Prime White Cement Corporation vs. IAC

A contract between a corporation and one of its directors or officers is voidable at the option of the corporation unless: (1) the director's presence was not necessary to constitute a quorum; (2) the director's vote was not necessary for approval; (3) the contract is fair and reasonable under the circumstances; and (4) in the case of an officer, the contract has been previously authorized by the Board. If the first two conditions are absent, the contract may be ratified by a vote of stockholders representing at least two-thirds of the outstanding capital stock with full disclosure of the adverse interest. General rules on apparent authority of corporate presidents do not apply when the officer is dealing with an insider/director; instead, strict fiduciary duties and the specific requirements for self-dealing contracts apply.

The case arose from a business arrangement where the petitioner corporation, engaged in the manufacture and sale of white cement, entered into an exclusive dealership agreement with one of its own directors. The dispute highlighted the tension between corporate authority principles (apparent authority of officers) and fiduciary duties (duty of loyalty of directors), particularly when directors enter into contracts with their own corporation that may be disadvantageous to the corporate interests.

• On July 16, 1969, Prime White Cement Corporation, through its President Zosimo R. Falcon and Chairman of the Board Justo B. Trazo, entered into a dealership agreement with Alejandro Te.
• Te was a member of the Board of Directors and Auditor of the petitioner corporation, making him a "self-dealing" director.
• The agreement designated Te as the exclusive dealer of white cement products in the entire Mindanao area for a term of five years commencing September 1970.
• The corporation obligated itself to supply Te with 20,000 bags (94 lbs/bag) of white cement per month at a fixed price of P9.70 per bag, FOB Davao and Cagayan de Oro ports.
• Delivery was scheduled to begin 14 months after contract signing (September 1970), at which time the corporation had not yet commenced manufacture of white cement.
• Te advertised his exclusive dealership in the Manila Chronicle dated August 16, 1969, and entered into sub-dealership agreements with third parties (Henry Wee, Gaudencio Galang, and Prudencio Lim) containing price escalation clauses protecting him from market price increases.
• On August 18, 1970, Te informed the corporation that he was preparing the requisite letter of credit for the September 1970 initial delivery.
• The corporation responded imposing new unilateral conditions: delivery would commence in November 1970 instead of September; only 8,000 bags would be delivered for three months only; the price was increased to P13.30 per bag subject to unilateral readjustment; delivery point was changed to Austurias; letter of credit must be opened only with Prudential Bank, Makati Branch; and payment must be made in advance to be used as guaranty for foreign letters of credit.
• Te made several demands for compliance with the original agreement (Exhibits D, E, G, I, R, L, and N), which the corporation refused.
• The corporation subsequently entered into an exclusive dealership agreement with Napoleon Co for the Mindanao area while the original agreement with Te was still subsisting.
• Te was constrained to cancel his sub-dealership agreements and filed suit for breach of contract and damages.

• The IAC decision constituted an unprecedented departure from the codified principle that corporate officers could enter into contracts on behalf of the corporation only with prior approval of the Board of Directors.
• The decision violated established jurisprudence on the fiduciary duty of directors and officers of the corporation.
• The contract was unenforceable under Article 1317 of the New Civil Code regarding agency and authority.
• The award of actual and moral damages was improper and contrary to established jurisprudence on damages.
• The IAC erred in not awarding petitioner's counterclaim as stated in its Answer with Special and Affirmative Defenses.

• The President and Chairman of the Board had apparent authority to enter into the dealership agreement, as evidenced by the contract itself which indicated they were duly authorized.
• The agreement possessed all essential requisites of a valid contract and was binding on the corporation.
• The corporation was estopped from denying the validity of the contract after allowing its officers to create the impression of authority and after Te had relied on the agreement to his detriment by advertising and entering into sub-dealerships.
• The contract was fair and reasonable, and the corporation's refusal to comply constituted breach of contract.

