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Call for SEC to pass the Draft Cross-Shareholding Regulations

By Euney Marie Mata-Perez on July 6,2023

SECTION 2 of Republic Act 8799, or the “Philippines’ Securities Regulation Code,” declares that the State shall establish a socially conscious, free market that regulates itself, encourage the widest participation of ownership in enterprises, enhance democratization of wealth, promote the development of the capital market, protect investors, ensure full and fair disclosure about securities, minimize if not totally eliminate insider trading and other fraudulent or manipulative devices and practices which create distortions in the free market.

In recognition of this provision, the Securities and Exchange Commission (SEC) published a proposed Draft Regulations for cross-shareholding structure for publicly listed companies (Draft Regulations) in 2021. The Draft Regulations provide that a subsidiary is prohibited from acquiring the shares of its parent company, except for shares without voting rights, e.g., non-voting preferred shares, which shall in no case exceed 10 percent of the total shares belonging to the same series or class of shares.

The foregoing rule is proposed for valid reasons. Draft Regulations acknowledge the following:

1. The Doing Business Report Survey conducted by the World Bank has identified the prevention of cross-shareholding structure as among the international best corporate governance practices;

2. Cross-shareholding resulting to interlocking shares may create a risk of double counting of the security’s value resulting to inaccurate company valuations;

3. The principle of issuance of shares is to raise capital and that corporations cannot issue shares for themselves to own as it may violate the provisions under Sec. 40 (Power to Acquire Own Shares) of the Revised Corporation Code;

4. Cross-shareholdings could lead to exclusionary and anticompetitive business practices favoring only existing networks;

5. Cross-shareholdings by a complex network of indirect relations may be used to conceal beneficial ownership;

6. Cross-shareholding may result in conflict of interest situations wherein the same ownership over shares is shared by parties with conflicting interests, thereby resulting to inefficient use of capital;

7. The parent company and its subsidiaries constitute a single business entity and that ownership cannot be separate among them; and

8. Studies show that the ill-effects of cross-shareholding outweighs its benefits.

Under the Draft Regulations, “cross-shareholding” is defined as a shareholding structure whereby a subsidiary owns or acquires the shares of its parent company, directly or indirectly through intermediaries.

However, the Draft Regulations provide that a subsidiary may continue holding the shares in its parent company if:

a. At the time when it becomes a subsidiary thereof, it already holds shares in the parent company; and

b. The cross-shareholding structure existed prior to the effectivity of this memorandum circular.

In both cases above though, the parent company is required to cause the conversion of the subject shares into non-voting shares within 12 months from the effectivity of this memorandum circular. Within the same period, all affected shareholders shall be allowed to dispose their shares to any qualified transferee or exercise their appraisal right pursuant to Section 80(a) of the Revised Corporation Code.

Unfortunately, up to this date, more than two years since their initial publication in 2021, the Draft Regulations have not been approved or finalized by SEC.

In its letter dated June 23, 2023, the Fund Managers Association of the Philippines (FMAP), together with MBG Funds, wrote SEC in relation to the Draft Regulations, expressing their strong support for the passage and implementation of the Draft Regulations.

In such a letter, both FMAP and MBG Funds applauded the SEC for acknowledging the issues of control imbalance and opacity in ownership that cross-shareholdings cause. They stated that the limitation on subsidiaries’ acquisition of shares in its parent company, as mandated by the Draft Regulations, would serve the best interests of minority shareholders.

FMAP and MBG also said that cross-shareholdings in publicly listed companies may reduce competitive incentives due to the common ownership between entities. In Japan, for example, group companies tend to do business mainly with each other, thus making it difficult for foreign investors to break into Japanese networks. This leads to exclusionary, anticompetitive business practices. Thus, FMAP and MBG expressed their view that the reforms that the Draft Regulations would introduce could help create a more competitive landscape. This is crucial for attracting investments, boosting investor confidence and developing the Philippine capital market as a whole.

In conclusion, FMAP and MBG expressed their strong position that the provisions in the Draft Regulations will help promote transparency in corporate shareholdings, encourage fair competition in the market and ultimately safeguard minority shareholders in publicly listed companies nationwide.

As discussed in my article published in The Manila Times on June 8, 2023, there is no doubt then that there is a need to regulate cross-shareholdings, especially in publicly listed companies, and it is just high time that our SEC follow the worldwide trend of good governance and regulate cross-shareholdings in our country.

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