DBP vs. NLRC

A foreclosing creditor is not liable for the unpaid wages of the debtor-employer's workers under Article 110 of the Labor Code unless there is a declaration of bankruptcy or judicial liquidation, and the worker's preference under Article 110 is an ordinary preferred credit — not a lien — that may be enforced only in in rem distribution proceedings where all creditors are convened and their claims adjudicated.

Philippine Smelters Corporation (PSC) was a Philippine-registered corporation engaged in iron smelting and steel manufacturing. In 1983, PSC obtained a loan from the Development Bank of the Philippines (DBP), a government-owned financial institution created and operated under Executive Order No. 81, secured by a mortgage over PSC's real properties, buildings, improvements, and chattels, with PSC's president Jose T. Marcelo, Jr. as co-obligor. By virtue of the loan agreement, DBP became PSC's majority stockholder, holding P31,000,000.00 of PSC's total subscribed and paid-up capital stock of P60,226,000.00, and subsequently took over PSC's management.

Philippine Smelters Corporation (PSC), a corporation registered under Philippine law, obtained a loan in 1983 from the Development Bank of the Philippines (DBP), a government-owned financial institution created and operated pursuant to Executive Order No. 81, to finance its iron smelting and steel manufacturing business. To secure the loan, PSC mortgaged to DBP real properties with all buildings and improvements thereon, as well as chattels, with PSC's president, Jose T. Marcelo, Jr., acting as co-obligor. Under the loan agreement, DBP became PSC's majority stockholder, holding P31,000,000.00 of the total P60,226,000.00 subscribed and paid-up capital stock, and thereafter took over PSC's management.

PSC failed to pay its obligation, which amounted to P75,752,445.83 as of March 31, 1986. DBP accordingly foreclosed and acquired the mortgaged real estate and chattels in auction sales held on February 25, 1987 and March 4, 1987. On February 10, 1987, forty individuals representing themselves as unpaid employees filed a Petition for Involuntary Insolvency in the Regional Trial Court, Branch 61, Makati, docketed as Special Proceeding No. M-1359, against PSC and DBP, impleading Olecram Mining Corporation, Jose Panganiban Ice Plant and Cold Storage, Inc., and PISO Bank as co-respondents.

On February 13, 1987, the herein private respondents filed a complaint with the Department of Labor against PSC for nonpayment of salaries, 13th month pay, incentive leave pay, and separation pay. On February 20, 1987, the complaint was amended to include DBP as a party respondent. The case was endorsed to the Arbitration Branch of the NLRC. DBP filed its position paper on September 7, 1987, invoking the absence of any employer-employee relationship between itself and private respondents and asserting that it foreclosed PSC's assets solely as a creditor.

On January 30, 1988, the labor arbiter rendered a decision directing DBP, as foreclosing creditor, to pay all unpaid wages and benefits of the workers which remained unpaid due to PSC's foreclosure. On appeal, the NLRC sustained the labor arbiter, holding DBP liable not as a majority stockholder of PSC but as the foreclosing creditor in possession of PSC's assets by virtue of the 1987 auction sales. The NLRC further held that the labor arbiter correctly assumed jurisdiction because the workers' preference to the amount secured by DBP through the foreclosure sales arose out of or was connected with the labor dispute. Private respondents, in their comment, attempted to establish an employer-employee relationship by pointing to DBP's status as majority stockholder and the presence of DBP personnel on PSC's board of directors.

• Jurisdiction: DBP contended that the labor arbiter and the NLRC committed grave abuse of discretion in assuming jurisdiction over DBP, there being no employer-employee relationship between DBP and private respondents.
• Misapplication of Article 110: DBP argued that the labor arbiter and the NLRC erred in applying the provisions of Article 110 of the Labor Code, as amended, to hold it liable for PSC's unpaid wage obligations.
• Non-enforcement of EO No. 81: DBP maintained that Section 14 of Executive Order No. 81, its charter provision, should have been enforced and applied by the labor tribunals.

