Hess Energy Inc v. Lightning Oil Co ( 2003 )

PUBLISHED
UNITED STATES COURT OF APPEALS
FOR THE FOURTH CIRCUIT
4444444444444444444444444444444444444444444444447
HESS ENERGY, INCORPORATED,
Plaintiff-Appellee,
v. No. 02-2129
LIGHTNING OIL COMPANY, LIMITED,
Defendant-Appellant.
4444444444444444444444444444444444444444444444448
Appeal from the United States District Court
for the Eastern District of Virginia, at Alexandria.
James C. Cacheris, Senior District Judge.
(CA-00-1347-A)
Argued: May 6, 2003
Decided: July 31, 2003
Before WILKINSON, NIEMEYER, and TRAXLER, Circuit Judges.
____________________________________________________________
Affirmed by published opinion. Judge Niemeyer wrote the opinion,
in which Judge Wilkinson and Judge Traxler joined.
____________________________________________________________
COUNSEL
ARGUED: Joseph E. Altomare, Titusville, Pennsylvania, for Appel-
lant. Daniel M. Joseph, AKIN, GUMP, STRAUSS, HAUER &
FELD, L.L.P., Washington, D.C., for Appellee. ON BRIEF: Anthony
T. Pierce, Michael L. Converse, Kelly M. Skoloda, AKIN, GUMP,
STRAUSS, HAUER & FELD, L.L.P., Washington, D.C., for Appel-
lee.
____________________________________________________________
OPINION
NIEMEYER, Circuit Judge:
After it was determined that Lightning Oil Company, Ltd., antici-
patorily repudiated its contract to sell natural gas to Hess Energy, Inc.,
see Hess Energy, Inc. v. Lightning Oil Co., Ltd., 276 F.3d 646 (4th
Cir. 2002), a jury trial was held to determine Hess' damages under the
Virginia Uniform Commercial Code. After having been instructed by
the district court that the measure of damages is "usually the differ-
ence between the contract price and the market price, at the time and
place of delivery," the jury returned a verdict in favor of Hess for
$3,052,571.
On appeal, Lightning contends that the jury was improperly
instructed and that damages should have been calculated using the
market price as of the date Hess learned that Lightning would not
perform rather than as of the date of delivery. For the reasons that fol-
low, we affirm the judgment of the district court.
I
Under a Master Natural Gas Purchase Agreement (the "Master
Agreement") dated November 1, 1999, Lightning agreed to sell and
Statoil Energy Services, Inc. agreed to buy natural gas. The Master
Agreement set forth the general terms of the parties' contractual rela-
tionship, and subject to these terms, the parties entered into a series
of specific natural gas purchase agreements, called "confirmations."
The confirmations detailed the purchase period, purchase price, pur-
chase volume, delivery point, and other relevant terms. Between
November 16, 1999, and March 7, 2000, Lightning and Statoil
entered into seven different confirmations under which Lightning
agreed to sell fixed quantities of natural gas to Statoil on specified
future dates at fixed prices.
In February 2000, Amerada Hess Corporation purchased the stock
of Statoil and changed Statoil's name to Hess Energy, Inc. ("Hess").
After the change in name, Hess continued to purchase natural gas
from Lightning under the confirmations, and Lightning continued to
honor its obligations, at least for a period of time.
2
In June 2000, Lightning located a buyer willing to pay Lightning
a better price than Hess had agreed to pay in its confirmations with
Lightning, and Lightning entered into a contract with that buyer to
sell the natural gas promised to Hess. Lightning then notified Hess in
July 2000 that it was terminating the Master Agreement, stating that
Statoil's stock ownership change and name change to Hess pursuant
to the stock purchase agreement was an assignment of Statoil's con-
tractual obligations in material breach of the anti-assignment provi-
sion of the Master Agreement.
