C. H. STEINBERG, AS RECEIVER OF THE SIBUGUEY TRADING COMPANY, INCORPORATED, PLAINTIFF AND APPELLANT, VS. GREGORIO VELASCO ET AL., DEFENDANTS AND APPELLEES.

It is stipulated that on July 24, 1922, the directors of the corporation approved the purchase of stock as follows:

One hundred shares from S. R. Ganzon for P1,000;

One hundred shares from Felix D. Mendaros at the same price; which purchase was made on June 29, 1922; another

One hundred shares from Felix D. Mendaros at the same price on July 16, 1922;

Ten shares from Dionisio Saavedra at the same price on June 29, 1922.

That during such times, the defendant Gregorio Velasco purchased 13
shares from the corporation for P130; Felix del Castillo—42 shares for
P420; Andres Navallo—15 shares for P150; and the defendant Mendaros—10
shares for P100. That during the time these various purchases were
made, the total amount of subscribed and paid up capital stock of the
corporation was P10,030, out of the authorized capital stock 2,000
shares of the par value of P10 each.

Paragraph 4 of the stipulation also recites:

“Be it also admitted as a fact that at the time of
the said purchases there was a surplus profit of the corporation
above-named of P3,314,72.”

Paragraph 5 is as follows :

“That at the time of the repeatedly mentioned
various purchases of the said capital stock were made, the said
corporation had Accounts Payable in tlhe total amount of P13,807.50 as
shown by the statement of the corporation, dated June 30, 1922, and
Accounts Receivable in the sum of P19,126.02 according td the books,
and that the intention of the Board of Directors was to resell the
stocks purchased by the corporations at a sum above par for each stock,
this expectation being justified by the then satisfactory and sound
financial condition of the business of the corporation.”

It is also stipulated that on September 11, 1923, when the petition
for the dissolution of the corporation was presented to the court,
according to a statement made June 30, 1923, it has accounts payable
aggregating P9,241.19, and accounts receivable for P12,512.47.

Paragraph 7 of the stipulation recites:

“That the same defendants, mentioned in paragraph 2
of this stipulation of facts and in the same capacity, on the same date
of July 24, 1922, and at the said meeting of the said Board of
Directors, approved and authorized by resolution the payments of
dividends to its stockholders, in the sum of three thousand pesos
(P3,000), Philippine currency, which payments were made at different
dates, between September 30, 1922, and May 12, 1923, both dates
inclusive, at a time when the corporation had accounts less in amount
than the accounts receivable, which resolution was based upon the
balance sheet made as June 30, 1922, said balance sheet showing that
the corporation had a surplus of P1,069.41, and a profit on the same
date of P2,656.08, or a total surplus amount of P3,725.49, and a
reserve fund of P2,889.23 for bad and doubtful accounts and
depreciation of equipment, thereby leaving a balance of P3,314.72 of
net surplus profit after paying this dividend.”

It is also stipulated at a meeting of the board of directors held on July 24, 1922, as follows:

“6. The president and manager submitted to the Board
of Directors his statement and balance sheet for the first semester
ending June 30, 1922 and recommended that P3,000—out of the surplus
account be set aside for dividends payable, and that payments be made
in installments so as not to affect the financial condition of the
corporation. That stockholders having outstanding account with the
corporation should settle first their accounts before payments of their
dividends could be made. Mr. Castillo moved that the statement and
balance sheet be approved as submitted, and also the recommendations of
the president. Seconded by Mr. Manuel. Approved.”

Paragraph 8 of the stipulation is as follows:

“That according to the balance sheet of the
corporation, dated June 30, 1923, it had accounts receivable in the sum
of P12,512.47, due from various contractor and laborers of the National
Coal Company, and also employees of the herein corporation, which the
herein receiver, after his appointment on February 28, 1924, although
he made due efforts by personally visiting the location of the
corporation, and of National Coal Company, at its offices, at Malangas,
Mindanao, and by writing numerous letters of demand to the debtors of
the corporation, in order to collect these accounts receivable, he was
unable to do so as most of them Were without goods or property, and he
could not file any suit against them that might have any property, for
the reason that he had no funds on hand with which to pay the filing
and sheriff fees to Malangas, and other places of their residences.”

From all of which, it appears that on June 30, 1922, the board of
directors of the corporation authorized the purchase of, purchased and
paid for, 330 shares of the capital stock of the corporation at the
agreed price of P3,300, and that at the time the purchase was made, the
corporation was indebted in the sum of P13,807.50, and that according
to its books, it had accounts receivable in the sum of P19,126.02. That
on September 11, 1923, when the petition was filed for its dissolution
upon the ground that it was insolvent, its accounts payable amounted to
P9,241.19, and its accounts receivable P12,512.47, or an apparent asset
of P3,271.28 over and above its liabilities. But it will be noted that
there is no stipulation or finding of fact as to what was the actual
cash value of its accounts receivable. Neither is there any stipulation
that those accounts or any part of them ever have been or will be
collected, and it does appear that after his appointment on February
28, 1924, the receiver made a diligent effort to collect them, and that
he was unable to do so, and it also appears from the minutes of the
board of directors that the president and manager “recommended that
P3,000—out of the surplus account to be set aside for dividends
payable, and that payments be made in installments so as not to affect
the financial condition of the corporation”

If in truth and in fact the corporation had an actual bona fide
surplus of P3,000 over and above all of its debts and liabilities, the
payment of the P3,000 in dividends would not in the least impair the
financial condition of the corporation or prejudice the interests of
its creditors.

