Branch securities deposit: boon or bane?

Branch securities deposit: boon or bane? by: Tata Panlilio-Ong

THE USUAL TYPES of corporate entities that can be established to do business in the Philippines are: a) subsidiary/corporation and b) branch.

A subsidiary (akin to a limited liability company) is a stock corporation organized under Philippine laws with legal and juridical personality separate and distinct from its parent company. The liability or exposure of the parent company is limited to its investment in the capital stock of the subsidiary. The corporate acts of a subsidiary are undertaken by its Board of Directors, majority of whom must be Philippine residents. The major corporate officers of a subsidiary, i.e., President, Treasurer and Corporate Secretary, also have to be Philippine residents. Thus, in case there are claims against the subsidiary for unpaid expenses, debts and losses, recourse can easily be had against the corporation through its directors and officers.

On the other hand, a branch of a foreign corporation which has been granted a license to do business by the Securities and Exchange Commission (SEC) is merely an extension of the legal and juridical personality of the foreign head office. The Philippine branch does not have its own Board of Directors, majority of whom are residents, but rather, its Board is composed of the directors of its foreign parent company who are not Philippine residents.

The highest ranking officer of a branch would typically be a Country Manager or Managing Director. A branch is also required to appoint a resident agent whose sole function is to receive summons on behalf of the foreign corporation. In the event that there are claims against the Philippine branch, while jurisdiction can be acquired over the foreign corporation by service on the resident agent, the prosecution and enforcement of the claim would have to go through its Board and top management who are not in the Philippines.

To protect creditors, suppliers and even the Philippine government who deal with the branch, Section 126 of the Philippine Corporation Code (PCC) requires that a branch of a foreign corporation licensed by the SEC to do business in the Philippines shall, within 60 days from issuance of said license, deposit with the SEC for the benefit of creditors securities with an actual market value of at least P100,000.

Moreover, within six months from the close of the fiscal year of the branch, it will be required to deposit additional securities equivalent in actual market value to 2% of the amount by which the branch’s gross income for said year exceeds P5 Million.

The SEC shall also require deposit of additional securities if the actual market value of the deposited securities decreased by at least 10% of their actual market value at the time of deposit.

In May 2012, the SEC promulgated Memorandum Circular No. 2 clarifying the foregoing requirement to deposit branch securities with the SEC.

Acceptable securities include:

a) government debt instruments;
b) equity instruments

  i. shares of stock of enterprises registered under the Omnibus Investments Code of 1987;
  ii. shares of stock of domestic corporations listed in the stock exchange;
  iii. shares of stock of domestic insurance corporations regulated by the Office of the Insurance Commissioner; and
  iv. shares of stock of banks licensed by the Bangko Sentral ng Pilipinas

or any combination of the above-mentioned government and equity instruments.

To determine the amount of additional securities to be deposited after the initial branch securities deposit, only the following items can be deducted from gross income:

a) sales returns, allowances and discount;
b) direct costs and expenses incurred with foreign entities and related parties:

  i.  cost of sales incurred with foreign suppliers;
  ii. direct costs of services attributable to related party transactions outside the Philippines;
  iii. direct cost incurred attributable to foreign non-related party supplier;
  iv. depreciation and amortization of tangible and intangible assets used directly for its manufacturing operations under       certain conditions; and

c) other foreign related direct cost and expense items.

The above-mentioned deductions can be claimed subject to the submission of branch office’s Audited Special or Annual Income Statement showing separately the amounts of direct cost and expenses actually incurred with foreign entities and foreign related parties. Moreover, if the Philippine branch is insolvent the said deductions shall not be allowed.

Given the cross-border nature of the operations of branch offices of foreign airlines, the SEC MC provides a specific formula for computing their securities deposit requirement as well as supporting documents to claim said deductions.

Under certain conditions, the SEC allows the substitution of securities as well as release of additional securities.

During the time the securities are on deposit with the SEC, the Philippine branch shall be entitled to collect the dividends or interest thereon. When the foreign corporation decides to withdraw from its business in the Philippines, the securities deposited may be returned subject to certain conditions.

Non-compliance with the requirement of initial branch securities deposit as well as additional securities deposit will subject the Philippine branch to graduated penalties ranging from basic fine of P7,000-10,000 plus monthly fine of P500-1,500 depending on the number of violations. In addition, repeated non-compliance may be a ground for cancellation of branch license without prejudice to the filing of criminal action for violation of the PCC.

Clearly, the branch securities deposit requirement is a boon to creditors and suppliers of goods and services to the Philippine branch as it stands as a fund for the protection of their claims.

However, said requirement is increasingly becoming a bane for the branch offices of foreign corporations.

Firstly, the P5-Million threshold fixed by the PCC to deposit additional securities is simply too low and is no longer reflective of Philippine economic and business conditions. The problem is exacerbated by the fact that since the threshold is specifically provided by law, it would need an amendment of the PCC itself.

Secondly, since the additional securities is based on gross income less the allowable items provided in the SEC MC, it is possible that even if the branch is in a net loss position, it would still be required to deposit the additional securities.

Thirdly, as the additional branch securities deposit reaches millions of pesos, the administrative cost of monitoring and reporting said investments also increases.

In recent times, the Philippines’ competitive index in terms of ease of doing business has steadily fallen along with its share of foreign direct investment. With the move towards Southeast Asian integration in 2015 to achieve the avowed goals of a common market and production base as well as the free flow of goods, services, investment, capital and labor, it is imperative that concerned Philippine government agencies focus their efforts on developing creative and responsive solutions to enhance our country’s economic competitiveness, lest we lag behind in partaking of the boon of integration and find ourselves unable to cope with the bane of a common market.