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CORPORATION LAW

The Philippine Legal Setting

Hybrid legal system (Roman civil law and Anglo-American


common law); allows greater flexibility;

The Constitution protects property and life under due


process;

The State recognizes the indispensable role of the private


sector, encourages private enterprise, and provides
incentives to needed investments. (Sec. 20, Art. II, 1987
Phil. Constitution);

The Constitution also imbues property and enterprise


ownership with a social function;

xxx The use of property bears a social function, and all


economic agents shall contribute to the common good, xxx
corporations xxx shall have the right to own, establish, and
operate economic enterprises, subject to the duty of the
State to promote distributive justice and to intervene when
the common good so demands. (Sec. 6, Art. XII, 1987 Phil.
Constitution);

Philippine Corporate Law must function and evolve within


the foregoing milieu.

Nature of Philippine Corporate Law

Philippine Corporate Law is a direct transplant of American


Corporate Law (Harden v. Benguet Consolidated Mining Co.);
inherently a product of the common law system;

Difference between civil law and common law systems:

Civil law system emphasizes legislation; while common law


system relies on judicial decisions;
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Civil Code v. Corporation Code

Civil Code regulates private relations of persons, determines


their respective rights and obligations (Tolentino, Civil Code
of the Philippines, Vol. I, 1990 ed., p. 11); embodies
timeless truths;

Corporation Code contain rules regarding approved


corporate practices; governs one particular medium of doing
business in the Philippines, the corporation; reflects the
prevailing accepted practices and customs of businessmen
regarding the corporate vehicle;

Role of Corporation in Business and Society

Corporation as a medium of doing business evolved within


the Western free market system;

Free market: public sector produces public goods,


prevents and corrects market failures and redistribute
wealth; private sector performs what the public sector does
not do;

In the Philippines, corporation is the Governments tool to


redistribute wealth, which undertakes activities for the public
good (non-stock corporations, tax incentives, donations to
charity, employee gratuities);

Different ways of doing business

Sole proprietorship

Person owns and runs the business; hires employees, but all
risks and profits pertain to the proprietor;

Registered with the DTI as sole proprietorship; example: Mr.


Juan dela Cruz, doing business under the name and style of
JDC Enterprises;
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Business is also registered with the city/municipality, SSS


and the BIR;

Advantage:

Owner of the business does not deal with a business partner;


this business model is proper if the business is small-scale
and easy to manage;

Disadvantage:

Unlimited liability; in case of bankruptcy, creditors go after


the personal assets of the owner as payments for business
debts;

Taxation:

Income from business collated with income from other


sources like employment; tax advantage must be availed of.

General Partnership

Growth of sole proprietorship requires additional capital and


additional manpower in managing business. This stage
necessitates the formation of a general partnership;

Proprietor and another person can form a general


partnership by filing of Articles of Partnership with the SEC;

Reminder:

Civil Code provisions on partnership apply when the partners


do not agree on a particular matter; however, agreement
must not be contrary to law, morals, good customs or public
policy;

Limited Partnership

Partly solves the problem of unlimited liability;


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At least one general partner and one limited partner;

Third way of doing business is through a corporation

Corporation

As a general rule, corporation mode solves the problem of


unlimited liability;

Stockholder is liable to the creditors to the extent of his


contributions;

Contributions or capital can either be paid-up (actually


given) or subscribed (any amount promised);

When a stockholder mere uses the corporation as conduit or


alter ego, he can be held personally liable. This is the
doctrine of Piercing the Veil of Corporate Fiction.

Stockholder who is also an officer/director may be held liable


beyond his contributions;

Other advantages

Free transferability of shares

Shares in the corporation are generally transferable; equity


in the partnership is not; interest may be assigned but the
assignee can become a partner only when all partners agree;
assignee has limited rights and does not participate in the
management of the partnership;

Major difference between partnership and corporation

Principle of delectus personae applies to partnership; partner


chooses his partners;
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Generally, in a corporation, stockholder can transfer his


shares to anyone, who becomes a stockholder;

Partnership Dissolution v. Corporate Dissolution

In partnerships, death, retirement, insanity, civil interdiction


or insolvency of partner dissolves a partnership; in
corporations, these events (death, retirement, insanity, civil
interdiction, insolvency) will not result in the dissolution of
the corporation;

A partnership exists until its dissolution; a corporation can


exist for a maximum period of 50 years, which can be
extended several times; the corporate existence cannot be
extended earlier than 5 years before the termination date,
unless otherwise stipulated in a term loan agreement;

Tax Advantages

Corporations and partnerships are treated the same;


corporate income tax of 35% or 2% of gross income
(minimum corporate income tax), whichever is higher;

Anything accumulated in excess of 100% of the capital stock


is considered improperly accumulated; excess, if any, is
subject to tax at the rate of 10%, to force the corporation to
distribute corporate earnings to its stockholders;

The board of directors may restrict certain retained


earnings through a board resolution mandating that a
portion of the earnings is not available for distribution;
amount intended as payment for maturing loans or expenses
for company expansions; must be reported to SEC, with
reasons and proof;

Cash or property dividend to stockholder is subject to tax;


stock dividends are not taxed upon distribution; these
become taxable upon the sale thereof;
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Double Taxation

Corporation is taxed at 35%; stockholder, upon receipt of


cash or property dividend, is taxed up to 32%;

Inter-corporate dividends (cash, stock or property) from a


subsidiary corporation to its parent corporation, is not
subject to income tax, withholding tax or capital gains tax.

The Deed of Transfer of a property dividend is not subject to


documentary stamp tax (DST); if a stock dividend is
involved, the certificate is subject to DST;

Commencement of Legal Existence

General rule: partnerships are created by agreement of the


parties; separate legal existence commences upon
agreement to form a partnership; however, registration with
the SEC is required;

Corporations are essentially grants of privileges by the State;


legal personality starts from SECs approval of the Articles of
Incorporation and issuance of a Certificate of Incorporation;

A special franchise is not needed to form and operate a


corporation; it can be done through the general
incorporation law;

Primary Franchise v. Secondary Franchise

Primary franchise is the authority to operate as a


corporation; secondary franchise is the authority to operate
the business;

Illustration:

In putting up a corporation to run a school, you must obtain


a primary franchise (Articles of Incorporation) and a
secondary franchise from the DepEd to operate a school;
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In some simple corporations, a primary franchise is


sufficient; example: trading companies, but compliance with
BIR, SSS and LGU requirements is necessary;

In some instances, the SEC both issues the primary franchise


and the secondary franchise under two different laws;
example: opening a stock brokerage firm; SEC issues the
primary franchise (Articles of Incorporation) under the
Corporation Code and the secondary franchise (operation of
a stock brokerage firm) under the Securities Regulation Code
(SRC);

Mismanagement Rules

A partner can directly sue another partner for


mismanagement; an aggrieved stockholder cannot file a
direct suit against the officers or directors;

What can the aggrieved stockholder file against them? Only


a derivative suit or a suit which a minority stockholder files
against an officer or director on behalf of the corporation;

Rule: the corporation should sue its own officers or


directors; but, to make this possible, the board of directors,
as the decision-making body of the corporation, must
authorize the filing of the suit. This is unlikely because the
board will not issue a board resolution allowing the suit
against themselves;

Rule: the corporation should sue its own officers or


directors; but, to make this possible, the board of directors,
as the decision-making body of the corporation, must
authorize the filing of the suit.

Derivative suit
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Stockholder must show that he is suing to enforce his right


and on behalf of the corporation; it is not a class suit on
behalf of the stockholders;

Requisites for filing

1. Stockholder must exhaust internal corporate remedies


(must first complain to the board and the management
and the board does not take any action on the matter);
2. Person filing the derivative suit must be a stockholder
at the time the alleged anomaly took place;
3. Person filing the derivative suit must be a stockholder
at the time of filing of the case;
4. Person involved remains as stockholder during the
pendency of the suit;

Case will be dismissed once the suing stockholder ceases as


stockholder; the buyer of the shares cannot continue the
pending case or file a new case;

Abuse in filing derivate suits

Usually, persons may buy minimal shares in a family-held


corporation and then fish for information or data from
corporate books and records;