• Employer-Employee Relationship: Private respondents attempted to prove the existence of an employer-employee relationship based on the fact that DBP was the majority stockholder of PSC and that the majority of the members of PSC's board of directors were from DBP.
• Foreclosing Creditor Liability: Private respondents contended that DBP, as the foreclosing creditor in possession of PSC's assets, should be held liable for the unpaid wages and benefits of PSC's employees.

• Jurisdiction: Whether the labor arbiter and the NLRC had jurisdiction over DBP.
• Applicability of Article 110: Whether DBP, as foreclosing creditor, could be held liable for the unpaid wages, 13th month pay, incentive leave pay, and separation pay of PSC's employees under Article 110 of the Labor Code.
• Application of EO No. 81: Whether Section 14 of Executive Order No. 81 should have been applied.

• Jurisdiction: No employer-employee relationship existed between DBP and private respondents; however, the jurisdictional defect was cured when DBP appealed the labor arbiter's decision to the NLRC, thereby submitting to its jurisdiction.
• Applicability of Article 110: No. DBP as foreclosing creditor could not be held liable under Article 110, because worker preference requires a declaration of bankruptcy or judicial liquidation and can be enforced only in in rem distribution proceedings where all creditors are convened.
• Application of EO No. 81: The petition was granted on the primary ground that Article 110 was inapplicable; the specific application of Section 14 of EO No. 81 was subsumed in the ruling that DBP's mortgage credit, as a special preferred credit, could not be overridden by the workers' ordinary preference outside of proper liquidation proceedings.

• Jurisdiction: The circumstances cited by private respondents — DBP's majority stockholding in PSC and the presence of DBP representatives on PSC's board of directors — were insufficient indicia of an employer-employee relationship to confer jurisdiction on the labor arbiter. This was especially so given that both the labor arbiter and the NLRC expressly declared that DBP was being held liable not as an employer but as a foreclosing creditor. Nevertheless, the jurisdictional defect was cured when DBP appealed the labor arbiter's decision to the NLRC, thereby submitting itself to the latter's jurisdiction.

• Applicability of Article 110: Article 110 of the Labor Code, as it read during the material dates, provided that in the event of bankruptcy or liquidation of an employer's business, workers shall enjoy first preference as regards wages due them, to be paid in full before other creditors may establish any claim. The Court interpreted this provision, relying on Development Bank of the Philippines vs. Hon. Labor Arbiter Ariel C. Santos, et al., to require a declaration of bankruptcy or judicial liquidation before the worker's preference may be enforced. The rationale, drawn from Philippine Savings Bank vs. Lantin, is that insolvency proceedings and settlement of estates are proceedings in rem binding on the whole world; a liquidation of similar import must also be a proceeding in rem so that all interested persons may be bound. A piece-meal settlement outside such proceedings would leave titles unstable and would not authoritatively adjudicate the claims of all creditors, preferred or non-preferred.

The Court further distinguished between a preference of credit and a lien: Article 110 creates a preference of credit, not a lien on any specific property. DBP's mortgage credit, by contrast, is a special preferred credit under Article 2242(5) of the Civil Code, directly and immediately subjecting the mortgaged property to the fulfillment of the obligation. The worker's preference under Article 110, when not falling within Articles 2241(6) and 2242(3) of the Civil Code, is an ordinary preferred credit that moves the claim from second to first priority in the order established by Article 2244, but does not create a charge on specific property. Even after Republic Act No. 6715 amended Article 110 to expand the scope of worker preference, the same interpretation requiring liquidation proceedings was adopted in Development Bank of the Philippines vs. National Labor Relations Commission, et al. (G.R. Nos. 82763-64, March 19, 1990, en banc). The amendment did not eliminate the need for proceedings in rem. Moreover, even if the amendment were interpreted to mean "absolute preference," it should be given only prospective effect pursuant to Article 4 of the Civil Code, thereby avoiding impairment of DBP's mortgage contract, which antedated RA 6715 by several years. Because an involuntary insolvency proceeding had already been instituted against PSC, private respondents should properly assert their claims in that proceeding.

