Varel v. Banc One Capital Partners, Inc. ( 1995 )

IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT
No. 94-10726
DANIEL W. VAREL,
Plaintiff-Appellant,
versus
BANC ONE CAPITAL PARTNERS,
INC., Formerly known as MVenture Corp., ET AL.,
Defendants-Appellees.
Appeal from the United States District Court
for the Northern District of Texas
(June 12, 1995)
Before REYNALDO G. GARZA, HIGGINBOTHAM, and PARKER, Circuit Judges.
HIGGINBOTHAM, Circuit Judge:
The founder of a drilling bits company claims a bank sold
equity securities of his company without respecting his contractual
right of first refusal. Finding that his company failed to perform
a condition precedent to his right of first refusal, the district
court awarded defendants summary judgment. We reverse and remand.
I.
In 1986, Varel Manufacturing Company was in default on certain
loan agreements. To restructure its debt, Varel Manufacturing and
its lenders -- MBank Dallas and the FDIC -- agreed to an "Amended,
Restated and Consolidated Term Loan Agreement" on September 30,
1986. The 1986 agreement reduced Varel Manufacturing's debt by $5
million in exchange for certain debt and equity securities that
Varel Manufacturing issued. The agreement also gave Varel
Manufacturing a right of first refusal, which is at the center of
this lawsuit.
Banc One, Texas, N.A., acquired the equity securities held by
one of the two lenders, MBank, through a series of unchallenged
transactions. In the autumn of 1992, S.N. Phelps & Co. offered to
purchase the equity securities held by Banc One. Banc One notified
the other lender, the FDIC, of the offer. The FDIC declined to
purchase the securities and Banc One then sold them to Phelps in
November 1992. Phelps later sold them to Commonwealth Oil Refining
Company, Inc.
Varel Manufacturing's principal shareholder and founder,
Daniel W. Varel, sued in Texas state court, alleging that Banc
One's sale of the equity securities to Phelps without first
inviting Varel to purchase them at Phelps' offered price, breached
his contractual right of first refusal under the loan agreement.
He sought the right to buy back the equity securities formerly held
by Banc One at the price Phelps paid for them. The FDIC removed to
federal court.
The district court granted defendants' motions for summary
judgment. It held that Varel Manufacturing was in default on the
loan agreement because it dissolved V.A.C.O., a Varel subsidiary
and one of the guarantors of the loan, without the permission of
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the lenders, as required under the loan agreement, and that Varel's
right of first refusal was conditioned on its not being in default.
The district court did not reach defendants' alternative argument
that Varel's right of first refusal was triggered only by an offer
to purchase the securities held by both entities and not by an
offer to purchase all securities held by one.
We are not persuaded that the condition is enforceable on
these facts or that the summary judgment can be sustained on the
alternative grounds. We vacate the summary judgment, and remand.
II.
Under the contract, Varel was entitled to exercise his right
of first refusal only "if no Default or Event of Default has
occurred and is continuing under this Agreement." Varel does not
dispute that dissolving V.A.C.O. without written notice to the
lenders and their written consent was an event of default.
Varel argues that his non-performance of this condition
precedent should be excused. Texas courts disfavor forfeitures.
See, e.g., Huff v. Speer, 554 S.W.2d 259, 261 (Tex. Civ. App.--
Houston [1st Dist.] 1977, writ ref'd n.r.e.). Texas courts excuse
non-performance of a condition precedent if the condition's
requirement "'(a) will involve extreme forfeiture or penalty, and
(b) its existence or occurrence forms no essential part of the
exchange for the promisor's performance.'" Lesikar Constr. Co. v.
Acoustex, Inc., 509 S.W.2d 877, 881 (Tex. Civ. App.--Fort Worth
1974, writ ref'd n.r.e.) (quoting Restatement (First) of Contracts
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§ 302); see also Restatement (Second) of Contracts § 229 (replacing
First Restatement's § 302) cmt. b (1981) ("In determining whether
the forfeiture is 'disproportionate,' a court must weigh the extent
of the forfeiture by the obligee against the importance to the
obligor of the risk from which he sought to be protected and the
degree to which that protection will be lost if the non-occurrence
of the condition is excused to the extent required to prevent
forfeiture."). Texas courts construing this test have focused on
its second part, examining whether performing the condition
precedent was the object of the contract or merely incidental to
it, and whether not performing it caused any loss. See Huff, 554
S.W.2d at 261 (plaintiffs' failure to comply with condition
precedent by tendering pledged stock to the court registry instead
of to the debtor excused under Restatement § 302, where non-
compliance caused defendants no loss); Sammons Enterprises, Inc. v.
