GERMAN SALGADO, PLAINTIFF AND APPELLANT, VS. THE ST. LOUIS DRY GOODS STORE (INC.), DEFENDANT AND APPELLANT,

These two causes were heard together in the lower court by consent of all the
parties and have also by consent been brought to this court by both parties as
appellants upon a single bill of exceptions. The causes of action stated in the
two complaints are based upon similar grounds and differ with respect to the two
plaintiffs only in special details. The plaintiffs allege the breach of a
contract by virtue of which they were employed by the defendant to manage for
the period of two years the business of a dry goods store in the city of Manila,
known as the St. Louis. From a judgment rendered in favor of the plaintiffs both
parties have appealed.

It appears that the defendant, The St. Louis Dry Goods Store (Inc.), is a
corporation which was organized in the early months of the year 1914 for the
purpose of taking over the business of “The St. Louis,” which had been acquired
by purchase by Lutz & Co., from the Bank of the Philippine Islands in June,
1913. After the formation of the corporation, it took over the business in
question subject to its liabilities.

At the time Lutz & Co. first acquired the ownership of the St. Louis, the
two plaintiffs herein, German Salgado and Pablo Martinez, were already connected
with the business and they were retained by Lutz & Co. in the capacity of
“sub-managers,” as they were styled. The agreement which determined their
relations to the business and the salary they were to draw was at first merely
verbal, but after the corporation was formed two written contracts were drawn up
and signed by the president of the corporation, as party of the first part, and
by the two plaintiffs separately, as parties of the second part. The most
material provisions in said contracts (both being identical in terms) were
these: The plaintiffs were engaged as sub-managers of the aforesaid store for
the calendar years 1914 and 1915, with the understanding that, in the
performance of their duties, they should submit themselves unconditionally to
the instructions of the president or board of directors of the corporation. The
salary of each was to be at the rate of P200 per month; and in addition to this,
it was agreed that each should be entitled to a sum equal to 17 1/2 per centum
of the actual net profits of the business, after allowing for depreciation of
stock, bad, and doubtful debts. In the fifth clause it was stipulated that the
plaintiffs should accept unconditionally the yearly or half-yearly balances of
the corporation as made up and accepted by the board of directors, and that they
should have no right whatever to claim any percentage or any amount of the
profits set aside by decision of the board in order to allow for depreciation of
stock, bad, and doubtful debts.

The relations of the contracting parties continued as defined in this
contract until February 26, 1915, upon which date the plaintiffs quit the
employment of the defendant company, alleging that the contract of employment
had been infringed by the latter. The action in which German Salgado is
plaintiff was instituted upon May 5, 1915, thereafter, and that in which Pablo
Martinez is plaintiff upon May 11,1915. The complaints each state four separate
causes of action. The first three causes of action, considered together, consist
in effect of a claim for an accounting with respect to the 17£ per centum of the
net profits of the business to which each of the plaintiffs was entitled under
his contract,—extending over the period from June 17, 1913 to February 26, 1915.
It is insisted for the plaintiffs that the amount of said participation, if
properly estimated, would be materially larger than the amount shown upon the
books of the company, and in particular it is insisted that the amounts allowed
by the directors of the defendant company for depreciation of stock, bad and
doubtful debts are excessive. Under this head the plaintiff, German Salgado,
asks judgment for the sum of P12,848.15, and the plaintiff, Pablo Martinez, for
the same amount.

The fourth cause of action sets forth that upon February 25, 1915, the
president of the defendant company notified the plaintiffs of the intention of
the management to place a manager in control of the business, in whom would be
vested a supervisory authority over the plaintiffs. The plaintiffs conceived
this step to be derogatory of their dignity as sub-managers and violative of the
terms of their contract with the defendant. They accordingly promptly quit the
defendant’s service, and in their fourth cause of action seek to recover not
only their salary for the unexpired term of the contract but also damages for
injury to their reputation as business men. The plaintiff, Salgado, estimates
his damages under this cause of action at P12,200 and the plaintiff Martinez at
P12,000.

As the principal point in the controversy arises upon the propriety of the
amounts set aside by the management for depreciation of stock in the semiannual
statements of the business, it is necessary to make a more detailed narration of
the facts pertinent to this matter. In this connection it appears that when the
business was acquired by Lutz & Co. in June, 1913, an inventory was taken by
or under the supervision of Messrs. Salgado and Martinez, and the value of the
stock on hand was set down conservatively at P100,186.32. The management then
decided to charge, as depreciation of stock, the sum of P17,711.68, leaving the
estimated net value of the stock on hand in the statement for June 17, 1913
(though made up later) at the sum of P82,474.64. The plaintiffs allege that this
initial appraisal of the stock was unduly conservative and they suppose
themselves prejudiced by the allowance of the amount here set aside for
depreciation. The court found that the amount so allowed was not excessive and
this finding was, in our opinion, correct. We may add, furthermore, that the
allowance of depreciation, however exorbitant or unreasonable in its amount, at
the initiation of the business, could not be prejudicial to the profits though
it would of course affect adversely the showing as to the amount of capital
invested. Even if Lutz & Co. had decided to allow a depreciation of 100 per
cent, thus apparently beginning without any stock of merchandise, the receipts
and profits would not have been adversely affected; and on the contrary the
apparent profits would have been swelled unless a corresponding depreciation had
been allowed upon the inventory at the next taking of stock. It results that the
plaintiffs are mistaken in thinking themselves aggrieved by reason of the
conservative estimate placed by the owners upon the value of the stock at the
time they took possession and by reason of an amount which was then allowed for
depreciation.