• Application of EO No. 81: The Court's ruling that DBP's mortgage credit is a special preferred credit enforceable against the foreclosed property, and that the workers' preference is an ordinary preferred credit enforceable only in distribution proceedings, effectively subsumed the argument regarding Section 14 of EO No. 81 within the broader framework of concurrence and preference of credits under the Civil Code, the Insolvency Law, and the Labor Code.

• Worker Preference Under Article 110 of the Labor Code — The worker's preference for unpaid wages under Article 110 is a preference of credit, not a lien on specific property. It does not attach to any particular asset of the employer and is enforceable only in proceedings in rem, such as insolvency or judicial liquidation, where all creditors are convened, their claims ascertained and inventoried, and the preference determined in the course of judicial proceedings. Absent such proceedings, the preference cannot be effectively enforced. The Court applied this doctrine to hold that DBP, as a foreclosing creditor with a mortgage lien, could not be held liable for PSC's unpaid wages outside of the insolvency proceedings already instituted against PSC.

• Distinction Between Preference of Credit and Lien — A preference applies only to claims which do not attach to specific properties; a lien creates a charge on a particular property. A recorded mortgage credit is a special preferred credit under Article 2242(5) of the Civil Code and creates a real right enforceable against the whole world. The worker's preference under Article 110, when not falling within Articles 2241(6) and 2242(3), is an ordinary preferred credit under Article 2244. The Court relied on this distinction to prioritize DBP's mortgage lien over the workers' preference in the absence of proper liquidation proceedings.

• Prospective Application of Labor Code Amendments — Even if an amendment to Article 110 (via RA 6715) were interpreted to grant "absolute preference" to workers, it must be given only prospective effect pursuant to Article 4 of the Civil Code, so as not to violate the constitutional guarantee against impairment of the obligation of contracts. DBP's mortgage credit antedated RA 6715 by several years, and giving the amendment retroactive effect would wipe out the mortgage and expose DBP to a risk it had sought to protect against by requiring collateral.

• "It is quite clear from the provisions that a declaration of bankruptcy or a judicial liquidation must be present before the worker's preference may be enforced." — This passage, drawn from DBP vs. Hon. Labor Arbiter Ariel C. Santos, et al., articulates the fundamental requirement for enforcing worker preference under Article 110 and is central to the Court's ruling that DBP could not be held liable outside of insolvency proceedings.

• "Article 110 of the Labor Code does not purport to create a lien in favor of workers or employees for unpaid wages either upon all of the properties or upon any particular property owned by their employer." — This quotation from Republic vs. Peralta, reproduced in the decision, defines the legal character of the worker's preference as an ordinary preferred credit rather than a lien, a distinction critical to resolving the conflict between DBP's mortgage credit and the workers' wage claims.

• "The right to preference given to workers under Article 110 of the Labor Code cannot exist in any effective way prior to the time of its presentation in distribution proceedings." — This sentence encapsulates the ratio decidendi: worker preference is operative only within the context of proper in rem distribution proceedings, not in isolated labor claims against a foreclosing creditor.

• Development Bank of the Philippines vs. Hon. Labor Arbiter Ariel C. Santos, et al., 171 SCRA 138 (1989) — Controlling precedent. The Court relied on this case for the interpretation that Article 110 requires a declaration of bankruptcy or judicial liquidation before worker preference may be enforced. This case was cited as the primary authority for the ruling.

• Development Bank of the Philippines vs. National Labor Relations Commission, et al., G.R. Nos. 82763-64, March 19, 1990 (en banc) — Controlling precedent. The Court reproduced salient portions of this decision to show that even after RA 6715 amended Article 110, the same interpretation requiring liquidation proceedings was adopted. This case elaborated the six-point rationale for maintaining the requirement of in rem proceedings.