Hess commenced this action seeking a declaratory judgment that it
had not breached the Master Agreement and demanding compensa-
tory damages for Lightning's nonperformance. We concluded, in an
earlier appeal, that even if Lightning could prove that there was an
assignment of contractual obligations in the case, any such assign-
ment "could not be a material breach" of the Master Agreement and
the confirmations entered into under that agreement. Hess Energy,
276 F.3d at 651. We remanded the case to the district court "for deter-
mination of Hess Energy's damages under the confirmation con-
tracts." Id.At the trial on damages, Hess' Director of Energy Operations testi-
fied about Hess' method of doing business. He explained to the jury
that Hess' business was to purchase natural gas from entities like
Lightning through agreements such as the confirmation contracts and,
once it did so, to locate commercial customers to which it could sell
the natural gas. Hess' business was not to profit on speculation that
it could resell the purchased natural gas at higher prices based on
favorable market swings, but rather to profit on mark-ups attributable
to its transportation and other services provided to the end user of the
natural gas. Because Hess entered into gas purchase contracts often
at prices fixed well in advance of the execution date, it exposed itself
to the serious risk that the market price of natural gas on the agreed-
to purchase date would have fallen, leaving it in the position of hav-
ing to pay a higher price for the natural gas than it could sell the gas
for, even after its service-related mark-up. To hedge against this mar-
ket risk, at each time it agreed to purchase natural gas from a supplier
at a fixed price for delivery on a specific date, it also entered into a
NYMEX futures contract to sell the same quantity of natural gas on
the same date for the same fixed price. According to ordinary com-
3
modities trading practice, on the settlement date of the futures con-
tract, Hess would not actually sell the natural gas to the other party
to the futures contract but rather would simply pay any loss or receive
any gain on the contract in a cash settlement. In making this arrange-
ment, Hess made itself indifferent to fluctuations in the price of natu-
ral gas because settlement of the futures contract offset any favorable
or unfavorable swings in the market price of natural gas on the date
of delivery, allowing Hess to eliminate market risk and rest its profit-
ability solely on its transportation and delivery services. Indeed, the
sole purpose of advance purchase of natural gas in the first instance
was to lock in access to a supply of natural gas, which it could then
promise to deliver to its customers.
Focusing on the particular transactions in this case, Hess' Director
of Energy Operations testified that when Lightning anticipatorily
repudiated its agreements to supply natural gas to Hess at specified
prices, Hess was left with "naked" futures contracts. By repudiating
the Master Agreement and related confirmations, Lightning extin-
guished the supply contract against which the NYMEX futures con-
tract provided a hedge, exposing Hess to the one-sided risk of having
a futures sales contract that did not offset any corresponding supply
contract to purchase natural gas for delivery at a future date. Thus,
when the price of natural gas rose after Hess entered into both the
confirmations with Lightning and the offsetting futures contracts,
Hess was exposed, after Lightning's repudiation, to loss on the futures
contracts (because it would have to sell gas at a below-market price)
without the benefit of its bargain with Lightning, i.e., the ability to
purchase the same quantity of natural gas at the below-market price.
Facing losses on the open futures contracts, Hess bought itself out of
some of the futures contracts with closer settlement dates, fearing that
the market for natural gas would continue to go up with the effect of
increasing its losses on those contracts. As a result of having to buy
itself out of these futures contracts, Hess suffered out-of-pocket dam-
ages.
Hess' expert witness, Dr. Paul Carpenter, who was a specialist in
the valuation of natural gas, offered two methods for computing Hess'
damages: (1) the "lost opportunity method," which "simply com-
pare[d] the cost of gas that Hess would have paid to Lightning had
Lightning performed under the contract with the market value of the
4
gas at the time that that gas would have been delivered to Hess,"
where the difference between the values would be the measure of
damages, and (2) the "out-of-pocket costs" method, which measured
"the impact on Hess directly of the fact that Lightning failed to
deliver under the contract." Dr. Carpenter testified that these two
methods were really "driving at the same thing" and that he employed
both methods to give "more comfort as to what . . . the range" of dam-
ages was. The principal difference between the two methods was that
the out-of-pocket method accounted for the damages Hess suffered by
buying out its futures contracts, while the lost opportunity method
assumed that Hess did nothing to alter the hedges.
