GRANDFATHER RULE: WHEN THE 60-40 FILIPINO – FOREIGN EQUITY IS IN DOUBT

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Published — June 1, 2022

The following post does not create a lawyer-client relationship between Alburo Alburo and Associates Law Offices (or any of its lawyers) and the reader. It is still best for you to engage the services of your own lawyer to address your legal concerns, if any.

Also, the matters contained in the following were written in accordance with the law, rules, and jurisprudence prevailing at the time of writing and posting, and do not include any future developments on the subject matter under discussion.

After learning about foreign equity, know more about the Key Notes on The Revised Corporation Code of The Philippines

The Law is found on the first paragraph of Section 2, Article XII of the 1987 Philippine Constitution, to wit:

“Section 2.  All lands of the public domain, waters, minerals, coal, petroleum, and other mineral oils, all forces of potential energy, fisheries, forests or timber, wildlife, flora and fauna, and other natural resources are owned by the State. With the exception of agricultural lands, all other natural resources shall not be alienated. The exploration, development, and utilization of natural resources shall be under the full control and supervision of the State. The State may directly undertake such activities, or it may enter into co-production, joint venture, or production-sharing agreements with Filipino citizens, or corporations or associations at least sixty per centum of whose capital is owned by such citizens. Such agreements may be for a period not exceeding twenty-five years, renewable for not more than twenty-five years, and under such terms and conditions as may be provided by law. In cases of water rights for irrigation, water supply, fisheries, or industrial uses other than the development of water power, beneficial use may be the measure and limit of the grant.” (emphasis supplied)

Now, how do we determine the nationality of a corporation? Laws and jurisprudence would provide the following tests:

1. Incorporation Test – It is determined by the place of incorporation regardless of the nationality of its stockholders.
2. Domiciliary Test – It is determined by the principal place of business of the corporation.
3. Control Test – It is determined by the nationality of the controlling stockholders or members. This test is applied in times of war.
4. Grandfather Rule – Nationality is attributed to the percentage of equity in the corporation used in nationalized or partly nationalized area. As further defined by Dean Cesar Villanueva, the Grandfather Rule is “the method by which the percentage of Filipino equity in a corporation engaged in nationalized and/or partly nationalized areas of activities, provided for under the Constitution and other nationalization laws, is computed, in cases where corporate shareholders are present, by attributing the nationality of the second or even subsequent tier of ownership to determine the nationality of the corporate shareholder.”
   1. Said rule is applied specifically in cases where the corporation has corporate stockholders with alien stockholdings, otherwise, if the rule is not applied, the presence of such corporate stockholders could
   2. diminish the effective control of Filipinos.

The first three tests are self-explanatory. Let’s talk about the fourth.

The Rule was thoroughly discussed in the case of “Narra Nickel Mining and Development Corporation vs. Redmont Consolidated Mines Corporation (G.R. No. 195580, January 28, 2015)”

The aforementioned case stemmed from a dispute over the mining and exploration of certain areas in Palawan. The respondent Redmont Consolidated Mines, Inc. (Redmont henceforth) questioned the nationality of the three petitioner corporations (Narra Nickel, Tesoro, and McArthur) which are prior applicants for Mineral Production and Sharing Agreements (MPSA) on the same area. Redmont alleged that these three corporations are not qualified as they do not meet the “at least 60% owned by Filipinos” requirement under the cited provision of the Constitution. It further argued that at least 60% of the capital stock of Narra Nickel, Tesoro and MacArthur are owned and controlled by MBMI Resources, Inc. (MBMI henceforth), which is a 100% Canadian corporation. 

The Supreme Court ruled on the dispute by giving an answer to the question, “When should the Grandfather Rule be applied?” It then provided that it should be applied only when:

• the corporation’s Filipino equity falls below the constitutional threshold of 60 percent or;
• there exists a “doubt” as to the Filipino to Foreign equity.

How would we know that a corporation’s Filipino equity falls bellow the threshold of 60 percent or that there exists a “doubt” as to the Filipino to Foreign equity? We must first apply the third test which is the Control Test. As mentioned, Control Test is determined by the nationality of the controlling stockholders. When after applying the Control Test and there exists a “doubt” as to the Filipino – Foreign equity, meaning, even when the equity does not fall below the threshold but reasonable grounds to doubt the true ownership exists, Grandfather Rule butts in.  Grandfather Rule determines the actual Filipino ownership and control in a corporation by tracing both the direct and indirect shareholdings in the corporation. In essence, Grandfather Rule supplements the Control Test.

The “doubt” demanding the application of the Grandfather Rule is not confined or refer to the fact that the apparent Filipino ownership of the corporation’s equity falls below the 60% constitutional threshold. Rather, “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 which actually gave rise to the legislation on the Anti-Dummy Law.

In the present case, the doubt exists as to the extent of control and beneficial ownership of MBMI over the petitioners and their investing corporate stockholders. In applying the Grandfather Rule, the Supreme Court looked into the actual ownership of MBMI in each of the three corporations. It further checked the structure of the other shareholder corporations of each company.   Through the application of the Grandfather Rule, the Supreme Court held that petitioners Narra Nickel, Tesoro and MacArthur Mining are not considered Philippine nationals since MBMI, a 100 percent Canadian corporation, owns 60 percent or more of their equity shares interests. Hence, as non-Philippine nationals, they are disqualified to participate in the exploitation, utilization and development of the Philippines’ natural resources

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Alburo Alburo and Associates Law Offices specializes in business law and labor law consulting. For inquiries, you may reach us at info@alburolaw.com, or dial us at (02)7745-4391/0917-5772207.

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