• Philippine Savings Bank vs. Lantin, 124 SCRA 476 (1983) — Followed. Cited for the principle that insolvency proceedings and settlement of estates are proceedings in rem, and that a liquidation of similar import must also be a proceeding in rem so that all interested persons may be bound.

• Republic vs. Peralta, 150 SCRA 37 (1987) — Followed. Cited for the distinction between preference of credit and lien, and for the classification of Article 110 worker preference as an ordinary preferred credit under Article 2244 of the Civil Code when not attached to specific property.

• De Barretto vs. Villanueva, 6 SCRA 928 (1962) — Followed. Cited for the principle that in insolvency, a principal objective is equitable distribution of the insolvent's property among creditors, requiring a proceeding where notice to all creditors may be given and preferred claims bindingly adjudicated.

• Kuenzle & Streiff [Ltd.] vs. Villanueva, 41 Phil. 611 (1916) — Followed. Cited for the proposition that a preferential right of credit attains significance only after the debtor's properties have been inventoried and liquidated and the claims of various creditors established.

• DBP vs. Secretary of Labor, G.R. No. 79351, November 28, 1989 — Followed. Cited for the rationale that a preference of credit bestows an advantage of priority satisfaction and becomes material only when the debtor's assets are insufficient to pay all debts in full.

• Article 110, Labor Code (pre-RA 6715) — Provided that in the event of bankruptcy or liquidation of an employer's business, workers shall enjoy first preference as regards wages due them, payable in full before other creditors may establish any claim. The Court interpreted this as requiring a declaration of bankruptcy or judicial liquidation before enforcement.

• Article 110, Labor Code (as amended by RA 6715) — Expanded worker preference to include "unpaid wages and other monetary claims," payable before claims of the Government and other creditors. The Court held that the same interpretation requiring in rem proceedings applies, and that even if construed as "absolute preference," it must be applied prospectively only.

• Section 10, Rule VIII, Book III, IRR of the Labor Code — Implemented Article 110 by providing that unpaid wages earned before declaration of bankruptcy or judicial liquidation shall be given first preference. The amended version expanded coverage to "unpaid wages and other monetary claims."

• Articles 2241, 2242, 2244, Civil Code — Govern the classification, concurrence, and preference of credits. The Court held that DBP's mortgage credit is a special preferred credit under Article 2242(5), while the worker's preference under Article 110, when not falling within Articles 2241(6) and 2242(3), is an ordinary preferred credit under Article 2244.

• Article 4, Civil Code — Provides that laws shall have no retroactive effect unless the contrary is provided. The Court applied this to hold that RA 6715's amendment to Article 110, even if interpreted as granting absolute preference, must be given prospective effect only.

• Section 10, Article III, 1987 Constitution — Guarantees non-impairment of the obligation of contracts. The Court invoked this to support the prospective application of RA 6715, since DBP's mortgage credit antedated the amendatory law.

• Section 29, Insolvency Law — Provides that a creditor holding a mortgage or lien as security is not permitted to vote in the election of an assignee in insolvency proceedings unless the value of the security is first fixed or the property is surrendered to the receiver. Cited to illustrate the interplay between mortgage credits and insolvency proceedings.

• Executive Order No. 81 — The charter creating DBP as a government-owned financial institution. DBP invoked Section 14 thereof, which the Court considered within the broader framework of preference of credits.

Melencio-Herrera (Chairperson) and Paras, JJ., concurred.

• Sarmiento, J. — Dissented, maintaining that Republic Act No. 6715 was enacted precisely to work more favorable terms to labor by granting workers "absolute preference" in the payment of labor claims, above taxes due the Government and credits belonging to private persons. Justice Sarmiento argued that the majority misread the clear legislative intent, reiterating positions previously expressed in DBP vs. NLRC (G.R. Nos. 82763-64) and Bolinao vs. Padolina (G.R. No. 81415).

• Padilla, J. — Dissented for the same reasons stated in the dissenting opinion in DBP vs. NLRC, et al., G.R. Nos. 82763-64, March 19, 1990.