When stock was taken upon January 1, 1914, the value of the stock as shown by
the inventory was P87,585.12. Upon this the Directors allowed a depreciation of
P21,278.72. At the end of the next six months, i. e., upon June 30, 1914, the
inventory of the stock showed a valuation of P129,011.04, upon which the
Directors allowed a depreciation of P22,504.66. Again, at the end of the next
six months, i. e,, December 31, 1914, the inventory showed a valuation of
P116,008.17, upon which the Directors allowed a depreciation of P17,052.63.

During this period of about one and one-half years, the quantity of goods
carried in stock fluctuated by reason of the varying quantity of goods which
were bought and sold from time to time. The amount of the sales during each
successive period of six months was constant at about P67,000, while the
quantity of goods purchased varied as follows: First six months, P22,733.98;
second six months, P83,559.20; third six months, P35,331.21.

The stock was taken and inventories made upon each of the several occasions
above referred to by the plaintiffs themselves or under their direction, and the
inventories show, or should show, the actual cost price of the goods at the date
of each inventory.’ The plaintiffs were instructed to take the inventory in this
manner, and they certify upon the last balance sheet (of January 1, 1914) that
such had been done in that instance. We assume and believe that, as a rule, it
was so done, although one of the plaintiffs testified that the values set down
in the inventories would run on the average 10 per cent or 12 per cent below the
cost price of the goods. As the only result of the failure of the defendants to
set down the goods at cost price would be in the end to prejudice their own
interests, it must be assumed that the stock was properly taken and that the
goods were in each instance set down at cost price.

The consideration just mentioned shows that the amounts allowed for
depreciation at the several successive semi-annual stock takings were not in any
sense cumulative depreciations. Each amount set aside for depreciation, on the
contrary, represents a deduction from the original cost price; and the equitable
adjustment of the item of depreciation over any extended period requires, not
precisely that the percentage of depreciation should be at any certain point,
say 10 per cent or 20 per cent, but that the factor should be as constant as
practicable with reference to the amount of the goods in stock. In this
connection two facts should be noted, namely, first, that depreciation at the
beginning of any period is favorable to the profit and loss account, while
depreciation at the end is unfavorable to that account; and secondly, that in
estimating the profit and loss over several successive periods of stock taking
the intermediate points may be ignored as offsetting each other. For instance,
the depreciation at the end of 1913, though unfavorable to the profit and loss
account for the closing six months, is in the same degree favorable to the same
account for the next ensuing six months.

Bearing these facts in mind, it may be observed that the initial depreciation
allowed at the beginning in June, 1913, represented about 17 per cent of the
inventoried value of the stock of that date; while the final depreciation
allowed upon January 1, 1914, represented about 14.65 per cent of the
inventoried value of the stock of the same date. This clearly shows that the
amount of depreciation was less at the end than at the beginning of the period
and was to that extent favorable to the plaintiffs.

Turning now to the consideration of the actual profit and loss as shown on
the books of the company and the balance sheets prepared by the accountants
employed for this purpose by the defendant company, it appears that at the end
of the first six months (i. e., December 31, 1913), there was a profit of
P5,000. Thereafter no further profit was shown on any of the semiannual balance
sheets; and the amounts set aside for depreciation at the successive intervals
of stock taking were so adjusted as to absorb the profits which would otherwise
have appeared.

In the balance sheet submitted by the firm of accountants who had been
employed to examine the books and accounts of the company for the year ending
December 31, 1914, we find the following statement which, it may be supposed,
operated upon the minds of the members of the board of directors as a reason for
the appointment of a manager. Say the auditors: “We have not received a
satisfactory explanation of the shrinkage in the gross profit earned on cost
prices of goods sold during the second half of the year to 38 per cent as
against 60 per cent earned during the first half of the year.” (Exhibit I.)
Attached to this balance sheet is a certificate signed by each of the plaintiffs
to the effect that the inventory contained a true statement of the goods in the
store upon that date at their cost value.

The judge of the court below, in passing upon the propriety of the amounts
set aside for depreciation, assumed that the depreciation allowed at the end of
the period, i. e., on December 31, 1914, was cumulative upon the depreciation
allowed at the beginning, i. e., in June, 1913; and for this reason only he
arrived at the conclusion that the depreciation was excessive. He therefore
turned the last depreciation, consisting of the sum of P17,052.63, back into the
profit and loss account and rendered judgment in favor of the plaintiffs, for
their share in said profit.