Using the information, they file derivative suits in order to


extort money from the owners; these are called strike suits
and the stockholders involved are called corporate
gadflies; they fly from one horse (corporation) to another;

Nationality of Corporations & Partnerships


A partnership is a national of the country where the
partnership agreement is entered into or a national of the
country where it is registered;

A corporation is a national of the country where it is


incorporated;
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Nationality of the Corporation/Nationality of the owners of


the corporation

A corporation registered under Philippine laws is a domestic


corporation, even if all the stockholders are foreigners (in
case the law allows 100% foreign ownership);

A corporation registered in another country is a foreign


corporation, even if all of the stockholders are Filipinos;

The grandfather rule and the control test will be discussed


under the topic Foreign Corporations.

Forming a Corporation

Enter among yourselves (at least 5 natural persons as


incorporators) into a contract called the Articles of
Incorporation;

State the following in the Articles of Incorporation:

Name of the corporation

Type of business (primary purpose)

Incorporators (of legal age, nationality, marital status,


address)

Capitalization (Authorized Capital Stock [ACS])

Subscription (Amount promised to be invested)


Paid-up Capital (Portion of the promised investment paid
upfront)

Initial directors; and

Treasurer.
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At this state, the Articles of Incorporation is actually a


contract among stockholders and a contract between
directors and stockholders;

Standard Forms

SEC sells pre-printed forms for specific types of commonly


used corporations (retail, manufacturing, real estate,
agriculture); fill out the Express Forms and submit to the
SEC;

You may prepare a different form if the corporation has very


peculiar purposes;

Filing of the Articles of Incorporation with the SEC

Secure approval of the SEC by filing Articles of Incorporation;


legal personality of the corporation begins upon issuance of
the Certificate of Registration;

Once the legal personality of the corporation begins, the


Articles of Incorporation also becomes a contract:

1. between the State and the stockholders;


2. between the State and directors and/or officers; and
3. between the State and the corporation;

Once the By-Laws is approved, the Articles of Incorporation


becomes a contract between the officers and the
stockholders;

Laws/Corporation Code/Implementing Rules and Regulations


are deemed incorporated into the Articles of Incorporation;

Submit the following documents to the SEC:

1. Prior SEC approval of the proposed name;


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2. Completed Express Lane form of the Articles of


Incorporation duly signed by the incorporators and
duly notarized;
3. Completed Express Lane form of the By-Laws duly
signed by the incorporators;
4. Treasurers Affidavit (attesting that the minimum
required subscription has been attained, that is, 25%
of the Authorized Capital Stock), and that the
minimum amount required to be paid-up has been
paid and deposited in a bank accredited by the SEC
in trust for the proposed corporation);
5. Bank Certificate of Deposit indicating the amount of
paid-up deposit;
6. Authorization for the SEC to inquire with the Bank
regarding the bank deposit;
7. Payment of the filing fee of .01 % of the ACS
(miscellaneous expenses);
8. Undertaking to change the corporate name in case
the Sec determines that there is an earlier registered
corporate name similar to the one proposed;
9. General Information Sheet (GIS), duly accomplished
and signed by the treasurer;

Corporate Names and Purpose Clauses

Rules on corporate names

1. name must not be confusingly/deceptively similar to


an existing corporate name;
2. name must contain at least two new words relative to
the nearest similar name;
3. sign an undertaking that corporate name will be
changed when a similar name exists;
4. agree to SECs cancellation of Certificate of
Registration without hearing in case corporate name is
not changed;
5. cannot use Phils or Philippines unless the entity is
a Philippine subsidiary of a multinational corporation;
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6. When initials are used, inform SEC of what the initials


stand for;
7. The following words cannot be used:

a. Ltd. or Limited (only applies to limited


partnership);
b. State;
c. Maharlika;
d. Barangay;
e. United Nations;
f. Bureau;
g. Bank (without BSP approval);
h. Banking (without BSP approval);
i. Bldg. & Loan (without BSP approval);
j. Rural Bank (without BSP approval);
k. National (if a bank);
l. Finance/Financing (unless engaged in financing);
m. Engineer (without PRC approval);
n. Architect (without PRC approval);
o. Bonded (unless bonded warehouse);
p. Investment (unless investment house);
q. Asean;
r. Calabarzon;
s. Philippines 2000;

When is a name confusingly/deceptively similar?

