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Former Customer Bets On The Wrong Business Deal

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  • Posted on: Aug 25 2017

When disputes arise over the meaning of a contract or a clause within a contract, courts are called upon to interpret the agreement to give it meaning. Courts in textualist jurisdictions will examine the language of the contract as whole – the “four corners rule” – rather than the disputed clause in isolation. And, when the contract is clear, unambiguous and fully integrated (i.e., the parties have integrated their agreement into a single writing), all prior negotiations and agreements with regard to the same subject matter of the contract are excluded from consideration and cannot be used to expand or vary the terms of the contract.

When reviewing a contract in dispute, courts will give the terms used by the parties their plain, ordinary, and generally accepted meaning, unless the agreement shows that the parties used them in a technical or different sense. Extrinsic evidence is inadmissible under these circumstances (i.e., it cannot be used to contradict or change the meaning of clear, unambiguous language). Only after a contract is found to be ambiguous will courts admit parol evidence to ascertain the intentions of the parties. A contract is ambiguous when its meaning is uncertain and doubtful or is reasonably susceptible to more than one interpretation.

This Blog recently wrote about the rules of contract interpretation (here). Today’s post looks at another case, this time coming out of Texas (a textualist jurisdiction), where the meaning of a contract was at the heart of a dispute, even though the parties did not think so. Holmes v. Newman, No. 01-16-00311-CV (Tex. App. – [1 Dist.] July 6, 2017).

Holmes v. Newman

Background

The case involved an investment in a start-up internet company that provides betting tips to gamblers for a fee. The company, SportsPicks.com, was formed by the defendant, Leonard Holmes (“Holmes”), a former broker for TD Ameritrade. Holmes asked Steven Newman (“Newman”), a former customer of his, if Newman wanted to help fund the internet startup company. In April 2013, Holmes invested $50,000 in return for a 50% interest in SportsPicks.com.

The parties memorialized their agreement through a series of emails on April 3 and 4, 2017. The first email set forth the terms of their percentage ownership in the new company, as well as their return of capital: “50k for 50%. We also agreed the first return of capital would go to you [i.e., Newman] up to 50k (your investment) and then be split according to ownership perpetually. Capital will be distributed quarterly, 4 times a year.” The April 4 emails confirmed the terms with a slight variation on the timing of the payment and a discussion about formation of the company as a limited liability corporation.

Over the next the next 10 months, the company struggled to turn a profit. On February 19, 2014, Newman and the other investor in the company, Rob Abbott (“Abbott”), requested an additional capital contribution from Holmes, which Holmes declined to make. Newman and Abbott made additional capital contributions, which Holmes alleged diluted his interest in the company.

SportsPicks.com did not return a profit, and Newman did not receive any capital distributions. Contending that the agreement required that he receive capital distributions regardless of profit, Newman sued Holmes for breach of contract, fraud and breach of fiduciary duty.

Holmes filed a combined traditional and no-evidence motion for summary judgment. The trial court granted Newman’s motion for summary judgment without specifying whether it was granting the no-evidence motion or the traditional motion and dismissed all claims asserted in Holmes’s seventh amended petition. Holmes appealed.

The Court’s Ruling

Regarding the breach of contract claim, the Court had to determine “whether Newman breached his contractual duties to Holmes by not returning his capital.” To do so, the Court had to “decide the meaning” of the term “return of capital” and the word “capital” in the parties’ email agreement.

Neither party claimed that the terms were ambiguous, though each offered “differing interpretations of the provisions.” Noting that under Texas law a court can review the language of the contract to determine whether it is ambiguous “even in the absence of a claim of ambiguity by the parties” (J.M. Davidson, Inc. v. Webster, 128 S.W.3d 223, 231 (Tex. 2003)), the Court found that the parties’ agreement contained ambiguous language.

