Is corporate layering still valid?

Questions on the validity of corporate layering as a means of structuring the ownership of companies have been raised following a spate of Supreme Court decisions relating to companies where minimum Filipino ownership is required by our Constitution and laws.

Applying the control test, the Supreme Court recently recognized corporate layering in the case of Narra Nickel Mining and Development Corp. v. Redmont Consoidated Mines Corp. (G.R. No. 195580, April 21, 2014).

The control test basically provides that shares belonging to corporations or partnerships at least 60 percent of the capital of which is owned by Filipino citizens shall be considered of Philippine nationality.

At the same time, the Supreme Court said that while “[c]orporate layering is admittedly allowed by the [Foreign Investments Act] … if it is used to circumvent the Constitution and pertinent laws, then it becomes illegal.”

In such case, the grandfather rule will be used to determine compliance with the nationality requirement prescribed by our Constitution and laws.

Under the grandfather rule, the citizenship of the individuals who ultimately own or control the shares of stock of the corporation must be looked into for purposes of determining compliance with the Filipino ownership requirement.

According to the Supreme Court, “where the 60-40 Filipino-foreign equity ownership is not in doubt, the Grandfather Rule will not apply.”

But where there exists doubt as to the proper representation of the Filipino-foreign equity participation, the grandfather rule will be used in lieu of the control test to determine compliance with the nationality requirement.

In Redmont, the Supreme Court found serious doubt as to the true nationality of the corporations involved due to the following: 1) the presence of a common major investor, a one hundred percent Canadian corporation, in three mining corporations; 2) the similarities of the corporate structures of the corporations; 3) the presence of the same nominal shareholders in the corporations; and 4) the paid-in capital of the corporate owners being paid only by the foreign investor, among many other indicators showing the desire to circumvent the nationality requirement in mining activities.

“After a scrutiny of the evidence extant on record, the Court finds that this case calls for the application of the grandfather rule since … doubt prevails and persists in the corporate ownership of petitioners. Also, … doubt is present in the 60-40 Filipino equity ownership of petitioners Narra, McArthur and Tesoro, since their common investor, the 100% Canadian corporation, MBMI, funded them,” the Supreme Court said.

Thus, the Supreme Court ruled that the foreign corporation, MBMI, owns majority of the common stocks of the mining corporations through a web of corporate layering, in violation of the nationality requirement prescribed by our Constitution for mining companies.

As shown above, the control test is still the general rule. Only when there exists genuine doubt as to the true ownership of the stockholdings in a corporation will the grandfather rule be used to determine compliance with the Filipino ownership requirement prescribed by our Constitution and laws.

Aside from avoiding the pitfalls like those identified by the Supreme Court in the Redmont case, the minimum requirement to ensure that the control test will be applied to corporate layering is to comply with the two-tiered test of the Securities and Exchange Commission (SEC) under Memorandum Circular No. 8, series of 2013, otherwise known as the “Guidelines on Compliance with the Filipino-Foreign Ownership Requirements.”

Under this circular, compliance with the necessary percentage of Filipino ownership is required in BOTH (a) the total number of outstanding shares of stock entitled to vote in the election of directors; AND (b) the total number of outstanding shares of stock, whether or not entitled to vote in the election of directors.

(The author is a senior partner of Angara Abello Concepcion Regala & Cruz Law Offices [Accralaw] and is a law professor in the Ateneo Law School. The views in this column are exclusively his, and should not be attributed in any way to the institutions with which he is currently affiliated. He may be contacted at [email protected].)