 When a corporation issues stock dividends, it
shows that the corporation's accumulated profits have been capitalized
instead of distributed to the stockholders or retained as surplus available
for distribution, in money or kind, should opportunity offer. Far from being a
realization of profits for the stockholder, it tends rather to postpone said
realization, in that the fund represented by the new stock has been
transferred from surplus to assets and no longer available for actual
distribution.17 Thus, it is apparent that stock dividends are issued only to
stockholders. This is so because only stockholders are entitled to
dividends. They are the only ones who have a right to a proportional share
in that part of the surplus which is declared as dividends. A stock dividend
really adds nothing to the interest of the stockholder; the proportional
interest of each stockholder remains the same.18If a stockholder is
deprived of his stock dividends - and this happens if the shares of stock
forming part of the stock dividends are issued to a non-stockholder — then
the proportion of the stockholder's interest changes radically. Stock
dividends are civil fruits of the original investment, and to the owners of the
shares belong the civil fruits.19

The term "dividend" both in the technical sense and its ordinary
acceptation, is that part or portion of the profits of the enterprise which the
corporation, by its governing agents, sets apart for ratable division among
the holders of the capital stock. It means the fund actually set aside, and
declared by the directors of the corporation as dividends and duly ordered
by the director, or by the stockholders at a corporate meeting, to be divided
or distributed among the stockholders according to their respective
interests.20

It is Our considered view, therefore, that under Section 16 of the

Corporation Law stock dividends can not be issued to a person who is not
a stockholder in payment of services rendered. And so, in the case at bar
Nielson can not be paid in shares of stock which form part of the stock
dividends of Lepanto for services it rendered under the management
contract. We sustain the contention of Lepanto that the understanding
between Lepanto and Nielson was simply to make the cash value of the
stock dividends declared as the basis for determining the amount of
compensation that should be paid to Nielson, in the proportion of 10% of
the cash value of the stock dividends declared. And this conclusion of Ours
finds support in the record.