In calculating the contract-market differential under the lost oppor-
tunity method, Dr. Carpenter determined that the market value of the
contracts, calculated using the actual price at which natural gas traded
on the relevant dates of delivery on the NYMEX, was $8,106,332. He
stated that the NYMEX price was the best indicator of market price
because (1) "the parties themselves referred to the NYMEX exchange
when they established the contract themselves, so the parties recog-
nize the NYMEX price as a valid reference price for gas" and (2) "the
NYMEX price is probably the . . . most widely referenced and used
natural gas price in North America . . . [and] represents the best indi-
cator of a commodity price for natural gas." Because the contract
price of the natural gas that Hess had agreed to purchase from Light-
ning under the confirmations was $5,053,761, the resulting damage to
Hess under the "lost opportunity" method was $3,052,571. Dr. Car-
penter calculated damages under the out-of-pocket method as
$3,338,594.
Lightning offered no expert testimony and it did not offer a com-
peting method of calculating the damages. It also did not suggest any
damages figure to the jury. Rather, its position at closing argument
was that Hess should have gone out at the time of Lightning's repudi-
ation and replaced the confirmation contracts by entering into similar
contracts with other suppliers at sub-NYMEX prices. Lightning
argued that Hess "sat idly by during a period of time when they knew
the price [of natural gas] was going up, up, up, up, up, up" and that
Hess "could have in August of 2000 gone out and purchased the same
amount of gas that we . . . were supposed to supply them for that
future period at a much lower price." Lightning also argued that the
5
NYMEX price was not the relevant market price because that price
did not reflect the price at which a "producer" like Lightning would
sell to a "marketer" like Hess.
After closing arguments, the district judge instructed the jury on
the measure of damages as follows:
When a seller fails or refuses to deliver the contracted-for
goods, the measure of damages is usually the difference
between the contract price and the market price, at the time
and place of delivery, with interest, and the buyer for its
own protection has the right under the circumstances to buy
the goods in the open market, and charge the difference in
price to the seller's account. The remedy for a breach of
contract is intended to put the injured party in the same posi-
tion in which it would have been had the contract been per-
formed. In your verdict, you may provide for interest on any
principal sum awarded or any part thereof and fix a period
at which the interest shall commence.
The jury returned a verdict of $3,052,571, with interest beginning on
June 1, 2001. This amount was equal to Dr. Carpenter's calculation
under the lost opportunity method.
From the district court's judgment entered on the jury's verdict,
Lightning filed this appeal.
II
For its principal argument on appeal, Lightning contends that the
district court erred in instructing the jury that the proper measure of
damages under Virginia law was the difference between the contract
price and the market price at the time and place of delivery. Lightning
argues that under the Virginia Uniform Commercial Code § 8.2-713,
"[t]he proper measure of damages in this case is the difference
between the contract price and the market price at the time Hess
learned that Lightning would not perform." (Emphasis added).
In arguing that the district court correctly instructed the jury under
Virginia law, Hess argues that Lightning's interpretation of Virginia
6
Code § 8.2-713 "wrongly equates the term``learned of the breach'
with the time at which the innocent party ``learned of the [wrongdo-
er's] repudiation'" and "renders meaningless other sections of the
[Uniform Commercial Code] including Va. Code § 8.2-723."
"[E]quating a contract's breach with its mere repudiation" is "bad pol-
icy," Hess argues, because it "would require the innocent party to
cover immediately . . . or risk being uncompensated for losses caused
by increased prices in the period following the repudiation."
It is undisputed in this case that the Master Agreement and the con-
firmations entered into under it were subject to the provisions of Vir-
ginia's Uniform Commercial Code, Va. Code § 8.1-101 et seq. The
core dispute between the parties concerns when the market price of
the undelivered natural gas should be measured for purposes of calcu-
lating damages and to what degree Hess' damages may be limited by
an asserted duty to cover. While this case presents an archetypal
anticipatory repudiation, see 1 James J. White & Robert S. Summers,
Uniform Commercial Code § 6-2, at 286 (4th ed. 1995) (noting that
the "clearest case" giving rise to an anticipatory repudiation is "when
one party — declaring the contract invalid or at an end — accuses the
other of materially breaching the contract, and states that he no longer
will do any business with the other party"), measuring a buyer's dam-
ages in such circumstances "presents one of the most impenetrable
interpretive problems in the entire [Uniform Commercial] Code." Id.
