Sesbreño vs. Court of Appeals

A non-negotiable instrument marked "non-negotiable" may still be assigned or transferred, absent an express prohibition against assignment written on its face, but the assignee takes subject to the equities and defenses available against the assignor before notice of assignment is given to the debtor. A custodian bank that issues a Denominated Custodian Receipt is obliged to deliver the security upon demand of the beneficiary-placer, and any stipulation contrary to the fundamental purpose of the custodianship or not brought to the beneficiary's notice cannot be enforced against such beneficiary.

Petitioner Raul Sesbreño made a money market placement with Philippine Underwriters Finance Corporation ("Philfinance"), a corporation engaged in buying and selling debt instruments and money market transactions. Philfinance sold petitioner a portion of a Delta Motors Corporation promissory note, with Pilipinas Bank designated as custodian bank holding the note. The money market is an impersonal market where commercial papers are issued, endorsed, sold, or transferred without need of notice to the issuer, and Presidential Decree No. 678 requires adequate protection for the investing public in commercial paper markets.

On 9 February 1981, petitioner Raul Sesbreño made a money market placement of P300,000.00 with Philippine Underwriters Finance Corporation ("Philfinance"), Cebu Branch, with a term of thirty-two days maturing on 13 March 1981. Philfinance issued petitioner a Certificate of Confirmation of Sale "without recourse" of one Delta Motors Corporation Promissory Note ("DMC PN") No. 2731 at 17% per annum, a Certificate of Securities Delivery Receipt indicating the note was in Pilipinas Bank's custodianship under Denominated Custodian Receipt ("DCR") No. 10805, and post-dated checks payable on 13 March 1981 totaling P304,533.33.

When petitioner sought to encash the post-dated checks on 13 March 1981, they were dishonored for insufficient funds. On 26 March 1981, Philfinance delivered to petitioner the DCR No. 10805 issued by Pilipinas Bank, which confirmed that Pilipinas had in its custody DMC PN No. 2731 with face value of P2,300,833.34, maturing 6 April 1981, with Philfinance as registered holder/payee, and that upon petitioner's written instructions, Pilipinas would undertake physical delivery of the securities fully assigned to him should the DCR remain outstanding thirty days after maturity.

On 2 April 1981, petitioner demanded physical delivery of the note from Pilipinas, examining the original and finding it stamped "NON NEGOTIABLE." Pilipinas did not deliver the note, instead referring the demand to Philfinance for written instructions pursuant to a Securities Custodianship Agreement between them. Philfinance never provided instructions, and Pilipinas never released the note. Petitioner made similar demands on 3 July 1981 and 3 August 1981.

Petitioner also demanded payment from Delta on 14 July 1981 for the assigned portion of P307,933.33. Delta denied liability, explaining it had agreed with Philfinance to offset DMC PN No. 2731 (along with PN No. 2730) against Philfinance PN No. 143-A issued in Delta's favor. Meanwhile, on 18 June 1981, Philfinance was placed under joint management of the SEC and Central Bank, and Pilipinas delivered DMC PN No. 2731 to the SEC, where it remains in custody.

The trial court found Philfinance acted in bad faith by accepting petitioner's investment against a note already earmarked for set-off, but dismissed the complaint because Philfinance was not impleaded. The Court of Appeals affirmed, holding petitioner acquired no rights over the non-negotiable note since he was not a holder.

• Recovery from Delta: Petitioner argued that although DMC PN No. 2731 was non-negotiable, the Note had been validly transferred in part to him by assignment, and as a result Delta, as debtor-maker, was obligated to pay him the assigned portion.
• Solidary Liability of Pilipinas: Petitioner contended that Pilipinas became solidarily liable with Philfinance and Delta when it issued DCR No. 10805 containing the undertaking to effect physical delivery of the securities "fully assigned to you."
• Piercing the Corporate Veil: Petitioner argued the Court should pierce the veil of corporate entity between Philfinance, Delta, and Pilipinas, as the three entities belonged to the "Silverio Group of Companies" under the leadership of Mr. Ricardo Silverio, Sr.

• Non-Negotiability: Delta argued that DMC PN No. 2731 was not intended to be negotiated or transferred, as manifested by the "non-negotiable" stamp and because Delta and Philfinance intended the Note to be offset against Philfinance PN No. 143-A.
• Lack of Consent: Delta argued the assignment was made without its consent, if not against its instructions.
• Defenses Available: Delta argued that assuming the partial assignment was valid, petitioner took the Note subject to defenses available to Delta, particularly the offsetting of DMC PN No. 2731 against Philfinance PN No. 143-A.
• No Solidary Liability: Pilipinas maintained that the DCR did not establish an obligation to pay petitioner nor any assumption of solidary liability under the Note.

