The purpose of the purpose clause

As businesses strive to survive the economic impact of the pandemic, diversification is one of the options commonly considered. However, before pursuing a new income stream, corporations should check whether a new or additional business activity falls within the limits of its corporate purpose or powers.

Under the Doctrine of Limited Capacity, a corporation can only exercise powers that are express, implied, or incidental to its existence. Express powers are those conferred by law and stated in a company’s Articles of Incorporation (AoI), particularly in the “purpose clause.” The purpose clause generally limits what a corporation can do. Exceptions are implied and incidental powers which can be inferred, necessary, or consequential to the exercise of the express powers.

Ideally, a corporation should operate within the limits of its corporate purpose. Otherwise, acts that go beyond its powers (“ultra vires”), depending on the nature of act, are either void (if illegal), or voidable unless ratified by the stockholders. In exercising its regulatory powers, the Securities and Exchange Commission (SEC) may also impose sanctions such as fines against the corporation for ultra vires acts that affect the public.

In case of doubt, the corporation may seek formal confirmation from the SEC on whether or not a new purpose or activity is covered by its purpose clause. Through two opinions issued, the SEC had the occasion to clarify whether the envisioned additional activities of corporations in connection with retail trade are within the ambit of their corporate franchise. The first involves a repairs and maintenance company contemplating entering the retail trade; the second is a retail company that sought confirmation prior to conducting business via an online platform.

SALE OF SPARE PARTS BY A REPAIR AND MAINTENANCE COMPANY
According to the SEC, the sale of spare parts and other materials necessary for repair services does not fall within the concept of retail trade as it is merely incidental to repair and maintenance services, and not being pursued as an independ ent business. Moreover, the corporation’s sale of motorbikes to the general public is not considered retail if made only: (a) through only a single sales outlet at the existing service center located at the principal office where motorbikes are assembled; or (b) to the government and its agencies. This is in accordance with the Implementing Rules and Regulations (IRR) of the Retail Trade Law.

Moreover, the sale of products to industrial/entity users is not considered retail if the latter use such products to render services to the general public or produce/manufacture goods for sale. Lastly, sales that are limited to qualified employees are not considered retail provided that the products sold are not also offered to the general public.

The determination of whether a proposed sale activity qualifies as retail trade is particularly crucial for corporations with foreign stockholders. Currently, retail trade is generally reserved to Filipinos, and only admits foreign participation upon meeting a substantial investment requirement. Note, however, that there are proposals to liberalize retail trade and these bills are currently pending with Congress.

ONLINE SELLING
Retail companies are now leaning towards the use of electronic channels. As confirmed in a ruling issued by the SEC, retailers need not amend their AoI to engage in online selling.

“Retail trade” is defined as an act, occupation, or calling of habitually selling direct to the general public merchandise, commodities or goods for consumption. The Retail Trade Law does not distinguish retail trade carried through physical stores and those conducted through online channels. As such, for as long as the corporation is authorized to engage in retail, it may do so using any means or mode.

At most, the act of online selling can be considered a new mode of delivering retail services and could appropriately be considered as necessary or incidental to the powers of the corporation. According to the SEC, it is legal to “stretch” the purpose clause to cover new and unexpected situations, especially those that arise from doubts created by poor craftsmanship, lack of foresight, or occurrence of events that were unforeseeable at the time when the purpose clause was drafted. However, in case the situation is reversed, such as when the proposed business activity is explicitly outside the scope of the purpose clause, or impossible to be impliedly included within the ambit of the purpose clause, the AoI should be amended.

This confirmation from the SEC is relevant and useful in view of the increased number of retail companies intending or currently offering their products online as part of the new normal.

The views or opinions expressed in this article are solely those of the author and do not necessarily represent those of Isla Lipana & Co. The content is for general information purposes only, and should not be used as a substitute for specific advice.

Aimee Rose DG Dela Cruz is a senior manager with the Tax Services Group of Isla Lipana & Co., the Philippine member firm of the PwC network.

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