Tests

1. Is it exactly the same?


2. Is it confusingly similar?
3. Is actual confusion necessary?
Rule: There must be a strong likelihood that the buying
public (targeted clientele) will be confused.

Two-word rule

Two words must not be an article, a conjunctive or


disjunctive; use of two words Mga Kaanib to another
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organizations name is not sufficient (SC decision); Eli


Sorianos new corporation was asked to change its name for
being confusingly similar to the name of the first
corporation/church to which he previously belonged; not a
violation of freedom of religion;

Rules on purpose clauses

Primary and Secondary

Primary purpose: indicates primary activity; a too restrictive


primary purpose prevents the corporations ability to adapt
constantly to changing business environments;

Primary purposes are broadly stated; use of the phrase for


the purpose of is avoided; instead, the all-encompassing
phrase for the purpose of engaging in all types of trading
activities, wholesale, retail xxx of all types of commodities
xxx including export, import xxx on cash, consignment is
used;

Secondary purpose: indicates activities in which corporation


may normally want to engage in; to engage in this
secondary purpose, boards approval (majority) and
stockholders approval (2/3 majority vote) are necessary;

A dissenting stockholder may invoke his right of appraisal


(i.e., that the fair market value of his shares be paid to him);

Engaging in business not included in secondary purpose


requires amendment of the Articles of Incorporation;
Purposes v. Powers

Purposes refer to types of business activities the


corporation will be engaged in; powers refer to the extent
of what a corporation can do as a separate juridical
personality;
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Board can exercise incidental/necessary power; no need to


activate it through boards and stockholders approval;

Purpose clause must be lawful; legality of the purpose clause


must be directly, not collaterally attacked; SEC can only
inquire into the stated purposes; cannot inquire into a
corporations alleged illegal, hidden purposes;

Amount of investment

Authorized Capital Stock (ACS) refers to amount of


capitalization; ACS can be greater than the amount already
available; as filing fee depends on the ACS, ACS should not
be too high;

Incorporators must subscribe (promise to acquire) a certain


percentage of the ACS; minimum amount to be subscribed is
25% of the ACS; example: ACS is Php 10 million, subscribers
must subscribe to at least Php 2.5 million. 25% refers to the
total subscription; not applied on a per subscriber basis;

Of the Php 2.5 million minimum subscription, stockholders


pay upon incorporation 25% of the minimum subscription or
Php 625,000.00; 25% refers to the total paid-up capital, not
on a per subscriber basis; but when the subscriber is a
corporation, the entire subscription must be paid up;

Deposit of the paid-up capital

Must be deposited in any SEC-accredited bank in the name


of the designated Treasurer IN-TRUST FOR (ITF) the
corporation; bank issues a certificate of deposit; treasurer
certifies as to the authenticity of the deposit;

SEC conducts a post-audit to determine if the deposit


remains with the SEC-accredited bank; continued existence
of the account is indispensable; failure to explain any
withdrawal from the account is a ground for the revocation of
the Articles of Incorporation;
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Payment of the balance of the subscription

If there is a subscription agreement, and the date of the cash


call is indicated therein, that date is controlling;

If no date is indicated in the subscription agreement, the


board will decide on the date of cash call; the decision
cannot be left to the discretion of the
subscribers/stockholders as this will restrict the corporations
ability to raise money when necessary;

Minimum capital requirements

Higher minimum capitalization requirements for certain


types of corporations;

Incorporator v. subscriber

Incorporator: one of the persons who formed the corporation;


his name remains despite amendments and even if he has
ceased as stockholder;

Case law provides that a subscriber can be a corporation but


an incorporator must be a natural person because there will
be no body to kick nor a soul to damn, which has not been
overturned by the SC;

In other countries, a corporation can be an incorporator; a


lawyer can be an incorporator on behalf of an undisclosed
client;

Separate Juridical Personality

A corporation is an artificial being created by operation of


law, having the right of succession and the powers,
attributes and properties expressly authorized by law or
incident to its existence;
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Under the Civil Code, a corporation is given a separate


juridical personality;