• Validity of Assignment: Whether the assignment of a portion of a non-negotiable promissory note to petitioner was valid and enforceable against the maker Delta.
• Effect of Compensation: Whether Delta could set up the defense of compensation against petitioner as assignee where compensation had taken place before petitioner notified Delta of the assignment.
• Liability of Pilipinas Bank: Whether Pilipinas became solidarily liable with Philfinance and Delta under the terms of DCR No. 10805.
• Breach of Custodianship: Whether Pilipinas breached its undertaking under the DCR by refusing to deliver the note upon petitioner's demand.
• Piercing the Corporate Veil: Whether the separate corporate personalities of Philfinance, Delta, and Pilipinas should be disregarded.

• Validity of Assignment: Yes. The assignment was valid. A non-negotiable instrument may be assigned or transferred absent an express prohibition against assignment written on the face of the instrument, and the "non-negotiable" stamp did not destroy assignability.
• Effect of Compensation: Yes. Delta could set up compensation. Because petitioner notified Delta of the assignment only on 14 July 1981, after both notes had matured and compensation had taken place by operation of law, petitioner took subject to the defense of compensation available against the assignor.
• Liability of Pilipinas Bank: No. Pilipinas did not become solidarily liable. Solidary liability cannot be lightly inferred, and nothing in the DCR established an obligation to pay petitioner or an assumption of liability in solidum.
• Breach of Custodianship: Yes. Pilipinas breached its undertaking under the DCR. A contract of deposit was constituted, and Pilipinas as depositary was obliged to return the security upon demand of the beneficiary, notwithstanding any stipulation not brought to petitioner's notice.
• Piercing the Corporate Veil: No. The separate corporate personalities were not disregarded. Petitioner cited only a common director and failed to prove that any company used the others as mere alter egos.

• Validity of Assignment: The Court distinguished negotiation from assignment or transfer of an instrument. Only instruments qualifying as negotiable may be negotiated; but a non-negotiable instrument may be assigned or transferred absent an express prohibition against assignment written on its face. DMC PN No. 2731, while marked "non-negotiable," was not stamped "non-transferable" or "non-assignable" and contained no stipulation prohibiting assignment. The "Letter of Agreement" between Delta and Philfinance contained no prohibition on assignment before maturity. Even had it done so, such prohibition could not be invoked against an assignee who parted with valuable consideration in good faith and without notice. Delta's consent was not necessary for the validity and enforceability of the assignment. The Court rejected Delta's conventional subrogation argument, noting conventional subrogation is never lightly inferred and must be clearly established. The money market's impersonal character, as discussed in Perez vs. Court of Appeals, supports the validity of transfers without notice to the issuer.

• Effect of Compensation: At the time of assignment on 9 February 1981, no compensation had taken place because neither note was due — both were to mature on 6 April 1981. However, petitioner notified Delta only on 14 July 1981, after both notes had matured and compensation had set in by operation of law. Under Article 1285 of the Civil Code, where assignment is made without the debtor's knowledge, the debtor may set up compensation of all credits prior to the assignment and also later ones until he had knowledge of the assignment. The rights of an assignee are not greater than those of the assignor; the assignee acquires rights subject to the equities or defenses the debtor could have set up against the original assignor before notice of assignment. Since the assignor Philfinance could not have compelled payment from Delta after compensation, petitioner as assignee was similarly disabled. The Court emphasized petitioner could have notified Delta at any time before maturity but failed to do so.

• Liability of Pilipinas Bank: The DCR was read as a confirmation that Pilipinas (1) had custody of the note, (2) was holding it on behalf of petitioner to the extent assigned, (3) allowed inspection, and (4) would deliver upon written instructions should the DCR remain outstanding thirty days after maturity. Nothing in the DCR converted Pilipinas into an obligor under the note. Under Article 1207 of the Civil Code, solidary liability exists only when the law or the nature of the obligation requires solidarity. Petitioner's theory of solidary liability appeared to be a new theory constructed after the trial court ruled against him.

• Breach of Custodianship: A contract of deposit was constituted by Philfinance designating Pilipinas as custodian bank, with petitioner as beneficiary. The custodianship agreement was an integral part of the money market transaction, equivalent to constructive delivery of the note to petitioner. Under Article 1988 of the Civil Code, the depositary is obliged to return the security upon demand of the depositor or beneficiary, even though a term for return may have been established. Any stipulation running counter to the fundamental purpose of the agreement or not brought to the notice of the beneficiary cannot be enforced against such beneficiary. Pilipinas refused to deliver the note on 2 April 1981 when it had not yet matured and compensation had not yet taken place, instead awaiting Philfinance's instructions in contravention of the DCR. The ostensible thirty-day term was not a defense because it was never brought to petitioner's attention, ran counter to the custodianship's purpose, and was inconsistent with Article 1988. Pilipinas was liable for P304,533.33 plus six percent legal interest from 2 April 1981.