Manley, 540 S.W.2d 751, 756 (Tex. Civ. App.--Texarkana 1976, writ
ref'd n.r.e.) (non-occurrence of appraisal mechanism, a condition
precedent under the contract, excused where the appraisal "was not
the object of the contract, but [was] only incidental to arriving
at the fair market value of the 'put' price."). We follow the
Texas courts' lead here.
If the default is unexcused, the penalty facing Varel is
extreme when measured against the purpose of the default provision.
Varel, the eighty-two-year-old founder of Varel Manufacturing, has
always wished to keep control of the company within the family. He
argues that without his right of first refusal -- that is, without
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his right to pay Phelps' price for the equity securities Banc One
once held -- regaining control over his company is placed beyond
his financial grasp.
It is true that Varel's potential forfeiture is not unlimited.
He does not risk forfeiting any of his rights in the remainder of
the contract. On the other hand, his failure to obtain consent to
the dissolution cannot on these facts bear the freight of
forfeiture.
The continued existence of V.A.C.O. was not an essential part
of the performance the lenders bargained for. V.A.C.O. was
practically useless as a guarantor of the loan agreement. Varel
created this shell corporation to take advantage of certain tax
benefits which evaporated with a change in the tax law in 1985. We
are told that had V.A.C.O. not been dissolved, it would have cost
the company approximately $1.6 million. V.A.C.O. had less than
$3,000 in cash and some outstanding loans made by V.A.C.O. to
Varel. The other three guarantors of the loan had assets. On
these facts, consent to the dissolution could not have been
properly withheld. The lenders paid no attention to the
dissolution of V.A.C.O. until years later, when their lawyers were
searching for a defense to Varel's lawsuit.
In sum, Varel's dissolution of V.A.C.O. without written notice
to the lenders and without their written consent was at best a
technical default under the loan agreement and was legally
excusable. We do not reach the claims of procedural error urged by
Varel, but do now reach defendants' alternative argument.
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III.
Defendants argue that under Section 5.06 of the Loan
Agreement, Varel's right of first refusal is not triggered unless
both lenders wish to accept offers to sell their equity securities.
Defendants urge us to affirm the district court's summary judgment
order on this ground, but we conclude that the answer depends on
undetermined questions of fact.
The text of Section 5.06 is hopelessly ambiguous. We reprint
it here in full, adding explanatory notes and indentation for
clarity. We emphasize the contested words:
[I. VAREL'S RIGHT OF FIRST REFUSAL]
[1] In the event that MVenture or FDIC receives an
offer from a third party to purchase all of the Equity
Securities then held by them, which MVenture and FDIC
desire to accept, if no Default or Event of Default has
occurred and is continuing under this Agreement, MVenture
and FDIC shall first give written notice of such offer to
Daniel W. Varel, and Daniel W. Varel will have sixty (60)
days from the date such notice is sent by such holders in
which to purchase the the [sic] Equity Securities to
which such offer relates, for a price equal to the price
contained in such offer, and upon such other terms and
conditions contained in such offer.
[2] In the event Daniel W. Varel does not purchase
the Equity Securities within sixty (60) days from the
date of such notice, the holders thereof may sell the
Equity Securities to the third party for the same
consideration and upon same terms and conditions, as are
contained in its offer, and the Right of First Refusal
provided in this Section 5.06 to David [sic] W. Varel
shall expire upon such sale.
[3] The Right of First Refusal provided in this
Section 5.06 shall not apply or extend to the sale of the
Equity Securities, or any portion thereof, to either
Lender or any affiliate or subsidiary of either Lender.
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[II. LENDERS' RIGHT OF FIRST REFUSAL]
[4] In the event that MVenture or FDIC receives an
offer from a third party (other than Daniel W. Varel) to
purchase all of the Equity Securities held by such
holder, which such holder (the "Offeror") desires to
accept, the Offeror shall first give written notice to
the other holder of the Equity Securities (the "Offeree")
of the Offeror's desire to to [sic] sell the Equity
Securities then held by the Offeror to the Offeree for
the same consideration, and upon the same terms and
conditions, as are contained in such offer.
[5] The Offeree shall have seventy-five (75) days
from the day such notice is received by the Offeree in
which to purchase the Equity Securities then held by the
Offeror (so long as Daniel W. Varel does not timely
exercise any right of first refusal he may have with
respect to all of the Equity Securities) for the same
consideration, and upon the same terms and conditions, as
are contained in Offeror's notice.