A corporation may buy and sell properties of all kinds; sue


and be sued, civilly and criminally; enter into contracts;

Power to sue

Corporation can sue to recover payment or to claim


damages or to insist on compliance with the terms of the
contract;

Filing of the case must be duly authorized by the board of


directors; a compromise is also subject to the boards
approval;

Corporation must sue using its corporate name; corporation


itself cannot sue for moral damages per se (sleepless nights,
anxiety, embarrassment) and cannot recover moral damages
sustained by its president;

But, a corporation can sue for damages resulting from


besmirched reputation; actually, this is a case involving the
recovery of lost corporate goodwill;

Constitutional rights of a corporation

Equal protection clause: all persons who are similarly


situated must be treated equally; this is relative, not
absolute, equality before the law;

Right against unreasonable searches and seizures: a


corporation can oppose any unauthorized/unlawful seizure of
its books, records and other documents; board exercises this
right; a mere stockholder cannot;

Due process
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Like an individual, a corporation cannot be held liable


without being given the opportunity to be heard; the twin
requirements of notice and hearing must be complied with;

Property rights of a stockholder

A stockholder has no right to a specific corporate property;


he only possesses an inchoate right to share in the value of
the properties upon dissolution;

Right to a separate juridical personality is not absolute

Abuse of this right results in removal of this protection; this


is called Piercing the Veil of Corporate Fiction;

When the veil is pierced, the owner/officer cannot evade


liability by invoking the separate personality of the
corporation; he is therefore personally liable;

When should the veil be pierced?

Rules to determine propriety of piercing the veil

1. Generally, the separate juridical personality of a


corporation must be respected;
2. Under some circumstances, it is necessary to pierce or
disregard the separate juridical personality of a
corporation;
3. If a valid reason exists, the piercing of the veil of
corporate fiction is confined to a particular case; it is
not applied to all cases involving the corporation;
4. Mere common ownership is not a sufficient basis; clear
indication that the corporate vehicle was used for
purposes contrary to law is necessary or indispensable;
5. Evidence must show that the corporation is being used
in any of the following instances;
a. for a purpose other than what is intended under
the Corporation Code;
b. to evade a valid obligation;
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c.for tax evasion;


d.to avoid attachment/garnishment/execution;
e.to avoid obligations under the Labor Code;
f.to avoid the prohibition against forum shopping;
g.to avoid compliance with contract restriction on
competition;
h. to avoid giving inheritance to illegitimate
children;
i. to avoid compliance with SECs Cease and Desist
Orders (CDO);
6. Any of the foregoing grounds is alleged and
substantiated at the trial level;
7. Individual stockholder must be impleaded;

Effect if the veil is pierced

If the corporate veil is pierced and two corporations are


involved, both corporations are treated as one corporation;

If the corporation is used as a mere alter ego of the


stockholder, both corporation and stockholder are solidarily
liable;

If the corporation is used as an alter ego of several


stockholders; the corporation is treated as a mere
association of individuals and the claimant can go against
any of the individuals for the entire amount;

Types of corporations

1. stock or non-stock;
2. sole or aggregate (religious corporations);
3. religious or lay;
4. charitable or civil (business);
5. foreign or domestic;
6. de jure or de facto;
7. close or open;
8. parent or subsidiary;
9. true or quasi;
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10. publicly listed or privately held;


11. government owned or private sector owned;

Stock and non-stock corporations

Stock corporations

These have capital stock divided into shares and are


authorized to distribute to the holders of such shares,
dividends or allotments of surplus profits on the basis of the
shares held;

Hence, if a person pays money or asset to obtain a


proportionate share in the profits thru dividends and or upon
dissolution, it is a stock corporation; anything else is a non-
stock corporation;

Non-stock corporations are not prohibited from making


profits; these are simply prohibited from distributing these
profits to the members through dividends or any other
means;

Generally, distribution of assets to the members upon


dissolution is disallowed;

Religious corporations: corporate sole or religious aggregates


or societies;

Charitable or business

Corporations are set up for business purposes; non-stock


corporations are primarily engaged in non-profit activities;

Foreign or domestic

Basis for determination is the place of incorporation,


regardless of the nationality of the owners;

