Based on a recent Texas Supreme Court case, holders of executive rights should be aware that their decision to either accept or reject a lease offer will be analyzed in equal measure using the court’s good faith and fair dealing standards.
In Texas Outfitters Limited, LLC v. Nicholson, the Texas Supreme Court upheld a trial court’s finding that an executive right holder violated its duty of “utmost good faith and fair dealing” when it rejected a lease offer to the benefit of the surface interests and the detriment of the mineral interests. In this case, Texas Outfitters Limited, LLC (Texas Outfitters) owned the surface estate and 4.16 percent of the mineral estate, the Carter family owned 45.84 percent of the mineral estate, and the Hindes family owned the remaining 50 percent of the mineral estate. Texas Outfitters also held the executive right to lease the combined 50 percent mineral interest of Texas Outfitters and the Carter family. In 2010 the Hindes family leased their 50 percent mineral interest to El Paso Oil Exploration & Production Company (El Paso Oil). El Paso Oil also made a lease offer for the combined 50 percent mineral interests of Texas Outfitters and the Carter family. While the Carter family wished to lease their interest, Texas Outfitters rejected the offer. When the nearby drilling revealed that the land was not as productive as anticipated, the interest in leasing the Carter family’s mineral interests declined. The Carter family subsequently sued Texas Outfitters for breach of the executive right holder’s duty of utmost good faith and fair dealing.
The trial court found that the use of the surface estate unencumbered by the El Paso Oil lease benefitted Texas Outfitters’ surface estate to the detriment of the Carters’ mineral interest. Further, the trial court noted that Texas Outfitters was aware that the Hindes family had leased their interest to El Paso Oil, which could negatively affect the “pool of potential lessees.” Thus, the trial court held that the executive interest holder breached its duty.
The Texas Supreme Court affirmed this decision, and in so doing further clarified the standards that apply to executive right holders. The court has laid down two “guiding principles” for executive right holders. First, the executive right holder must “acquire for the non-executive every benefit that he exacts for himself.”Second, the executive right holder’s action or inaction cannot be “arbitrary or motivated by self-interest to the non-executive’s detriment.” The court has further determined that the “controlling inquiry” is “whether the executive engaged in acts of self-dealing that unfairly diminished the value of the non-executive interest.”
While the standards for analyzing a breach of the executive right holder’s duty are not new, the court in Texas Outfitters has made it clear that this “controlling inquiry” and these “guiding principles” apply in cases of leasing and in cases of refusing to lease in equal measure.6 Therefore, an executive right holder must consider their duty to the other mineral interest holders whenever they receive a lease offer. If they engage in self-dealing to the detriment of the other interest holders, whether it be by accepting or rejecting a lease offer, they have breached their duty of good faith and fair dealing.