§ 6-7, at 337.
We begin the analysis by pointing out that the overarching princi-
ple given by the district court's instruction to the jury — "the remedy
for breach of contract is intended to put the injured party in the same
position in which it would have been had the contract been per-
formed" — conforms to the governing principle for damages under
the Virginia Uniform Commercial Code. See Va. Code § 8.1-106
(stating that the Code's remedies "shall be liberally administered to
the end that the aggrieved party may be put in as good a position as
if the other party had fully performed").
Under the specific provisions for damages, the Virginia Uniform
Commercial Code provides that when a seller repudiates a contract,
the buyer is given several alternatives, none of which operates to
penalize the buyer as a victim of the seller's repudiation. See Va.
7
Code § 8.2-610. One option provided by § 8.2-610 is for the buyer to
"resort to any remedy for breach (§ 8.2-703 or 8.2-711), even though
[the buyer] has notified the repudiating [seller] that he would await
the latter's performance and has urged retraction." Id. § 8.2-610(b).
Section 8.2-711, in turn, allows a buyer either to"``cover' and have
damages under the next section [§ 8.2-712] as to all the goods
affected" or to "recover damages for nondelivery as provided in this
title (§ 8.2 713)." In this case, Hess chose not to cover, opting instead
to recover damages for nondelivery under § 8.2-713.
Section 8.2-713 provides:
[T]he measure of damages for nondelivery or repudiation by
the seller is the difference between the market price at the
time when the buyer learned of the breach and the contract
price together with any incidental and consequential dam-
ages provided in this title (§ 8.2-715), but less expenses
saved in consequence of the seller's breach.
Va. Code § 8.2-713(1) (emphasis added). Lightning would have us
equate "the time when the buyer learned of the breach" with the time
when the buyer learned of the repudiation and require calculating
damages using the market price of the contracted-for natural gas at
the time Hess learned that Lightning would not perform. Hess con-
tends, on the other hand, that the time when it learned of the breach
for purposes of § 8.2-713 did not occur "until each time [Lightning]
failed to deliver natural gas as promised in its contract," rather than
at the time Lightning communicated its intent not to perform.
These diverse positions reduce to the core question of whether
"breach" as used in "when the buyer learned of the breach" means "re-
pudiation," or whether "breach" refers to the date of actual perfor-
mance when it could be determined that a breach occurred — in this
case, the date of delivery.
While § 8.2-713 might be susceptible to multiple interpretations,
see White & Summers, supra, § 6-7, at 337 (articulating at least three
possibilities), we conclude that the drafters of the Uniform Commer-
cial Code made a deliberate distinction between the terms "repudia-
tion" and "breach," and to blur these two words by equating them
8
would render several related provisions of the Uniform Commercial
Code meaningless. This is best illustrated by reference to § 8.2-610.
In that provision, an aggrieved buyer can wait "a commercially rea-
sonable time" after learning of the seller's repudiation to allow the
seller to change its mind and perform. Va. Code § 8.2-610(a). If
Lightning's interpretation of § 8.2-713 were the correct one — that
the damages should be calculated based on the market price on the
date of repudiation — then the buyer would be deprived of his right
under § 8.2-610 to await a reasonable time for seller's possible post-
repudiation performance. See White & Summers, supra, § 6-7, at 339
("[I]f the buyer's damages are to be measured at the time the buyer
learned of the repudiation, then it cannot do what 2-610(a) seems to
give it the right to do, namely await performance for a ``commercially
reasonable time' — at least not without risking loss as a result of
postrepudiation market shifts").
In another example, if the date of the seller's repudiation is equated
with the time when the buyer learns of the seller's breach as used in
§ 8.2-713, then § 8.2-723(1) would become meaningless. Section 8.2-
723(1) provides:
If an action based on anticipatory repudiation comes to trial
before the time for performance with respect to some or all
of the goods, any damages based on market price (§ 8.2-708
or § 8.2-713) shall be determined according to the price of
such goods prevailing at the time when the aggrieved party
learned of the repudiation.
