671 Texas Outfitters Limited, LLC v. Nicholson, 534 S.W.3d 65 (Tex. App.—San Antonio 2017, pet. granted)

Richard F. Brown

Texas Outfitters Limited, LLC v. Nicholson, 534 S.W.3d 65 (Tex. App.—San Antonio 2017, pet. granted), held the executive rights owner breached its duty of utmost good faith and fair dealing to the non-executive owner by refusing to lease. The Carter family (“Carter”) owned the surface and 50% of the mineral rights in the Derby Ranch in Frio County, Texas. In 2002, Texas Outfitters Limited, LLC (“Texas Outfitters”) purchased the surface, the executive rights to the Carter mineral estate, and a 4.16% royalty interest in the Derby Ranch for $1.0 million. Carter partially owner-financed the sale. In March 2010, Texas Outfitters rejected an offer to lease with a 22% royalty and a $450 per-acre bonus. In June 2010, Texas Outfitters rejected an offer to lease with a 25% royalty and $1,750 per-acre bonus. The owner of the other 1/2 of the mineral estate accepted that offer. According to Carter, the Texas Outfitters owner said “‘there would be no lease’ because he wanted to protect his hunting business, which he had developed into a deer breeding operation.”

According to Carter, they believed an agreement was then reached where Carter would forgive $263,000 on the note, if Texas Outfitters would execute the June 2010 mineral lease. According to Texas Outfitters, Carter tried to buy back their executive rights in exchange for forgiving part of the note, but Texas Outfitters wanted Carter to include surface protection provisions in the executive-rights deed, which Carter refused to do. After two more offers of settlement, including an offer by Texas Outfitters to sell back the ranch and mineral interests to Carter for $4.2 million, negotiations failed. Carter sued Texas Outfitters alleging it breached its duty of utmost good faith and fair dealing by refusing to lease. After Carter filed suit, Texas Outfitters received two more lease offers, and then Texas Outfitters sold the surface and executive rights to a third party for $4.5 million. Following a bench trial, the trial court awarded $867,654 to Carter as damages. There is nothing in the opinion as to the calculation or amount of the damages (although it appears to equal the lost bonus on the June 2010 offer to lease), so the only issue on appeal was the sufficiency of the evidence on breach of duty.

The court reviewed Texas jurisprudence regarding the executive owner’s duty to the non-executive. The executive’s duty of good faith and fair dealing does not require the executive to “grant priority to the non-executive’s interests.” When executing a lease, the executive breaches its duty by “engag[ing] in acts of self-dealing that unfairly diminish[] the value of the non-executive interest.” Although an executive who refuses to lease generally will not exact a benefit for itself that it did not acquire for the non-executive, the executive can still breach its duty by refusing to lease. “An executive can breach its duty to lease ‘[i]f the refusal is arbitrary or motivated by self-interest to the non-executive’s detriment.’”

The Court held that the evidence supported the lower court’s finding that Texas Outfitters breached its duty to Carter by refusing to execute a lease to protect its pre-existing use of the surface. The Court rejected Texas Outfitters’ argument that it merely sought reasonable surface protections by pointing out that all of the settlement proposals required Carter to convey a portion of their royalty interest, reduce the note by $263,000, or accept deed restrictions that would have interfered with future leases. Therefore, Texas Outfitters tried to protect its existing surface use with restrictions that would likely preclude a mineral lease. Further, the court was not persuaded by Texas Outfitters’ argument that it refused the leases to obtain higher bonuses that would also benefit Carter. There was reasonable contrary evidence Texas Outfitters never planned to lease the minerals and its actual motive was to exact a benefit from Carter to Carter’s detriment by diminishing Carter’s royalty interest, exacting a $263,000 reduction in the note, or by selling its mineral interests back to Carter.

The holding, that an executive rights owner can breach its duty of utmost good faith and fair dealing to the non-executive owner by refusing to lease the minerals, if the evidence shows that the refusal was arbitrary or motivated by self-interest to the non-executive’s detriment, follows recently established precedent. The significance of the case is that it provides an example of the facts that may support liability.