• Procedural Issues: N/A
• Substantive Issues:
  • Whether the dealership agreement entered into by the President and Chairman of the Board with a director/auditor of the corporation is valid and enforceable against the corporation
  • Whether the contract met the requirements of fairness and reasonableness required for self-dealing contracts under Section 32 of the Corporation Code
  • Whether the corporation was liable for damages for refusing to perform the contract

• Procedural: N/A
• Substantive:
  • The dealership agreement is voidable and unenforceable against the corporation because it constitutes a self-dealing contract that failed to meet the requirements of fairness and reasonableness.
  • The fixed price of P9.70 per bag for five years without escalation provisions was unfair and unreasonable given the volatile market conditions, the 14-month delay before delivery commencement, and the fact that Te protected himself with price escalation clauses in his sub-dealership contracts while denying the corporation similar protection.
  • Te, as a director, owed a fiduciary duty of loyalty to the corporation and violated this duty by attempting to enrich himself at the corporation's expense through an unfair contract.
  • There was no showing that the stockholders ratified the contract with full disclosure of Te's adverse interest as required for validity.
  • General rules on apparent authority of corporate presidents binding the corporation in the ordinary course of business apply only when dealing with third persons, not when dealing with insiders/directors where strict fiduciary duties apply.
  • The IAC decision is set aside; Te is ordered to pay petitioner Prime White Cement Corporation the sum of P20,000.00 as attorney's fees plus costs of suit.

• Self-Dealing Contracts (Section 32, Corporation Code) — Contracts between a corporation and its directors/officers are voidable unless fair, reasonable, and either (a) approved without the interested director's vote or presence for quorum, or (b) ratified by two-thirds of stockholders with full disclosure. The Court applied these principles to invalidate the dealership agreement because it was unfair and lacked ratification.
• Duty of Loyalty (Fiduciary Duty of Directors) — Directors hold positions of trust and owe a duty of loyalty to the corporation, requiring them to seek maximum profits for the corporation and not to sacrifice corporate interests for personal advantage. Te violated this duty by securing a fixed-price contract while knowing market prices would rise.
• Limitation on Apparent Authority — While corporate presidents may generally bind the corporation in the ordinary course of business when dealing with third parties, this rule does not apply when the officer is dealing with an insider/director, where fiduciary duties strictly apply and specific statutory requirements for self-dealing must be met.

• "A director of a corporation holds a position of trust and as such, he owes a duty of loyalty to his corporation."
• "He cannot by the intervention of a corporate entity violate the ancient precept against serving two masters... He cannot utilize his inside information and his strategic position for his own preferment."
• "He cannot use his power for his personal advantage and to the detriment of the stockholders and creditors no matter how absolute in terms that power may be and no matter how meticulous he is to satisfy technical requirements."
• "Fairness on his part as a director of the corporation from whom he was to buy the cement, would require such a provision."

• Gokongwei v. Securities and Exchange Commission, 89 SCRA 336 (1979) — Cited for the principle that directors owe a duty of loyalty and cannot serve two masters; quoted extensively from Pepper v. Litton regarding fiduciary obligations.
• Pepper v. Litton, 308 U.S. 295 (1939) — Quoted with favor regarding the fiduciary obligations of directors and the prohibition against using corporate power for personal aggrandizement to the exclusion of stockholders.
• Acuña v. Batac Producers Cooperative Marketing Association, Inc., 20 SCRA 526 (1967) — Cited for the rule on implied ratification of contracts through silence, acquiescence, or acceptance of benefits.
• Yu Chuck v. "Kong Li Po", 46 Phil. 608 (1924) — Cited for the general rule that a president may bind the corporation by contracts in the ordinary course of business if reasonable under the circumstances.

• Corporation Law (Act 1459), Section 28 — Provided that all corporate powers shall be exercised by the Board of Directors (the governing law at the time the contract was entered into in 1969).
• Corporation Code (B.P. Blg. 68), Section 23 — Current provision that corporate powers are exercised by the Board of Directors.
• Corporation Code (B.P. Blg. 68), Section 32 — Cited as substantially incorporating well-settled principles applicable to the case regarding voidable contracts with directors/trustees/officers and the conditions for validity (fairness, quorum, vote, ratification).
• Civil Code, Article 1317 — Mentioned in the assignment of errors regarding unenforceable contracts, though the Court resolved the case on corporate law grounds rather than civil code agency provisions.
• Civil Code, Article 2217 and succeeding articles (Section 1, Chapter 3, Title XVIII) — Cited to deny moral damages to the corporation, as corporations are not entitled to moral damages under these provisions.

• N/A (Chief Justice Narvasa and Associate Justices Padilla, Regalado, and Nocon concurred with the majority opinion without writing separate opinions)