This section moves the date that the seller learned of the breach under
§ 8.2-713 to the date that the seller learned of the repudiation in cir-
cumstances where the case has come to trial before the performance
date. To give meaning to § 8.2-723(1), when the case does not come
to trial before the performance date, as here, damages are not mea-
sured when the aggrieved party learned of the repudiation. See White
& Summers, supra, § 6-7, at 341 (commenting that a reading that
equates the date of breach with the date of repudiation "makes the
portion of 2-723(1) which refers to 2-713 superfluous" and conclud-
ing that the drafters "must have thought ``learned of the repudiation'
had a different meaning than ``learned of the breach'").
9
Thus, we conclude that the better reading of § 8.2-713 is that an
aggrieved buyer's damages against a repudiating seller are based on
the market price on the date of performance — i.e., the date of deliv-
ery. This reading also harmonizes the remedies available to aggrieved
buyers and aggrieved sellers when faced with a repudiating counter-
part. Faced with a repudiating buyer, an aggrieved seller is entitled to
"recover damages for nonacceptance" under § 8.2-708. Va. Code
§ 8.2-703; id. § 8.2-610 (directing aggrieved seller to § 8.2-703).
Under § 8.2-708, "the measure of damages for nonacceptance or repu-
diation by the buyer is the difference between the market price at the
time and place for tender and the unpaid contract price together with
any incidental damages." Id. § 8.2-708 (emphasis added). There is
nothing in the Uniform Commercial Code to suggest that the remedies
available to aggrieved buyers and sellers in the anticipatory repudia-
tion context were meant to be asymmetrical. Indeed, the lead-in
clause to § 8.2-610, relating to anticipatory repudiation, addresses
both parties: "When either party repudiates the contract with respect
to a performance not yet due . . . ."
Because our interpretation of § 8.2-713 avoids rendering other sec-
tions of the Uniform Commercial Code meaningless or superfluous
and harmonizes the remedies available to buyers and sellers, we are
persuaded that in this case "the time when the buyer learned of the
breach" was the scheduled date of performance on the contract, i.e.,
the agreed-upon date for the delivery of the natural gas, not the date
that the seller informed the buyer that it was repudiating the contract.
This reading is also consistent with Virginia's pre-UCC general
common law rule that "the measure of damages is the difference
between the contract price and the market price at the time and place
of delivery." See Nottingham Coal & Ice Co. v. Preas, 47 S.E. 823,
824 (Va. 1904). The Virginia Comment to § 8.2-713 provides that
"[t]he prior Virginia cases are in accord with subsection 8.2-713(1)."
Va. Code § 8.2-713 Va. cmt. (citing Virginia cases). Although none
of the Virginia cases cited in the Virginia Comment addressed specifi-
cally the measure of a buyer's damages on a claim against a repudiat-
ing seller, White and Summers note that "[p]re-Code common law,
the Restatement (First) of Contracts, and the Uniform Sales Act all
permitted the buyer in an anticipatory repudiation case to recover the
contract-market differential at the date for performance." White &
10
Summers, supra, § 6-7, at 341. We agree that if the drafters of the
Uniform Commercial Code had meant to "upset such uniform and
firmly entrenched doctrine," the Code would contain explicit statutory
language making such a departure clear. Id.