• Piercing the Corporate Veil: Jurisdiction over Philfinance was never acquired, and petitioner did not seek to implead it. The three companies were organized as separate corporate entities. Petitioner cited only a common director, Mr. Ricardo Silverio, Sr., and failed to allege or prove that one company used the others as mere alter egos or that corporate affairs were managed for the benefit of one. There was insufficient evidence to justify disregarding the separate corporate personalities.

• Assignment vs. Negotiation — Negotiation is the transfer of an instrument so as to constitute the transferee the holder thereof, governed by the Negotiable Instruments Law. Assignment is the transfer of rights under an instrument, whether negotiable or non-negotiable. A non-negotiable instrument may be assigned or transferred absent an express prohibition against assignment written on its face; the assignee takes subject to the equities between the original parties. The Court applied this doctrine to hold that the "non-negotiable" stamp on DMC PN No. 2731 did not prevent its assignment to petitioner.

• Rights of Assignee Subject to Equities — The rights of an assignee are not greater than those of the assignor; the assignee is merely substituted in the place of the assignor and acquires rights subject to the equities or defenses the debtor could have set up against the original assignor before notice of assignment was given. Under Article 1285 of the Civil Code, where assignment is made without the debtor's knowledge, the debtor may set up compensation of all credits prior to the assignment and also later ones until he had knowledge of the assignment. The Court applied this to bar petitioner's claim against Delta because compensation had already taken place before notice was given.

• Compensation (Set-Off) — Under Article 1279 of the Civil Code, compensation requires that (1) each obligor be bound principally and be at the same time a principal creditor of the other; (2) both debts consist of a sum of money or consumable things of the same kind and quality; (3) both debts be due; (4) they be liquidated and demandable; and (5) over neither be there any retention or controversy commenced by third persons. Compensation takes place by operation of law when the offsetting instruments both reach maturity. The Court applied this to find that DMC PN No. 2731 was discharged by compensation before petitioner notified Delta of the assignment.

• Contract of Deposit/Custodianship — A contract of deposit is constituted when a custodian bank is designated as depositary of securities in a money market transaction, with the placer-investor as beneficiary. Under Article 1988 of the Civil Code, the depositary is obliged to return the thing deposited upon demand of the depositor or beneficiary, even though a term for return may have been established. Stipulations contrary to the fundamental purpose of the custodianship or not brought to the beneficiary's notice cannot be enforced against such beneficiary. The Court applied this to hold Pilipinas liable for breach of its custodianship undertaking.

• Solidary Liability Not Lightly Inferred — Under Article 1207 of the Civil Code, solidary liability exists only when the law or the nature of the obligation requires solidarity. It cannot be lightly inferred and requires express assumption or legal imposition. The Court applied this to reject petitioner's claim that Pilipinas assumed solidary liability under the DCR.

• Piercing the Corporate Veil — The separate corporate personality may be disregarded only when one corporation is used as a mere alter ego of another or when corporate affairs are administered for the benefit of one entity. Mere common directors or common ownership is insufficient; there must be proof of fraud, bad faith, or that the corporate fiction was used to defeat public convenience, justify wrong, protect fraud, or defend crime. The Court applied this to reject petitioner's claim for lack of evidence.

• "The words 'not negotiable,' stamped on the face of the bill of lading, did not destroy its assignability, but the sole effect was to exempt the bill from the statutory provisions relative thereto, and a bill, though not negotiable, may be transferred by assignment; the assignee taking subject to the equities between the original parties." — This passage, quoted from National Bank of Bristol vs. Bartolome & O.R. Co., establishes the controlling doctrine that non-negotiable instruments remain assignable and defines the assignee's position as subject to equities between original parties.

• "It is a firmly settled doctrine that the rights of an assignee are not any greater than the rights of the assignor, since the assignee is merely substituted in the place of the assignor and that the assignee acquires his rights subject to the equities — i.e., the defenses — which the debtor could have set up against the original assignor before notice of the assignment was given to the debtor." — This states the ratio decidendi for denying petitioner's claim against Delta, articulating the canonical formulation of the assignee-subject-to-equities doctrine.

