Caveat Emptor Still Rules The Day For MLPs
Just as a $700 million damages award and its accompanying sharp criticism of legal opinions garner headlines, so does reversal of that ruling. The Delaware Supreme Court closed out 2022 with its decision in Boardwalk Pipeline Partners, LP v. Bandera Master Funds LP, reversing the Court of Chancery’s sizeable post-trial award on narrow contractual grounds. The reversal is a substantial victory for the defendants. But for non-parties, of note was the Delaware Supreme Court’s decision to leave intact the trial court’s conclusions regarding law firm opinions. Taken together, both courts’ rulings offer meaningful guidance for parties and counsel negotiating complex transactions and considering inclusion of opinion of counsel conditions (or, attempting to satisfy such conditions in existing contracts).
Below we summarize the key facts and takeaways from the decision.
Key Factual Background
As discussed in our prior post regarding the trial court decision, Loews Corporation (“Loews”) formed Boardwalk Pipeline Partners, LP (“Boardwalk”) as a Delaware Master Limited Partnership (“MLP”) and holding company for the transportation and storage of natural gas. Boardwalk’s general partner, itself a partnership, Boardwalk GP, LP (the “General Partner”), was controlled by its general partner, an LLC with Loews as its sole member and several independent directors. Boardwalk’s Partnership Agreement provided that a call right could be invoked by the General Partner to take Boardwalk private if two conditions were met. First, the General Partner had to receive “an Opinion of Counsel” that Boardwalk’s entity status “has or will reasonably likely in the future have a material adverse effect on the maximum applicable rate that can be charged to customers.” Second, the General Partner had to determine that the Opinion was “acceptable.”
The Partnership Agreement also provided that the General Partner was “conclusively presumed” to have acted in good faith when relying on advice of counsel “as to matters that the General Partner reasonably believes to be within [counsel’s] professional or expert confidence.” It also exculpated the General Partner from monetary liability “absent bad faith, fraud, willful misconduct, or criminality.”
In March 2018, following a period of regulatory uncertainty regarding rates for pipeline systems, Loews explored taking Boardwalk private by exercising the call right. Loews retained the same lawyer who had drafted the agreement containing the call right to provide the requisite Opinion of Counsel. Loews also asked a separate law firm to determine which entity within the Boardwalk MLP structure should determine the acceptability of the Opinion of Counsel. After the first counsel rendered its Opinion of Counsel, the second concluded that it would be reasonable for the LLC’s sole member to determine the acceptability of the Opinion, and therefore reasonable for the sole member to accept the Opinion. Relying upon the Opinion of Counsel and the sole member’s determination of acceptability, Loews exercised its call option, and minority unitholders then commenced litigation challenging the exercise of the call right.
Following a four-day trial, the Court of Chancery determined that, among other things, the Opinion of Counsel was based upon a series of “unrealistic and counterfactual assumptions” designed “to generate the client’s desired result.” The trial court also found the language of Boardwalk’s Partnership Agreement requiring the “General Partner” to determine the acceptability of the Opinion of Counsel ambiguous — i.e., it was unclear whether the LLC’s sole member or its board (the latter including several independent directors) should determine acceptability. Finding both readings reasonable, the court applied contra proferentem, a doctrine mandating interpretation against the drafter, to conclude that the LLC’s board, rather than its sole member (comprised entirely of Loews insiders), was the correct entity to determine the acceptability of the Opinion of Counsel. For these reasons, the court held that the General Partner breached both of the Partnership Agreement’s opinion-related conditions. The Court further held that the General Partner knowingly participated in securing what the Court concluded was a contrived Opinion of Counsel, and therefore neither the exculpatory nor reliance provision protected the General Partner from liability.
On appeal, the Delaware Supreme Court reversed on three grounds. First, the proper decisionmaker for “acceptability” of the Opinion of Counsel was the LLC’s sole member. Second, the sole member reasonably relied upon the second legal opinion confirming the Opinion of Counsel. Third, the sole member and General Partner, in reasonably relying upon the second legal opinion, triggered the contractual provision establishing a conclusive presumption of good faith which, in turn, exculpated them from damages under the Partnership Agreement.
