This case clarifies the extent to which a rehabilitation plan can modify existing contractual obligations. The Supreme Court affirmed that approving a corporate rehabilitation plan does not violate the constitutional prohibition against impairing contracts if the plan offers secured creditors options and does not force unfavorable terms upon them. This decision emphasizes the balance between supporting distressed businesses through rehabilitation and protecting the vested rights of creditors.

Debt Restructuring: Can a Rehabilitation Plan Override Contractual Obligations?

China Banking Corporation (China Bank) challenged the approved rehabilitation plan of ASB Development Corporation and its affiliates, arguing it violated the constitutional proscription against impairment of contracts and the preference of credits. China Bank had extended significant credit lines to the ASB Group, secured by real estate mortgages. When the ASB Group faced financial difficulties, it filed a petition for rehabilitation with the Securities and Exchange Commission (SEC). The approved rehabilitation plan included a dacion en pago arrangement, allowing ASB to offer properties to creditors in settlement of debts. China Bank contended that the plan forced it to accept properties of insufficient value and impaired its contractual rights.

The core legal question centered on whether compelling a secured creditor to accept a dacion en pago, or other restructuring terms, under a rehabilitation plan infringes upon the constitutional right against impairment of contracts. The resolution required the Court to balance the interests of the distressed corporation in achieving financial recovery against the rights of creditors to enforce their contractual claims.

The Supreme Court relied on prior rulings, particularly Metropolitan Bank & Trust Company v. ASB Holdings, Inc. and Bank of the Philippine Islands v. Securities and Exchange Commission, which addressed similar issues involving ASB’s rehabilitation plan. These cases established that the approval of a rehabilitation plan and the appointment of a receiver merely suspend actions against the distressed corporation, allowing for potential recovery. The court emphasized that secured creditors retain their preferred status and can enforce their preference upon liquidation if rehabilitation fails.

The Court reiterated that the dacion en pago was not compulsory, as the rehabilitation plan allowed creditors to reject the arrangement. If creditors refused the dacion en pago, the plan proposed settling obligations with mortgaged properties at their selling prices. The Court stated, crucially, that any agreement required “MUTUALLY AGREED UPON TERMS.” Thus, the flexibility ensured the rights of the creditors were respected during the negotiation of restructuring terms. This approach contrasts with a forced acceptance, which would indeed constitute an impairment of contract.

Moreover, the Court affirmed that the SEC, acting as a quasi-judicial body, did not impair the right to contract by approving the rehabilitation plan. The constitutional prohibition applies to legislative power, not judicial or quasi-judicial power. The goal of rehabilitation proceedings, consistent with the intent of Presidential Decree No. 902-A, is to facilitate a viable rehabilitation, preserving the business and enabling it to meet its obligations.

The Court noted that as early as two years after the plan’s approval, a significant portion of the ASB Group’s obligations to creditor banks had already been paid, suggesting the plan’s viability. By preserving the distressed business and allowing a negotiation for restructuring, there would be a possibility for recovery for the entity without completely diminishing the rights of the creditor. The rehabilitation plan preserved China Bank’s standing as a secured creditor.

FAQs

What was the key issue in this case?	The key issue was whether the ASB rehabilitation plan violated the constitutional proscription against impairment of contracts by compelling China Bank to accept a dacion en pago arrangement.
What is a dacion en pago?	Dacion en pago is a special mode of payment where a debtor offers a thing to the creditor who accepts it as equivalent to payment of an outstanding debt. It’s akin to a sale where the debt is the consideration.
Did the rehabilitation plan force China Bank to accept the dacion en pago?	No, the Supreme Court clarified that the plan did not compel China Bank to accept the dacion en pago. The plan allowed creditors to reject the arrangement and propose alternative settlement terms.
What happens if creditors reject the dacion en pago?	If creditors reject the dacion en pago, the rehabilitation plan proposed settling obligations to secured creditors with mortgaged properties at their selling prices, with mutually agreed upon terms.
Does the approval of a rehabilitation plan impair contracts?	The Court explained that the SEC’s approval of the Rehabilitation Plan did not impair BPI’s right to contract. The non-impairment clause is a limit on the exercise of legislative power and not of judicial or quasi-judicial power.
What is the purpose of rehabilitation proceedings?	Rehabilitation proceedings aim to provide for the efficient and equitable distribution of an insolvent debtor’s assets and to give debtors a fresh start by allowing them to reorganize their affairs.
What status do secured creditors have during rehabilitation?	Secured creditors retain their preferred status over unsecured creditors during rehabilitation. They can enforce their preference when the assets of the distressed corporation are liquidated if rehabilitation fails.
What was the ruling of the Court?	The Court ruled that the ASB rehabilitation plan did not violate the principle of mutuality of contracts or curtail China Bank’s freedom to contract. The plan was deemed feasible and viable.

In conclusion, this decision provides a nuanced understanding of the interplay between corporate rehabilitation and contract law. It underscores the importance of balancing the interests of distressed corporations with the rights of their creditors. By ensuring flexibility in restructuring arrangements and preserving the status of secured creditors, the Court promotes both corporate recovery and financial stability.

For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.

Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
Source: China Banking Corporation v. ASB Holdings, Inc., G.R. No. 172192, December 23, 2008