G.R. No. 206806 - Arco Pulp and Paper Co., Inc. vs. Lim

Case Summary (G.R. No. 206806)

Factual Background

The respondent supplied scrap papers, cartons and other raw materials to the petitioner corporation. Between February and March 2007, respondent delivered materials with an aggregate value of P7,220,968.31 to ARCO PULP AND PAPER CO., INC. through its President and CEO, CANDIDA A. SANTOS. The parties agreed that the petitioner corporation would either pay the monetary value or deliver finished products of equivalent value. On April 18, 2007, the petitioners issued a post‑dated check for P1,487,766.68 as partial payment; the check was dishonored on deposit for being drawn against a closed account. On that same date, the petitioner corporation and one Eric Sy executed a memorandum of agreement under which the petitioner corporation bound itself to deliver finished products to Megapack Container Corporation for Eric Sy’s account and contemplated that local OCC materials would be supplied by respondent’s company. Respondent sent a demand letter on May 5, 2007 and filed a complaint for collection on May 28, 2007.

Trial Court Proceedings

At the Regional Trial Court, DAN T. LIM was allowed to present evidence ex parte after the petitioners failed to have their representatives attend the pre‑trial. On September 19, 2008, the trial court dismissed the complaint and ruled in favor of the petitioners, finding that the memorandum of agreement executed with Eric Sy constituted a novation that extinguished the petitioners’ obligation to the respondent.

Court of Appeals Decision

DAN T. LIM appealed. The Court of Appeals reversed and set aside the trial court judgment. On January 11, 2013 the appellate court ordered the petitioners to pay respondent P7,220,968.31 with interest at 12% per annum from demand, plus P50,000.00 moral damages, P50,000.00 exemplary damages, and P50,000.00 attorneys’ fees. The Court of Appeals characterized the parties’ agreement as an alternative obligation, found bad faith on the part of the petitioners, and affirmed respondent’s entitlement to damages and fees. The petitioners’ motion for reconsideration was denied.

Issues Presented

The Supreme Court identified and resolved three issues: (1) whether the parties’ obligation was extinguished by novation; (2) whether CANDIDA A. SANTOS was solidarily liable with ARCO PULP AND PAPER CO., INC.; and (3) whether moral damages, exemplary damages, and attorneys’ fees could properly be awarded.

Petitioners’ and Respondent’s Contentions

The petitioners contended that the memorandum of agreement effected a novation substituting Eric Sy as new debtor and thereby extinguished the corporate obligation, that CANDIDA A. SANTOS should not be held personally liable, and that the awards of moral and exemplary damages and attorneys’ fees lacked legal basis. The respondent argued that no novation occurred because the memorandum was a private contract between the petitioner corporation and Eric Sy and respondent’s consent was necessary; respondent maintained entitlement to the unpaid debt and asserted that CANDIDA A. SANTOS was the prime mover and should be solidarily liable.

Characterization as an Alternative Obligation

The Court affirmed that the original undertaking constituted an alternative obligation within the meaning of Article 1199 of the Civil Code, under which the debtor had a right of election to perform one of two prestations. The Court found that the petitioners chose the option to pay the price when they tendered the partial payment check and that respondent’s deposit of the check constituted notice of that election. The memorandum’s terms showing delivery of finished products to a third person also demonstrated that the petitioners had foreclosed the option to deliver finished products to respondent.

Novation Held Not Proven

The Court held that the memorandum of agreement did not constitute novation. Citing Article 1291, Article 1292, Article 1293, and this Court’s precedents including Garcia v. Llamas, the Court reiterated that novation extinguishes an obligation only when the new contract declares such extinction in unequivocal terms or when the old and new obligations are incompatible on every point, and that novation is never presumed. The memorandum did not state that the original obligation to respondent was extinguished nor that Eric Sy substituted as debtor. Respondent was not a party to the memorandum and did not consent to any substitution. The tender and dishonor of the check and respondent’s subsequent demand against the petitioner corporation further contradicted any contention that novation occurred. Accordingly, the original corporate obligation remained extant.

Damages: Moral, Exemplary, and Attorneys’ Fees

The Court affirmed the award of damages. It applied Article 2220 for moral damages and reiterated that moral damages require fraud or bad faith. The Court found bad faith in the facts: issuance of an unfunded check and the petitioners’ attempt to shift performance to a third party without respondent’s consent constituted dishonest purpose and conscious wrongdoing sufficient to prove bad faith. The Court applied Article 2219, Article 19, Article 20, and Article 1159 in explaining that breaches done in bad faith may ground moral damages, and required proof by clear and convincing evidence. The Court also sustained exemplary damages under Articles 2232–2234, noting their deterrent purpose when the defendant acted in a wanton, fraudulent, reckless, oppressive or malevolent manner. Because exemplary damages were proper, the Court held that attorneys’ fees could be awarded under Article 2208.