• "We believe and so hold that a contract of deposit was constituted by the act of Philfinance in designating Pilipinas as custodian or depositary bank. The depositor was initially Philfinance; the obligation of the depository was owed, however, to petitioner Sesbreño as beneficiary of the custodianship or depository agreement." — This articulates the Court's finding that a custodianship agreement in a money market transaction creates a contract of deposit with the placer-investor as beneficiary, forming the basis for Pilipinas' liability.

• "The custodian bank would have every incentive to protect the interest of its client the borrower or dealer as against the placer of funds. The providers of such funds must be safeguarded from the impact of stipulations privately made between the borrowers or dealers and the custodian banks, and disclosed to fund-providers only after trouble has erupted." — This states the public policy consideration supporting the Court's ruling that stipulations not brought to the beneficiary's notice cannot be enforced against him.

• Perez vs. Court of Appeals, 127 SCRA 636 (1984) — Cited as controlling authority on the nature of money market transactions, describing the market as impersonal and noting that issuers of commercial paper know in advance that instruments will be transacted and transferred without notice to the issuer. The Court relied on this to support the validity of the assignment to petitioner.

• Sison vs. Yap-Tico, 37 Phil. 584 (1918) — Cited as controlling authority for the rule that a debtor who pays before notice of assignment is released from the obligation, and that the assignee has the duty to give the debtor notice. The Court applied this to bar petitioner's claim against Delta.

• National Investment and Development Corporation vs. De Los Angeles, 40 SCRA 487 (1971) — Cited for the proposition that the debtor's consent is not necessary for the validity and enforceability of an assignment, and that the assignee's rights are subject to the equities available against the assignor.

• Consolidated Plywood vs. IFC Leasing, 149 SCRA 449 (1987) — Cited in connection with the assignability of non-negotiable instruments.

• Gonzales vs. Land Bank of the Philippines, 183 SCRA 520 (1990) — Cited among authorities for the settled doctrine that the assignee's rights are not greater than the assignor's rights.

• Philippine National Bank vs. General Acceptance and Finance Corp., 161 SCRA 449 (1988) — Cited for the doctrine that the assignee acquires rights subject to the equities or defenses available against the assignor before notice of assignment.

• Pabalan vs. National Labor Relations Commission, 184 SCRA 495 (1990) — Cited for the principle that the separate corporate personality will not be disregarded absent proof that one corporation is a mere alter ego of another.

• Article 1279, Civil Code — Lists the essential requirements for compensation to be proper: both obligors must be principal creditors of each other, both debts must consist of money or consumable things of the same kind and quality, both debts must be due, liquidated, and demandable, and over neither must there be any retention or controversy. The Court applied this to determine when compensation between Delta and Philfinance could take place.

• Article 1285, Civil Code — Provides that where assignment is made without the debtor's knowledge, the debtor may set up compensation of all credits prior to the assignment and also later ones until he had knowledge of the assignment. The Court applied this to allow Delta's defense of compensation against petitioner.

• Article 1626, Civil Code — Provides that a debtor who, before having knowledge of the assignment, pays his creditor shall be released from the obligation. The Court cited this in support of the rule that notice of assignment is required to bind the debtor.

• Article 1207, Civil Code — Provides that solidary liability exists only when the law or the nature of the obligation requires solidarity. The Court applied this to reject petitioner's claim of solidary liability against Pilipinas.

• Article 1988, Civil Code — Requires the depositary to return the thing deposited upon demand of the depositor or beneficiary, even though a term for return may have been established. The Court applied this to hold Pilipinas liable for refusing to deliver the note upon petitioner's demand.

• Article 1300, Civil Code — Provides that conventional subrogation is never lightly inferred. The Court cited this to reject Delta's argument that the assignment constituted conventional subrogation requiring its consent.

• Article 1292, Civil Code — Provides that conventional subrogation must be clearly established by the unequivocal terms of the substituting obligation or by evident incompatibility of the new and old obligations. The Court applied this to reject Delta's subrogation argument.

• Section 30, Negotiable Instruments Law — Defines negotiation as the transfer of an instrument from one person to another so as to constitute the transferee the holder thereof. The Court distinguished negotiation from assignment in analyzing petitioner's rights.

• Section 51, Negotiable Instruments Law — Provides that a person not a holder cannot sue on the instrument in his own name. The Court noted this provision but held it did not bar assignment of the non-negotiable instrument.

• Presidential Decree No. 678 — Requires that the investing public be given adequate and effective protection in availing of the credit of a borrower in the commercial paper market. The Court cited this as supporting public policy for protecting fund providers in money market transactions.

Bidin, Davide, Jr., Romero, and Melo, JJ., concurred.