De jure or de facto
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De jure corporation is a validly registered corporation;

Persons who pretend to represent a non-existent corporation


are treated as a corporation by estoppel;

De facto corporation is not a totally invalid corporation; there


is an attempt in good faith to incorporate under existing
laws;

Only the State, through the OSG, can question the legal
status of a corporation directly through Quo Warranto
proceedings;

Close or open

An open corporation is anything that is not a close


corporation; a close corporation is clearly defined;

Parent or subsidiary

A parent corporation owns substantial shares in another


corporation; parent corporation may be an operating
company or a mere holding company;

A holding company has the sole function to own shares in


several subsidiary corporations and all operations/businesses
are conducted through subsidiary corporations;

Affiliate corporations have common parent corporations;

Publicly listed or privately held

Publicly listed corporations are those where some or all of


the shares are registered securities with the SEC under the
SRC and are listed in the PSE;
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Privately held means the shares of the corporations are not


PSE-listed;

Government owned or privately owned

GOCC may either be (1) with charter, or (2) incorporated


under the Corporation Code; if incorporated under the CC, it
is GOCC if 50% plus 1 share is owned or controlled by the
govt;

Kinds of shares

1. common or preferred;
2. cumulative and non-cumulative;
3. with par or without par;
4. voting or non-voting;
5. treasury shares;
6. redeemable shares;
7. founders shares;

Common shares

Each share unit shares equally or pro-rata on the profits; no


preferences or advantages;

Doctrine of equality of shares

If the Articles of Incorporation is silent on the privileges and


liabilities of the shares, all stocks issued are presumed equal;

Preferred shares

Enjoy certain privileges; preference may be as to assets


upon dissolution or as to profits (by way of dividends);

Preferred upon dissolution

Upon dissolution, the preferred stockholder must first be


given his share of the residual value of the corporation;
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preferred as against common stockholders, not against bona


fide corporate creditors;

Preferred as to profits

Presupposes that profits are realized; before a common


stockholder is paid, preferred stockholder gets a pre-agreed
percentage; if there is a residue, both share pro rata;

Cumulative & non-cumulative shares

If company did not earn last year, the guaranteed 5% is


carried over to the next year; this must be indicated in the
AI;

Par & without par shares

Par value are shares where the value of the shares is pegged
at a pre-set price; it is no-par shares if no amount is
indicated;

Types of corporations that can only issue shares with par


value are banks, trust companies, insurance companies,
public utilities, and building and loan associations;

There can be no preferred no-par shares;

Voting & non-voting shares

General rule: voting rights are a given; it comes with


ownership. If the AI is silent, stockholder has voting rights,
but AI may have voting and non-voting rights;

Non-voting shares are shares where the right to vote is


expressly withheld in the AI; ambiguous restriction leads to
presumption that voting rights are present;
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Common shares cannot be deprived of voting rights;


preferred or redeemable shares can be deprived of voting
rights;

Shareholders cannot be deprived of the right to vote on the


following:

1. Amendment of the AI;


2. Adoption & amendment of the By-Laws;
3. Sale of all or substantially all of the assets;
4. Incurring or increase of bonded indebtedness;
5. Increase or decrease of the ACS;
6. Merger or consolidation;
7. Investment of corporate funds in another corporation;
8. Dissolution;

Voting rights can be deprived on the following matters:

1. Election of Directors;
2. Removal of Directors;
3. Stock Dividends;
4. Management contracts.
Redeemable shares

AI may provide that a certain class of shares may be


redeemed either:

1. at the corporations option; or


2. the stockholders option;
3. or by either;
4. or at a fixed date.

Conditions of the redemption must be clearly spelled out in


the AI and the stock certificate;

Corporation is required to redeem if the conditions are met


despite the lack of sufficient unrestricted retained earnings
provided corporation remains solvent after redemption;
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Treasury shares

Shares already issued and paid for but later on re-acquired


by the corporation through purchase, redemption, donation
or any other means; can be resold;

Cannot be voted by anyone while these shares are still in


treasury; these do not earn dividends; otherwise, the
corporation will be paying dividends to itself;

Considered assets of the corporation


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