The Supreme Court ruled that an unregistered merger between two corporations does not bind third parties. This means that creditors of the absorbed corporation can still pursue claims against its assets, even if those assets were assigned to the surviving corporation. The ruling underscores the importance of complying with all legal requirements for corporate mergers to ensure the protection of creditor rights and the clear transfer of liabilities.

Unraveling the Unofficial Merger: Can Creditors Still Claim Against the Old Company?

The case revolves around Mindanao Savings and Loan Association, Inc. (MSLAI), represented by its liquidator, the Philippine Deposit Insurance Corporation (PDIC), and its attempt to annul the sale of properties formerly belonging to First Iligan Savings and Loan Association, Inc. (FISLAI). Remedios Uy, a creditor of FISLAI, had successfully sued FISLAI for a sum of money. To satisfy the judgment, properties owned by FISLAI were levied and sold at public auction. Edward Willkom purchased the properties, and later sold one to Gilda Go. MSLAI, claiming to be the successor of FISLAI through a merger (with Davao Savings and Loan Association, Inc. or DSLAI), sought to annul the sale, arguing that the properties should have been considered under custodia legis due to MSLAI’s liquidation.

The central issue was whether the purported merger between FISLAI and DSLAI (later MSLAI) was valid and binding on third parties, particularly creditors like Uy. The court had to determine if Uy could still pursue FISLAI’s assets despite the alleged merger and subsequent assignment of assets and liabilities. This involves delving into the legal requirements for mergers under the Corporation Code of the Philippines and the principle of novation.

The Supreme Court emphasized that a merger does not become effective merely upon the agreement of the involved corporations. The Corporation Code outlines specific steps for a merger or consolidation, including the approval of a plan by the board of directors and stockholders, the execution of articles of merger, and, most importantly, the approval and issuance of a certificate of merger by the Securities and Exchange Commission (SEC). Sections 76, 77, 78 and 79 of the Corporation Code are instructive.

Sec. 79. Effectivity of merger or consolidation. – The articles of merger or of consolidation, signed and certified as herein above required, shall be submitted to the Securities and Exchange Commission in quadruplicate for its approval; Provided, That in the case of merger or consolidation of banks or banking institutions, building and loan associations, trust companies, insurance companies, public utilities, educational institutions and other special corporations governed by special laws, the favorable recommendation of the appropriate government agency shall first be obtained. If the Commission is satisfied that the merger or consolidation of the corporations concerned is not inconsistent with the provisions of this Code and existing laws, it shall issue a certificate of merger or of consolidation, at which time the merger or consolidation shall be effective.

In this instance, the articles of merger between FISLAI and DSLAI were never registered with the SEC due to incomplete documentation, and consequently, no certificate of merger was issued. The Court explained that the issuance of the certificate is crucial because it signifies the SEC’s approval and marks the moment when the legal consequences of a merger take effect. Without this certificate, the merger remains incomplete and does not bind third parties.

The Court reiterated the fundamental principle that a corporation is a distinct legal entity with a personality separate from its stockholders and other related entities. Because there was no valid merger between FISLAI and DSLAI (now MSLAI), as far as third parties like Uy are concerned, they remain separate entities. Therefore, FISLAI’s assets remain its own and cannot be automatically considered as belonging to DSLAI or MSLAI.

Furthermore, the Court addressed the argument that the Deed of Assignment, wherein FISLAI assigned its assets to DSLAI and the latter assumed FISLAI’s liabilities, should have prevented the execution against FISLAI’s properties. The Court cited Article 1625 of the Civil Code, which states that an assignment of credit, right, or action does not bind third persons unless it appears in a public instrument or is recorded in the Registry of Property if it involves real property. Since the certificates of title for the properties in question were clean and did not reflect the assignment, the respondents were justified in enforcing their claim against FISLAI’s properties.

The principle of novation, the extinguishment of an obligation by substituting a new one, was also discussed. MSLAI argued that when DSLAI assumed FISLAI’s liabilities, it effectively novated the original obligation, releasing FISLAI from liability. The Supreme Court, however, clarified that novation by substitution of debtor requires the consent of the creditor. Article 1293 of the Civil Code provides:

Art. 1293. Novation which consists in substituting a new debtor in the place of the original one, may be made even without the knowledge or against the will of the latter, but not without the consent of the creditor. Payment by the new debtor gives him the rights mentioned in Articles 1236 and 1237.

Since there was no evidence that Uy, the creditor, consented to DSLAI assuming FISLAI’s liabilities in a way that would release FISLAI, the original obligation remained in effect. Thus, the assets that FISLAI transferred to DSLAI remained subject to execution to satisfy Uy’s judgment claim against FISLAI. In conclusion, MSLAI had no legal basis to annul the execution sale or challenge the titles of Willkom and Go.

FAQs

What was the key issue in this case?	The central issue was whether a merger between two corporations was valid and binding on third parties when the merger was not properly registered with the SEC. It also examined whether a creditor of the absorbed corporation could still pursue claims against its assets.
What is the significance of SEC registration in a corporate merger?	SEC registration, specifically the issuance of a certificate of merger, is crucial because it signifies the SEC’s approval and marks the moment the legal consequences of a merger take effect, binding the merged entity to third parties. Without the SEC certificate, the merger is considered incomplete.
Can a creditor pursue claims against an absorbed corporation after a merger?	Yes, if the merger is not legally completed (i.e., without SEC registration), creditors of the absorbed corporation can still pursue claims against its assets, even if those assets were assigned to the surviving corporation. The creditors’ rights are protected until the merger is legally recognized.
What is novation, and how does it relate to this case?	Novation is the substitution of an old obligation with a new one. In this case, the court examined whether the assumption of liabilities by the surviving corporation (DSLAI) novated the original debt of FISLAI.
Why was the argument of novation rejected by the Court?	The Court rejected the novation argument because the creditor (Uy) did not consent to the substitution of the debtor. The Civil Code requires the creditor’s consent for a valid novation that releases the original debtor.
What is the effect of a Deed of Assignment in this scenario?	The Deed of Assignment, where FISLAI assigned its assets to DSLAI, was not binding on third parties because it was not properly registered or annotated on the property titles. This lack of registration meant that creditors could still enforce claims against the assets.
What does “custodia legis” mean in this context?	Custodia legis refers to property that is under the custody of the law, such as assets of a company under receivership or liquidation. Such assets are generally exempt from execution or attachment by creditors.
Why were the properties of FISLAI not considered in custodia legis?	Because the merger between FISLAI and DSLAI was not valid, FISLAI’s assets remained its own and were not automatically considered under the custody of the law due to DSLAI’s (MSLAI’s) liquidation. The properties were still subject to the claims of FISLAI’s creditors.
Who is considered an innocent purchaser for value?	An innocent purchaser for value is someone who buys property without knowledge of any defects or claims against the title. In this case, Willkom was considered an innocent purchaser because he relied on the clean certificates of title when he bought the properties at the auction.

This case highlights the importance of adhering to the legal requirements for corporate mergers and consolidations, particularly the need for SEC approval and registration. It serves as a reminder that failure to comply with these requirements can have significant consequences, especially concerning the rights of creditors. The decision protects creditors’ rights by ensuring that they can still pursue claims against the assets of an absorbed corporation if the merger is not legally valid.

For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.

Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
Source: Mindanao Savings vs. Willkom, G.R. No. 178618, October 11, 2010