Piercing the Corporate Veil and Personal Liability of Santos

The Court addressed corporate separateness and the exception permitting piercing the corporate veil. Citing Heirs of Fe Tan Uy v. International Exchange Bank and Livesey v. Binswanger Philippines, the Court recited the general rule that corporate obligations are liabilities of the corporation alone but may be disregarded where the corporate form is used to perpetrate fraud or to evade obligations. The Court found that CANDIDA A. SANTOS, acting as President an

Case Syllabus (G.R. No. 206806)

Parties and Posture

Arco Pulp and Paper Co., Inc. and Candida A. Santos were petitioners in a Rule 45 petition for review on certiorari from a decision of the Court of Appeals.
Dan T. Lim, doing business under the name and style of Quality Papers & Plastic Products Enterprises, was the respondent and plaintiff below seeking collection of P7,220,968.31.
The petition challenged the Court of Appeals decision in CA-G.R. CV No. 95709 that reversed an RTC judgment and ordered payment with damages and attorneys fees.
The Supreme Court resolved whether novation extinguished the obligation, whether Santos was solidarily liable, and whether moral, exemplary damages and attorneys fees were awardable.

Key Facts

Dan T. Lim delivered scrap papers worth P7,220,968.31 to Arco Pulp and Paper between February 2007 and March 2007 under an agreement that Arco would either pay or deliver finished products of equivalent value.
Arco Pulp and Paper issued a post-dated check dated April 18, 2007 for P1,487,766.68 as partial payment, which was dishonored for being drawn against a closed account.
On April 18, 2007 Arco Pulp and Paper and Eric Sy executed a memorandum of agreement providing that Arco would deliver 600 metric tons of Test Liner to Megapack Container Corporation and that local OCC materials would be supplied by Quality Paper & Plastic Products Ent..
Dan T. Lim sent a demand letter dated May 5, 2007 for P7,220,968.31 and filed a complaint for collection on May 28, 2007 in the Regional Trial Court, Branch 171, Valenzuela City.
Arco Pulp and Paper failed to have its representatives appear at pre-trial, prompting the trial court to admit respondent's evidence ex parte.

Procedural History

The Regional Trial Court dismissed the complaint on the ground that the April 18 memorandum effected a novation that extinguished Arco’s obligation.
Dan T. Lim appealed to the Court of Appeals which reversed and ordered Arco and Santos to pay P7,220,968.31 with interest, P50,000.00 moral damages, P50,000.00 exemplary damages, and P50,000.00 attorneys fees.
Arco Pulp and Paper and Candida A. Santos filed a Rule 45 petition with the Supreme Court seeking reversal of the Court of Appeals decision.
The Supreme Court denied the petition in part and affirmed the Court of Appeals decision subject to modification of the interest rate.

Issues Presented

Whether the obligation between the parties was extinguished by novation.
Whether Candida A. Santos was solidarily liable with Arco Pulp and Paper Co., Inc..
Whether moral damages, exemplary damages, and attorneys fees could validly be awarded.

Statutory Framework

Article 1199 of the Civil Code governs the nature of an alternative obligation and the debtor’s right of election.
Articles 1291, 1292, and 1293 of the Civil Code govern the modes and requisites of novation, including the requirement of unequivocal declaration or incompatibility and creditor consent for substitution of debtor.
Article 2220, Article 2219, Articles 19, 20 and 21, and Article 1159 provide the statutory background for awarding moral damages for breaches done in bad faith.
Articles 2232–2234 set the conditions for awarding exemplary damages, and Article 2208 authorizes attorneys fees when exemplary damages are awarded.
The Supreme Court applied the interest guidelines from Nacar v. Gallery Frames in lieu of earlier Eastern Shipping standards.

Court's Findings

The Supreme Court found the parties’ original contract created an alternative obligation where Arco Pulp and Paper could either pay the price or deliver finished products of equivalent value.
The Court found that Arco Pulp and Paper manifested its election to pay by tendering a check for partial payment and that respondent’s deposit of the check constituted notice of that election.
The Court held that the April 18 memorandum establishing deliveries to Megapack did not constitute no