Introduction. In Texas, officers and directors of a corporation owe fiduciary duties to the corporation. “Three broad duties stem from the fiduciary status of corporate directors; namely, the duties of obedience, loyalty, and due care. Ubelaker at 781–82. The duty of obedience requires a director to avoid committing ultra vires acts, i.e., acts beyond the scope of the powers of a corporation as defined by its charter or the laws of the state of incorporation.” …”The duty of loyalty dictates that a director must act in good faith and must not allow his personal interests to prevail over the interests of the corporation.” …“Under the law of most jurisdictions, the duty of care requires a director to be diligent and prudent in managing the corporation’s affairs.” Gearhart Indus., Inc. v. Smith Intern., Inc., 741 F.2d 707, 720 (5th Cir. 1984). What happens when an officer or director breaches one of these fiduciary duties?
Texas Supreme Court opinion. In the recent Texas Supreme Court case of Longview Energy Co. v. Huff Energy Fund LP, 533 S.W.3d 866, 868 (Tex. 2017), reh’g denied (Dec. 8, 2017), reh’g denied (Jan. 26, 2018), the court addressed the evidence required to support the remedies allowed for breach of corporate fiduciary duties. These remedies include the imposition of a constructive trust upon assets wrongfully acquired and disgorgement of ill-gotten gains.
In this case, Longview Energy Corporation sued two of its directors and entities associated with them after discovering one of the associated entities, Riley-Huff, purchased mineral leases in an area where Longview had been investigating the possibility of buying leases. The jury found that the directors breached their fiduciary duties owed to Longview by usurping a corporate opportunity and by competing with the corporation without disclosure. The trial court rendered judgment awarding Longview $95.5 million, imposing a constructive trust in Longview’s favor on substantially all Riley-Huff’s Eagle Ford acreage leases and associated properties, together with future production from the leases; and ordering Riley-Huff to transfer the leases and properties to Longview. Unfortunately, for Longview, the court of appeals reversed the judgment and the Texas Supreme Court affirmed the reversal.
Background. Longview, an oil and gas exploration company, was looking into investment opportunities in the Eagle Ford. In 2010, Longview held a board meeting to discuss the results of its investigation. The proposal before the board involved investing up to $40 million to lease 7,000 acres for drilling. The proposal did not identify or target specific acreage or leases in the large blobs of land considered. Longview decided against investing, at least in part, because of alleged misrepresentations and factual omissions by two of Longview’s board of directors.
These two directors had formed Riley-Huff in the preceding year to locate and fund oil and gas investments including in Eagle Ford. This had not been disclosed to Longview. Just 3 days before the 2010 Longview board meeting, Riley-Huff agreed to purchase Eagle Ford leases from Wyldfire which was one of the lease brokers Longview consulted in developing the proposal. Riley-Huff eventually acquired mineral leases to approximately 50,000 Eagle Ford acres, some of which were within the blobs on maps Longview’s board had considered.
The jury found that the two Defendant directors breached their fiduciary duties owed to Longview by taking a corporate opportunity and by engaging in competition with Longview without the approval of its board of directors. The trial court rendered judgment awarding Longview $95.5 million; imposing a constructive trust in Longview’s favor on substantially all Riley-Huff’s Eagle Ford acreage leases and associated properties, together with future production from the leases; and ordering Riley-Huff to transfer the leases and properties to Longview.
Court’s holding. The Texas Supreme Court affirmed the reversal of the trial court’s judgment because Longview failed to prove that the leases in issue were acquired by Riley-Huff as a result of the Defendants’ breach of fiduciary duties. There was no evidence that the leases in question were leases that Longview intended to acquire. There was only evidence that these leases were encompassed within the large blobs of land considered by Longview as part of the investment proposal. Thus, the evidence was not specific enough to support the court’s imposition of a constructive trust upon these leases, award of $95 million in lost profits or award of other remedies.
Conclusion. The lessons learned from this case are that corporate officers and directors owe strict fiduciary duties to the corporation and must be open and honest with the corporation about any competing ventures in which the directors and officers have invested or intend to invest. Otherwise, they may have to account to the corporation for these investments. Further, it is important for a plaintiff suing for breach of fiduciary duty to hire competent financial experts to trace the specific assets that a plaintiff alleges were wrongfully acquired as a result of a defendant’s breach. Can you imagine investing large amounts of money and time into a lawsuit, being awarded a judgment for almost $100 million in damages and then later having the judgment reversed?