Reviewing the contract de novo, and giving the language in the contract its ordinary and generally accepted meaning, the Court found that the terms “first return of capital” and “capital,” were susceptible to different meanings. Though not defined by the parties, the terms “first return of capital” and “capital,” referred to a disbursement that returned one’s investment. In this case, the contract required Newman “to return a portion of Holmes’s investment four times per year.”  That finding was underscored by “the requirement that ‘capital will be distributed quarterly’ [which] suggests that something would be distributed four times per year.” (Orig’l emphasis). However, other terms in the agreement “suggest[ed] that the parties’ meant something other than the ordinary and generally accepted meaning of “capital.” For example, noted the Court, language in the agreement suggested that the parties intended the terms to refer “to profits or dividends rather than capital, because capital cannot be split ‘perpetually’ once the amount of a shareholder’s investment has been returned.” The Court further noted:

Similarly, “capital,” if defined as one’s investment, is not generally returned quarterly, but remains invested until the company shows a profit. To return capital quarterly would pull money out of the company before it has had an opportunity to become profitable. Further, the clause does not say how much capital would be returned quarterly, or when such quarterly payments would commence.

Consequently, the Court found that the agreement was ambiguous and susceptible to more than one meaning:

In sum, the court cannot determine from the face of this contract what the parties meant when they agreed that Holmes would be entitled to the “first return of capital,” and that such “capital” would be split according to ownership and distributed quarterly. While the plain language of the term suggests that the parties meant that a portion of Holmes’s investment would be returned quarterly (but does not state how much of the investment would be returned), the manner in which that term “first return of capital” is used suggests that the parties may have meant profits or dividends would be paid quarterly, or may have intended to create a priority for Holmes to receive his investment, i.e. his capital, out of the corporation’s first profits. Indeed, it appears that the parties’ may have used the same word—capital—to mean a shareholder’s investment in one place and profits or dividends in another place.

In light of the ambiguity, the Court reversed the grant of summary judgment on Holmes’s breach of contract claim and remanded for further proceedings.

Was There a Fiduciary Duty?

In addition to the contract claim (and the fraud claim), Holmes alleged that because he had relied on Newton “for financial guidance as his broker at TD Ameritrade and thereafter up to and including his investment in SportsPicks.com,” Newton had breached his fiduciary duty to him. The Court affirmed the grant of summary judgment as to this claim.

In affirming the lower court’s ruling, the Court noted that the fiduciary relationship that once existed at TD Ameritrade had concluded. As such, it did not carry over into other aspects of their relationship which “would give rise to a continuing, informal relationship imposing even broader fiduciary duties than Newman held under the prior relationship”:

There is nothing in the record to show that Holmes’s account with TD Ameritrade was discretionary or that the broker/client relationship between the two gave rise to anything other than a principal/agent duty to execute the trades ordered. Thus, Holmes has not raised a fact question regarding whether Newman owed him any fiduciary duty other than fulfilling the trades authorized by Newman.

Because Newman’s fiduciary duty was satisfied once the trades were made in accordance with Holmes’s instructions, it is not the sort of preexisting relationship of trust and confidence that would give rise to a continuing, informal relationship imposing even broader fiduciary duties than Newman held under the prior relationship.

The Court’s decision can be found here.

Takeaway

Texas, like other textual jurisdictions, adheres to the “four corners” approach to contract interpretation. Thus, when a dispute arises over a term in a contract, Texas courts will consider the entire writing to harmonize and give effect to all provisions of the contract so that none will be rendered meaningless. No single provision, taken alone, will be given controlling effect; rather, all provisions are considered within the context of the entire instrument. In performing this analysis, these courts will give the words in the writing their plain, ordinary, and generally accepted meaning absent some different indication by the parties. Parol evidence may not be admitted to give meaning to a contract unless the writing is ambiguous – i.e., the term in dispute is susceptible to more than one reasonable meaning. Holmes illustrates these principles of contract interpretation.

Holmes is notable, however, because the Court determined sua sponte whether the contract in question was ambiguous. Under Texas law, because the issue of ambiguity is for the court to determine, courts can examine the disputed contract for that purpose even in the absence of a claim of ambiguity by the parties. In fact, an appellate court can do so for the first time on appeal.

Finally, Holmes is noteworthy for its discussion of an informal fiduciary duty. In this regard, the Court observed that, while not every relationship “involving a high degree of trust and confidence rises to the stature of a fiduciary relationship,” an informal fiduciary duty can arise from “a moral, social, domestic or purely personal relationship of trust and confidence.” In a commercial setting, such a duty will be found only where the relationship of trust and confidence exists prior to, and apart from, the agreement that is the basis of the lawsuit.  Holmes learned that his prior broker/client relationship with Newman, though a formal fiduciary relationship, did not give rise to an informal fiduciary duty because that prior relationship (which was based on a non-discretionary account) concluded when Newman left TD Ameritrade.

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