Both parties make plausible arguments resting on the language
of Section 5.06. Varel's view -- that his right of first refusal
is triggered by a single offer to a single lender that the lender
wishes to accept -- finds support in the opening words of Section
5.06's first sentence, which state that the section applies "[i]n
the event that MVenture or FDIC receives an offer."
However, a third of the way into the first sentence, the text
swaps the use of the singular for plurals and trades disjunctives
for conjunctives, apparently contemplating that Varel's right of
first refusal is not triggered until both lenders have received
offers. It states that Varel's right of first refusal is triggered
when a third party offers "to purchase all of the Equity Securities
then held by them, which MVenture and FDIC desire to accept."
"MVenture and FDIC" shall then notify Varel of the offer and may
accept the offer if, after 60 days after notification "by such
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holders," Varel has not exercised his right of first refusal.
Section 5.06's second sentence similarly states that the "holders"
could sell to a third party if Varel does not exercise his right.
Varel tries to harmonize this middle third of the first
sentence with the first third of the sentence. He argues that the
plural pronoun "them" means the singular pronoun "it," and that the
drafter simply committed the common grammatical gaffe of referring
to a singular corporation with a plural pronoun.
Varel also attempts to reconcile the second third of the
sentence's use of the words "and" with the first third of the
sentence's use of the word "or" by insisting that the drafter
understood "and" and "or" to be interchangeable. Varel cites Texas
cases holding that the word "and" can mean "either or both." See
Aerospatiale Helicopter Corp. v. Universal Health Servs., Inc., 778
S.W.2d 492, 502 (Tex. App. -- Dallas 1989, writ denied), cert.
denied, 498 U.S. 854 (1990); Neighborhood Comm. on Lead Pollution
v. Board of Adjustment, 728 S.W.2d 64, 68 (Tex. App. -- Dallas
1987, writ ref'd n.r.e.).
Defendants concede that under Texas law, "and" can mean "or,"
but argue that in this case it does not. Defendants argue that the
drafter understood the difference between the disjunctive and the
conjunctive. The drafter properly uses the disjunctive in Section
5.06's description of each lender's right of first refusal. In the
fourth sentence of Section 5.06, the drafter provides that "[i]n
the event that MVenture or FDIC receives" an offer, that lender
must extend that offer to its co-lender. The drafter knew how to
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use the disjunctive, defendants argue, and the fact that the
drafter used the conjunctive in describing Varel's right of first
refusal indicates that the drafter intended Varel's right to be
triggered only when both lenders, not just a single lender, desired
to accept an outside offer.
The final third of the first sentence of Section 5.06 changes
tone again, now favoring Varel. The final third states that Varel
has the right to purchase "the Equity Securities to which such
offer relates" at the offered price. If the drafter had
contemplated that Varel's right was triggered only by an offer to
buy all of the equity securities, not just those held by one
lender, the language here would be superfluous.
The final textual tiff is the parenthetical in the final
sentence of Section 5.06. The sentence reads as follows:
The Offeree shall have seventy-five (75) days from the
day such notice is received by the Offeree in which to
purchase the Equity Securities then held by the Offeror
(so long as Daniel W. Varel does not timely exercise any
right of first refusal he may have with respect to all of
the Equity Securities) for the same consideration, and
upon the same terms and conditions, as are contained in
Offeror's notice.
This highlighted parenthetical could plausibly support either
of the parties' interpretations. Varel argues that the word "all"
favors his reading. The word "all" refers only to the equity
securities held by one -- not both -- of the lenders.
Specifically, "all" here refers to the equity securities held by
the lender who has been approached by a third party wishing to buy.
Varel points to this usage in reply to defendants' argument that
the word "all" in the middle third of Section 5.06's first sentence
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refers to the equity securities of both lenders. Since the word
"all" in this parenthetical apparently refers to the equity
securities held by only one of the lenders, Varel has a strong
argument that the word "all" in the first sentence, like the word
"all" in this parenthetical, refers to only the equity securities
held by one, not both, of the lenders.
Defendants challenge the premise of this argument. The
parenthetical, they argue, applies only when both of Section 5.06's
rights of first refusal -- the right of Varel, and the right of the
lenders -- are triggered at once. Both rights of first refusal are
triggered if both lenders wish to sell to a third party at the same
time. When both lenders wish to sell, the parenthetical's word
"all" refers to the equity securities of both lenders, not just
one.