- MLPs Are Creatures of Contract. Under Delaware law, an MLP is largely a creature of contract. In rejecting the lower court’s finding that the Partnership Agreement was ambiguous vis-à-vis the acceptability determination, the Delaware Supreme Court cautioned against creating “protections untethered to the language” of the applicable MLP agreements. In so ruling, the Delaware Supreme Court affirmed the doctrine of caveat emptor, which places the burden on buyers to conduct due diligence before purchase. The Court found this befitting to investors of MLPs who “have countless other investment opportunities available to them that involve less risk and/or more legal protection.” Because the Partnership Agreement disclaimed fiduciary duties, the Court extended “the maximum flexibility of contract” to the General Partner even if “to the disadvantage of the minority unitholders.” It appears therefore that caveat emptor may serve to protect an MLP from behaving, as the Court of Chancery found, “intentionally and opportunistically,” so long as the controller acts within the bounds of the applicable contract. This, in turn, begs the question: whether and to what extent the doctrine of caveat emptor may override the doctrine of contra proferentem in cases involving potentially ambiguous MLP agreements.
- Trial Court’s Opinion Of Counsel Findings Remain Law. The Delaware Supreme Court majority did not reverse the lower court’s findings of bad faith regarding the first law firm’s conduct in issuing the Opinion of Counsel. Otherwise stated, the Vice Chancellor’s sharp criticism of the process by which the first Opinion of Counsel was rendered remains standing and the practical guidance for practitioners emanating from this portion of the trial court’s opinion remains largely unchanged. Opinion givers “must have competence in the particular area of law.” They should not make “assumptions [that] effectively establish the legal conclusion being expressed,” “cannot act in good faith by relying on information known to be untrue or which has been provided under circumstances that would make reliance unreasonable,” and should be mindful of potential conflicts. Although the law does not require opinions of counsel always to be substantively correct, it does require that lawyers undertake a reasonable and good faith effort in rendering such an opinion. The Court of Chancery’s teachings on this score will continue to serve as an important reminder to counselors that they are not only legal advisors to clients, they are also officers of the court with attendant ethical obligations.
- Nesting of Law Firm Opinions. The Delaware Supreme Court found acceptable the second opinion that confirmed the reasonableness of the first Opinion of Counsel. Importantly, the lower court did not find, and the plaintiffs did not argue, that the second law firm acted in bad faith by so advising. The decision suggests that the nesting of legal opinions may ameliorate the risks posed by opinions of counsel as a condition precedent.
- Concurrence’s Legal Judgment Rule. Although the majority chose a different path to decide the appeal, Justice Valihura’s concurring opinion, joined by Justice Legrow, focused on applying a more deferential approach in determining whether lawyers act in good faith. Akin to a business judgment rule, Justice Valihura’s approach cautioned against judges “substitute[ing their] own judgment for that of the lawyers who are asked to render legal opinions.” In this unusual 3-2 split, the concurring justices ultimately concluded that, because “opinions of counsel are entitled to deference,” the trial court committed legal error in holding that the Opinion of Counsel was rendered in bad faith, and would have reversed on that basis. Justice Valihura acknowledged that “there are, for sure, outer limits to this deference” but found such boundaries unmet here.
- Conclusive Good Faith Presumptions. The Delaware Supreme Court rejected extending agency law to impute knowledge to an entity from persons beyond those who govern or manage the entity. The Court of Chancery previously reached this conclusion in Gerber v. EPE Holdings, LLC, 2013 WL 209658, at *13 (Del. Ch. Jan. 18, 2013), explaining that an entity “can only make decisions or take actions through individuals who govern or manage it.” Upon concluding that the sole member reasonably relied on the second opinion, the Court held that the Partnership Agreement’s reliance provision created a conclusive, not rebuttable, good faith presumption.