Bpi Energy, Incorpor v. Iec (Montgo ( 2011 )

In the
United States Court of Appeals
For the Seventh Circuit
No. 10-3871
BPI E NERGY H OLDINGS, INC., et al.,
Plaintiffs-Appellants,
v.
IEC (M ONTGOMERY), LLC, et al.,
Defendants-Appellees.
Appeal from the United States District Court
for the Southern District of Illinois.
No. 3:07-cv-00186-DRH-PMF—David R. Herndon, Chief Judge.
A RGUED S EPTEMBER 13, 2011—D ECIDED D ECEMBER 8, 2011
Before P OSNER, SYKES, and H AMILTON, Circuit Judges.
P OSNER, Circuit Judge. The plaintiffs, affiliated corpora-
tions that we’ll refer to jointly as BPI, are producers of
“coal bed methane” gas, a form of natural gas present
in coal seams. (Natural gas is methane. We’ll call coal
bed methane gas simply “the gas”; the trade calls it
CBM.) The defendants comprise a large private coal-
mining company named Drummond Company, Inc., see
www.drummondco.com (visited Dec. 5, 2011) and a
2 No. 10-3871
number of limited liability companies created by and
affiliated with it and unnecessary to discuss separately. For
simplicity’s sake we’ll pretend that all the Drummond
companies are one company and call it Drummond. BPI
has sued Drummond for fraud, basing jurisdiction on
diversity of citizenship. The district court granted sum-
mary judgment in favor of Drummond, precipitating this
appeal. The substantive issues in the appeal are governed
by Illinois law.
Groundwater traps the gas on the surface of the coal.
Being flammable, the gas must for reasons of safety be
extracted from coal before the coal is mined. Pumping out
the water frees the gas, which can then be pumped to
the surface and recompressed for shipping. Gas extrac-
tion firms need access to coal from which to extract the
gas and the coal companies need to have the gas
removed from their mines before mining. Coal-mining
companies can therefore benefit from working with a gas
extraction firm, like BPI, and vice versa. See Nelson
Antosh, “Conoco Enters Alliance to Develop Coal-Bed
Gas,” Houston Chronicle, July 6, 1994,
www.chron.com/CDA/archives/archive.mpl/1994_1212361/
conoco-en ters-allian ce-to-develop-coal-bed-gas.htm l
(visited Dec. 5, 2011); Amoco Production Co. v. Southern
Ute Indian Tribe, 526 U.S. 865, 870-71, 875-76 (1999); North-
ern Cheyenne Tribe v. Norton, 503 F.3d 836, 839 (9th Cir.
2007); Northern Plains Resource Council v. