Texas Business Court Weighs In on Contractual Restrictions on Fiduciary Duties
Earlier this month, in one of the first opinions in which the newly established Texas Business Court has addressed the merits of a claim, the court granted in part and denied in part a motion for summary judgment in Primexx Energy Opportunity Fund, LP v. Primexx Energy Corporation. The opinion provides a first look at how the newly established Texas court will compare to Delaware courts in its approach to a foundational issue for many limited partnerships: the extent to which partners can modify or even eliminate their fiduciary duties and obligations by contract.
In Primexx, two limited partners sued the controlling partner and managing general partner for alleged breaches of fiduciary and contract obligations after the controlling partner exercised its drag-along rights to compel a sale of the limited partnership to a third party. The minority limited partners complained that the controlling and managing partners had breached their fiduciary duties and had failed to act in the partnership’s best interest by accepting too low a price for the business; failing to perform sufficient due diligence regarding the option of continuing as a stand-alone business, alternative options, or the fairness of the sale; and not giving timely notice of the sale.
As a first step in addressing the defendants’ motion for summary judgment, the Texas Business Court undertook a careful analysis of the full scope of the fiduciary duties owed by the defendants, in light of the Texas Business Organizations Code (TBOC) and an exculpatory clause in the partnership agreement that eliminated any fiduciary duties of the partners to the fullest extent permitted by law, with the exception of the duties of good faith and fair dealing and other specified “agreed duties.” The court explained that, under TBOC § 152.002, partners may not completely eliminate their fiduciary responsibilities, but “they may define specific conduct that does not violate [their responsibilities] provided those terms are not manifestly unreasonable.” It also noted that “[t]he TBOC does not state any ‘magic words’ that are required to implement these contractual carveouts to the statutory responsibilities.”
Ultimately, the court held that the partnership agreement minimized, but did not entirely eliminate, the duty of loyalty because it enumerated “contract-created loyalty standards” prescribing specific activities that did not violate that duty. Because defendants’ conduct during the sale mostly did not run afoul of those contractually defined duties and also did not violate any retained duty of care or good faith obligations, the court held that (with limited exceptions) defendants did not breach their duties as a matter of law.
Readers familiar with Delaware law on this issue will recognize similarities and differences in the Texas approach. As noted in Primexx, in Texas partners may not fully eliminate the duties of loyalty or care or the obligation of good faith, but they may modify the scope of those common law duties by, in the case of the duty of loyalty, “identify[ing] specific types of activities or categories of activities that do not violate the duty,” and, in the case of the duty of care and good faith obligation, “determin[ing] the standards by which the performance of the obligation is to be measured,” provided those types, categories, or standards “are not manifestly unreasonable.” TBOC § 152.002(b)(2)–(4). In Delaware, by contrast, the duties of loyalty and care and other fiduciary obligations may be eliminated by contract, “provided that the partnership agreement may not eliminate the implied contractual covenant of good faith and fair dealing.” 6 Del. Code § 17-1101(d). Thus, while partners may agree to limit their fiduciary obligations to one another, at least to some extent, in both jurisdictions, the Texas statute restricts the scope of contractual waivers of fiduciary duties to a greater extent than the analogous Delaware statute.
How much will Texas and Delaware law diverge on these issues in practice? That remains to be seen. As the Texas Business Court continues to develop its own body of case law on this issue, it will need to grapple with the concrete “types” and “categories” of activities for loyalty and “standards” for care and good faith set out in partnership agreements and determine how narrowly these concepts can be defined before they become “manifestly unreasonable.”
This post is as of the posting date stated above. Sidley Austin LLP assumes no duty to update this post or post about any subsequent developments having a bearing on this post.