It is very apparent that on June 24, 1922, the board of directors
acted on the assumption that, because it appeared from the books of the
corporation that it had accounts receivable of the face value of
Pl9,126.02, therefore it had a surplus over and above its debts and
liabilities. But as stated, there is no stipulation as to the actual
cash value of those accounts, and it does appear from the stipulation
that on February 28,1924, P12,512.47 of those accounts had but little,
if any, value, and it must be conceded that, in the purchase of its own
stock to the amount of P3,300 and in declaring the dividends to the
amount of P3,000, the real assets of the corporation were diminished
P6,300. It also appears from paragraph 4 of the stipulation that the
corporation had a “surplus profit” of P3,314.72 only. It is further
stipulated that the dividends should “be made in installments so as not
to affect the financial condition of the corporation.” In other words,
that the corporation did not then have an actual bona fide
surplus from which the dividends could be paid, and that the payment of
them in full at that time would “affect the financial condition of the
corporation.”

It is, indeed, peculiar that the action of the board in purchasing
the stock from the corporation and in declaring the dividends on the
stock was all done at the same meeting” of the board of directors, and
it appears in those minutes that both Ganzon and Mendaros were formerly
directors and resigned before the board approved the purchase and
declared the dividends, and that out of the whole 330 shares purchased,
Ganzon sold 100 and Mendaros 200, or a total of 300 shares out of the
330, which were purchased by the corporation, and for which it paid
P8,300. In other words, that the directors were permitted to resign so
that they could sell their stock to the corporation. As stated, the
authorized capital stock was P20,000 divided into 2,000 shares of the
par value of P10 each, of which only P10,030 was subscribed and paid.
Deducting the P3,300 paid for the purchase of the stock, there would be
left P7,000 of paid up stock, from which deduct P3,000 paid in
dividends, there would be left sP4,000 only. In this situation and upon
this state of facts, it is very apparent that the directors did not act
in good faith or that they were grossly ignorant of their duties.

Upon each of those points, the rule is well stated in Ruling Case Law, vol. 7, p. 473, section 454, where it is said:

“General Duty to Exercise Reasonable Care.—The directors of
a corporation are bound to care for its property and manage its affairs
in good faith, and for a violation of these duties resulting in waste
of its assets or injury to the property they are liable to account the
same as other trustees. And there can be no doubt that if they do acts
clearly beyond their power, whereby loss ensues to the corporation, or
dispose of its property or pay away its money without authority, they
will be required to make good the loss out of their private estates.
This is the rule where the disposition made of money or property of the
corporation is one either not within the lawful power of the
corporation, or, if within the power of the corporation, is not within
the power or authority of the particular officer or officers.”

And section 468 which says:

“Want of Knowledge, Skill, or Competency.—It has been said
that directors are not liable for losses resulting to the corporation
from want of knowledge on their part; or for mistakes of judgment,
provided they were honest, and provided they are fairly within the
scope of the powers and discretion confided to the managing body. But
the acceptance of the office of a director of a corporation implies a
competent knowledge of the duties assumed, and directors cannot excuse
imprudence on the ground of their ignorance or inexperience; and if
they commit an error of judgment through mere recklessness or. want of
ordinary prudence or skill, they may be held liable for the
consequences. Like a mandatory, to >whom he has been likened, a
director is bound not only to exercise proper care and diligence, but
ordinary skill and judgment. As he is bound to exercise ordinary skill
and judgment, he cannot set up that he did not possess them.”

Creditors of a corporation have the right to assume that so long as
there are outstanding debts and liabilities, the board of directors
will not use the assets of the corporation to purchase its own stock,
and that it will not declare dividends to stockholders when the
corporation is insolvent.

The amount involved in this case is not large, but the legal
principles are important, and we have given them the consideration
which they deserve.

The judgment of the lower court is reversed, and (a), as to
the first cause of action, one will be entered for the plaintiff and
against the defendant S. K. Ganzon for the sum of P1,000, with legal
interest from the 10th of February, 1926, and against the defendant
Felix D. Mendaros for P2,000, with like interest, and against the
defendant Dionisio Saavedra for P100, with like interest, and against
each of them for costs, each on their primary liability as purchasers
of stock, and (b) against the defendants Gregorio Velasco,
Felix del Castillo and Rufino Manuel, personally, as members of the
board of directors of the Sibuguey Trading Company, Incorporated, as
secondarily liable for the whole amount of such stock sold and
purchased as above stated, and on the second cause of action, judgment
will be entered (c) for the plaintiff and jointly and
severally against the defendants Gregorio Velasco, Felix del Castillo
and Rufino Manuel, personally, as members of the board of directors of
the Sibuguey Trading Company, Incorporated, for P8,000, with interest
thereon from February 10,1926, at the rate of 6 per cent per annum, and
costs. So ordered.

Johnson, Street, Malcolm, Ostrand, Romualdez., and Villa-Real, JJ., concur.