In our opinion the court erred in this conclusion. It cannot be fairly
maintained that after taking stock at depreciated values in June, 1913, the
stock on hand at the and of the period should be appraised at full cost price.
The learned trial judge was furthermore mistaken in supposing that the
percentage of depreciation was greater at the end than at the beginning of the
period; in fact it fell from over 17 per cent to under 15 per cent, a
circumstance which, as we have already observed, was favorable to the
plaintiffs. The plaintiffs introduced no evidence from disinterested merchants
or accountants to prove what would have been a reasonable percentage to set
aside under the head of depreciation, or the usage of mercantile houses with
respect to this matter; nor in our opinion have they proved that they were
unduly prejudiced by the action in this respect which was in fact taken.

Referring back to the terms of their contract, it will be recalled that they
obligated themselves, in the fifth clause, to accept unconditionally the yearly
or half yearly balances of the corporation as made up and accepted by the board
of directors; and while we do not pretend to say that this clause would protect
the defendant if the depreciation had been determined in bad faith, we are
nevertheless of the opinion that it is so far binding on the plaintiffs that
before they can impeach the action of the board in this respect they must show
bad faith on the part of the board in determining the depreciation.

The evidence submitted by the plaintiffs falls short of this. The business
was apparently not prosperous during this period,—a circumstance possibly due in
part at least to the depressed condition of business in general; and though the
item of depreciation was so calculated by the management as to absorb the
apparent profits and leave nothing for distribution either in June, 1914, or at
the end of the same year, it does not appear that the authority of the board of
directors in fixing the depreciation was abused to the prejudice of the
plaintiffs.

It results that the action of the trial court must be reversed in giving
judgment in favor of the plaintiffs for their percentage of participation in the
profits which, as the court erroneously supposed, were concealed under the head
of depreciation in the statement of December 31, 1914.

It may be added that in February, 1915, the plaintiff, Martinez, approved a
written statement of his personal account submitted to him by the president of
the defendant company, in which he was shown to be debtor to it in the sum of
P936.74. (Exhibit K.) It is insisted for the defendant that this was an
acceptance of the account as correct and that said Martinez is precluded from
questioning its correctness.. On the other hand, it is insisted by Martinez that
his approval of this statement was obtained by duress and threats, or otherwise
under such circumstances that he should not be considered bound by the consent
so given. It appears from the evidence that the acquiescence of Martinez was
reluctantly given, and his motive in yielding was to have an opportunity to
visit Spain, which had been promised him by Zuellig. In view of our finding upon
the principal issue, it is unnecessary to pass upon this contention; for
supposing that the plaintiffs are not entitled to the profits claimed, the
statement of the account which was approved by Martinez is in fact correct.

With respect to the fourth cause of action the court, properly, as we think,
held that the defendant company was not liable to the plaintiffs. There was
nothing in the articles of agreement which expressly denied the right of the
board to place a manager in charge of the business with supervision and
authority over the plaintiffs. The use of the term “sub-manager” to describe
their function seems to indicate a right in the board to name a manager; and as
the contract did not expressly provide that the plaintiffs should have exclusive
control, it follows that the right to nominate another with superior authority
was reserved by the company. We accordingly hold that the defendant cannot be
held liable either for the unearned salary of the plaintiffs during the
unexpired period of the contract or for the damages supposed to have been
incurred by reason of the supposed injury to their reputation and standing as
merchants.

The defendant asserts by way of counterclaim, in its answer to the complaint
filed by Salgado, that the latter is indebted to the defendant company for
certain sums, indicated in account Exhibit A, for advances, loans, etc., in an
amount approximating P3,652.90; and it asserts in its answer to the complaint
filed by Martinez, that the latter is indebted to the defendant upon an account
stated in the sum of P936.74, and upon a further loan, in the sum of P92.41,
amounting altogether to P1,029.15. Judgment is accordingly asked upon these
counterclaims in the two actions, respectively. The court below found that the
amount with which Salgado should be thus charged was P3,000, and that the amount
with which Martinez should be charged was P975. About the correctness of these
findings there is substantially no dispute. The plaintiffs are, however, each
entitled to be credited with his respective share (17 1/2 per cent) in the
profit of P5,000, shown by the books of the defendant company to have been
earned for the period ending December 31, 1913. This amounts to P875 for each.
Deducting this amount from the indebtedness of each, as shown above, it results
that the plaintiff Salgado is indebted to the defendant company in the sum of
P2,125 and that the plaintiff Martinez is indebted to the defendant company in
the sum of P100.

The judgment of the lower court is reversed and judgment will here be entered
in favor of The St. Louis Dry Goods Store (Inc.) against German Salgado
for the sum of two thousand one hundred twenty-five pesos (P2,125) and against
Pablo Martinez for the sum of one hundred pesos (P100), without any express
finding of costs of this instance. Pursuant to the provisions of section 500 of
the Code of Civil Procedure interest will be allowed on both these sums from
February 1, 1916, until paid. So ordered.

Torres, Johnson, Araullo, Malcolm, and Fisher, JJ.,
concur.