Understanding the Anti-Dummy Law

By Lala Rimando, abs-cbnNEWS.com/Newsbreak

Posted at Jul 09 2009 05:38 PM | Updated as of Jul 10 2009 01:42 AM

MANILA - Since our Constitution limits public utilities, the exploitation of natural resources, and the practice of some professions to Filipinos or Filipino-owned corporations, the classification of a company engaged in the these businesses is significant.

Thus, the Anti-Dummy Law (or Commonwealth Act No. 108, as amended) was born to spell out how Filipinos are punished when they participate in evading the nationalization laws. The Anti-Dummy Las also prohibits foreigners from intervening in the management, operation, administration, or control of any nationalized activity.

Filipinos who violate this law commits a criminal act punishable with 5- to 15-year imprisonment.

The Anti-Dummy Law has been cited in the cases of Piatco-Fraport partnership (they won the bid to construct and operate Terminal 3 in Manila airport) and the total ownership of Hong Kong-based First Pacific Holdings and Japanese firm NTT Docomo in local phone giant Philippine Long Distance Telephone Co., (PLDT).

Recently, the Anti-Dummy Law was cited as the law violated by the consortium of 2010 poll automation project winners Total Information Management(TIM) and Barbados-based Smartmatic.

Badges of “dummy status”

The Department of Justice Opinion No. 165, Series of 1984, laid down the following “significant indicators” or badges of “dummy status”

  • That the foreign investor provides practically all the funds for the joint investment undertaken by Filipino businessmen and their foreign partner.
  • That the foreign investors undertake to provide practically all the technological support for the joint venture.
  • That the foreign investors, while being minority stockholders, manage the company and prepare all economic viability studies.

Control Test vs. Grandfather Rule

Control Test was based on a 1989 opinion of the justice department in establishing the nationality of corporate stockholders.

It means that if Filipino citizens own at least 60% of the corporation’s capital, all the shares of the corporation, including those owned by foreigners, shall be considered of Philippine nationality.

If the Filipinos’ stake drops below 60%—say 59%—only the number of shares that corresponds to that percentage (in the example, 59%) will be considered of Filipino nationality.

But as long as Filipinos—in their personal capacity or through a Filipino-owned or -controlled corporation—can prove that they own at least 60% of the corporation’s capital stock, no further inquiries shall be made on the nationality of the owners of the remaining 40%.

Whenever that company owned at least 60% by a Filipino invests in another company, say another company covered by the 60-40 ownership rule, its investment shall be treated as one made by a Filipino company. The foreign-owned portion in the investing corporation is disregarded.

 On the other hand, Grandfather Rule is vastly different from the Control Test.

Under this rule, if Filipino citizens own 60% of the corporation’s capital and foreigners own the remaining 40%, then it’s a straightforward 60-40 venture.

Thus, whenever the 60-40 corporation invests in another company that is also covered by the 60-40 ownership rule, the foreign component in the cascade company is aggregated.

Simply put, the foreigner’s 40% in the cascade company is actually 56%.

Once foreigners’ ownership—either in their personal capacity or as a proportion of their ownership in a stockholder-corporation—exceeds 40%, then a corporation covered by the 60-40 ownership rule is considered to have breached the nationality test.

The grandfather rule is stricter in allowing foreign companies to organize an ownership structure that could mask their effective stake.

Foreign Investment Act

The Securities and Exchange Commission had stated that the Control Test rules.

SEC had said that the DoJ’s 1989 opinion has gained legislative acceptance through the Foreign Investment Act (or Republic Act No. 7042).

The implementing rules of the Foreign Investment Act categorically said, “the control test shall be applied” when determining certain financial privileges for the Philippine National.

The SEC explained that, based on the control test, further inquiry on the ownership of shareholders in “investing and investee corporations shall be dispensed with once it is clearly established that the participating corporations are 60% owned by Filipino citizens.”

Goodbye, Grandfather Rule?

The SEC has also pointed out that the “grandfather rule will not apply in cases where the 60-40 Filipino equity ownership ... is not in doubt.”

Based on the above, the following, thus, applies:

Control Test is the standard for determining the nationality of corporations;
Grandfather Rule applies when there are issues about conforming with the 60-40 requirement.