Face Challenges Confidently

553 Phillips v. Carlton Energy Group, LLC, 475 S.W.3d 265 (Tex. 2015)

Tuesday, December 6th, 2016

Richard F. Brown

The following is not a legal opinion. You should consult your attorney if the case may be of significance to you.

Phillips v. Carlton Energy Group, LLC, 475 S.W.3d 265 (Tex. 2015) (Proving market value of prospect) held that when the market value of a prospect is measured by lost profits, lost profits must be proved with reasonable certainty. This case arose out of a dispute among parties competing for a concession to explore for coalbed methane in an unproven field in Bulgaria. The alignment of the parties and the facts were complicated, but Carlton secured a jury verdict of tortious interference with contract resulting in the loss of the prospect. Carlton alleged it was entitled to recover the market value of its lost interest in the Bulgaria prospect, and the issue in the case was the determination of market value by proof of lost profits attributable to the loss of the prospect. Carlton’s experts provided three damages models ranging from $12.54 million to $31.16 million to $11.305 billion. The models were intended to establish the fair market value of Carlton’s lost investment measured by the amount of its lost profits.  The jury awarded Carlton $66.5 million in actual damages, which did not clearly relate to any of Carlton’s three models.

Phillips argued that the fair market value of the prospect was too speculative to support an award of damages. “A property’s fair market value is what a willing buyer would pay a willing seller, neither acting under any compulsion.” “Fair market value is generally determined either by using comparable market sales, calculating replacement cost less depreciation, or capitalizing net income – that is, profits.” The Court recognized that where lost profits are sought to be recovered as consequential damages, the lost profits can be recovered only when the amount is proved with reasonable certainty. “The reasonable certainty requirement ‘is intended to be flexible enough to accommodate the myriad circumstances in which claims for lost profits arise.’”

The question in this case was whether the reasonable certainty requirement should be extended to cases where “lost profits are not sought as damages themselves but are used to determine the market value of property for which recovery is sought. . . .” The Court held that the reasonable certainty requirement should be extended to such cases, because the purpose of the requirement is to prevent recovery based on speculation, and there was no reason why the requirement should not apply equally to lost profits and lost market value.

The Court determined that two of Carlton’s damage models were merely conjectural and based on “sweeping assumptions.” Specifically, Carlton’s experts made unsupported projections about the value of gas in the ground, the amount of gas actually recoverable, cost of recovery, cost of marketing, etc. However, there was evidence of various prices fixed by the parties as they bought and sold fractional parts of the prospect. The Court held that when there is evidence of prices fixed by real investors in a market in which such interests are bought and sold, all of the speculation is subsumed into the data they rely upon to reach their valuation. Therefore, as to at least one of the damage models there was some evidence to support the verdict. Specifically, the Court looked to Phillips’ agreement to pay Carlton $8.5 million in exchange for a 10% interest in the project (and adjusted for other factors), to support a valuation of $31.16 million. The issue was ultimately remanded to the court of appeals to address factual insufficiency as to valuation.

The significance of this case is the holding that the valuation of a lost prospect, when measured by lost profits to find market value, is subject to the requirement that the lost profits must be proved with reasonable certainty. The case also provides examples of expert testimony on gas in place market value that will not be accepted as proof to a reasonable certainty.