To bolster their textual arguments, both parties cite
surrounding circumstances. See Sun Oil Co. (Delaware) v. Madeley,
626 S.W.2d 726, 731 (Tex. 1981) ("surrounding circumstances" may be
used to interpret an ambiguous contract). Defendants note that the
lenders wanted to guarantee their power to take control of Varel
Manufacturing should it make a monetary default. They sought to
guarantee that right through Loan Agreement provisions ensuring
that in the event of a monetary default, the lenders would control
between them at least 51 percent of the issued and outstanding
voting capital stock of Varel Manufacturing. Defendants argue that
lenders so concerned with the ability to gain control over Varel
Manufacturing would not have "purposefully dismantled what they had
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so painstakingly wrought" by agreeing to Section 5.06 as
interpreted by Varel. If Varel had a right of first refusal when
even one lender sold its equity securities, Varel would have the
power to regain majority control over the stock, forcing the
remaining lender into a minority position. Varel, by contrast,
notes that the lenders' concern for gaining control in the event of
a monetary default was no greater than his own concern for keeping
control of the company within his family.
In short, we find both arguments plausible and the text
ambiguous. "When a provision in a contract is ambiguous . . . we
must take into account the parties' understanding of it." Hoyt R.
Matise Co. v. Zurn, 754 F.2d 560, 564 n.3 (5th Cir. 1985)
(examining parties' testimony regarding their understanding of the
contract to determine the meaning of ambiguous terms, in Texas
diversity case); Sun Oil, 626 S.W.2d at 732 (Texas courts may
consider "parties' interpretation" to inform meaning of ambiguous
contracts).
Varel's depositions of representatives of the FDIC and of
MBank indicate that both the FDIC and MBank intended Varel's right
of first refusal to be triggered when even only one lender desired
to accept an outside offer. An MBank officer who handled the Loan
Agreement stated in deposition that when Section 5.06 was drafted,
she understood it to give Varel a right of first refusal "if either
or -- or both [lenders] collectively . . . were given an offer to
sell the debt or the securities." Similarly, a former FDIC officer
stated in deposition that Varel's right of first refusal was
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intended to be triggered "both . . . where a third party made an
offer for both FDIC and MVenture's equity as well as for either
FDIC or MVenture's equity. . . . It would have been inconsistent
with . . . the FDIC's intent and my view of this section for a
third party to make an offer, for that offer to be accepted by one
of the lenders, and for that lender to sell their equity to the
third party without first providing a right of first refusal
pursuant to this section to Dan Varel." This same officer
understood the word "them" in the first sentence of Section 5.06 to
mean the "FDIC or MVenture."
We leave the veracity and force of this testimony to the
district court. See Hanssen v. Qantas Airways Ltd., 904 F.2d 267
(5th Cir. 1990) (reversing summary judgment because contract was
ambiguous and remanding for consideration at trial of extrinsic
evidence).
IV.
Finally, defendants argue that the D'Oench, Duhme doctrine1
precludes Varel's construction of the contract. We disagree.
Varel, defendants say, argues that Section 5.06 is "a mutual
mistake [that] does not reflect the parties' actual agreement. . .
. [and that] the 'real deal' was a prior, apparently oral,
agreement which Varel suggests was lost in the shuffle during the
drafting process." Defendants assert that Varel is seeking to
enforce an unrecorded side agreement against the FDIC, in violation
1
D'Oench, Duhme & Co. v. FDIC, 315 U.S. 447 (1942).
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of the D'Oench, Duhme doctrine. See Bowen v. FDIC, 915 F.2d 1013,
1015-16 (5th Cir. 1990). We disagree. The meaning of an ambiguous
contract provision is at issue, not the enforceability of a secret
agreement.
In the same vein, defendants argue that Varel's attempt to
introduce parol evidence also violates the D'Oench, Duhme doctrine:
"[c]all it what you may, if it is outside the written records of
the bank (most notably the Loan Agreement itself), and would change
in any way the interpretation of the Loan Agreement," D'Oench,
Duhme bars it. This assertion equates the D'Oench, Duhme doctrine
with the parol evidence rule and "takes the doctrine too far."
FDIC v. Waggoner, 999 F.2d 826, 828 (5th Cir. 1993).
V.
We must disagree with the district court's reasons for
granting summary judgment, and because we cannot affirm on
alternate grounds, we REVERSE the district court's summary judgment
order and REMAND for further proceedings.
REVERSED and REMANDED.
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