In reaching this conclusion, we point out that Lightning's view
would unacceptably shift the risks undertaken by the parties in their
contract. Under Lightning's view, an aggrieved buyer facing a repudi-
ating seller has two choices: (1) to cover within a commercially rea-
sonable time and receive damages based on the cover price or (2) to
forgo the opportunity to cover and simply await the date of perfor-
mance. Lightning contends that if the buyer opts for the second option
and the market price then falls, the buyer's savings must be shared
with the seller. "[B]ut if it rises, the aggrieved party cannot recover
the higher amount that resulted from his voluntarily undertaking of
that risk." This policy argument would penalize an aggrieved buyer
for inaction and therefore cannot be valid, particularly when the repu-
diating seller is in a position to fix his damages on the contract by
entering into hedge transactions on the date of his repudiation. As one
well-respected commentary explains:
When the seller of goods has promised delivery at a future
time and prior thereto repudiates his contract, the buyer is
not required to go into the market at once and make another
contract for future delivery merely because there is reason
to expect a rise in the market price. If his forecast is incor-
rect and the price falls, his second contract on a high market
increases the loss. If his forecast is correct and the price
rises, his second contract avoids a loss and operates as a sav-
ing to the repudiator. But the risk of this rise or fall is
exactly the risk that the repudiating seller contracted to
carry. If at the time of repudiation he thinks that the price
will rise, so that his performance will become more costly,
he can make his own second contract transferring the risk to
a third party and thus hedge against his first risky contract.
11 Arthur Linton Corbin, Corbin on Contracts § 1053, at 273 (Interim
ed. 2002). Thus, if Lightning wished to avoid the risk that it under-
took in entering into the contract and fix its damages on the date of
repudiation, it could have done so by entering into hedge transactions
11
in the futures market. But its repudiation of the contract cannot shift
to Hess the very market risk that Hess had sought to avoid by entering
into contracts for the future delivery of gas in the first place.
At bottom, we conclude that the district court complied with Vir-
ginia Code § 8.2-713 when it instructed the jury in this case that it
could calculate damages using the market price on the date of perfor-
mance, in this case the date of delivery of the natural gas.
III
The remaining issues that Lightning raises do not merit extensive
discussion. First, Lightning argues that the NYMEX price upon which
damages were calculated does not supply the "price for goods . . . in
the same branch of trade," the legal standard that the parties agree is
required by Virginia Code § 8.2-713. See Va. Code § 8.2-713 official
cmt. 2. Lightning's argument, however, fails to account for the fact
that its own witnesses testified that they used the NYMEX price as
a reference and that they would not enter into any contract on any
given day to sell natural gas below the applicable NYMEX price. The
testimony from all of the witnesses, including the expert witness, was
that the NYMEX price represents the applicable price for natural gas
that Hess would expect to pay in purchasing undelivered natural gas
on the scheduled date of delivery. Lightning has already had the
opportunity to present evidence that the NYMEX price was not the
proper market price, and it used this opportunity to tender only wit-
nesses who undermined this position. Thus, the jury's apparent find-
ing that the NYMEX price supplies the proper market price was fully
supported by the evidence.
Lightning's final arguments — that the jury award improperly
included consequential damages (which are prohibited in the Master
Agreement) in the form of lost profits and that Hess failed to mitigate
these consequential damages — are premised upon a mischaracteriza-
tion of the damages awarded in this case. Section 8.2-713 makes the
distinction between direct damages and consequential damages. It
states that an aggrieved buyer's damages for repudiation by the seller
are the market-contract differential "together with any incidental and
consequential damages." Va. Code § 8.2-713 (emphasis added). This
language reflects that a buyer's damages from having to purchase
12
goods in the market upon the seller's refusal to deliver are plainly
direct rather than consequential damages. See Pulte Home Corp. v.
Parex, Inc., 579 S.E.2d 188, 193 (Va. 2003) (noting that direct dam-
ages "flow directly and immediately" from the act of the breaching
party, whereas consequential damages are present where "a detour is
required to get from [defendant's] breach . . . to [plaintiff's] dam-
ages"). Because consequential damages are prohibited by the Master
Agreement, Hess properly limited its evidence to proving its direct
damages — the difference between the price it contractually agreed
to pay Lightning for the natural gas and the market price of the unde-
livered natural gas on the date of delivery, and the jury apparently
adopted Dr. Carpenter's calculation of this amount.
For this reason, Lightning's additional arguments challenging the
jury verdict and certain of the district court's evidentiary rulings
based on Lightning's misconstruction of the distinction between
direct and consequential damages are likewise without merit, and
therefore we reject them also.
Accordingly, we affirm the judgment of the district court.
AFFIRMED
13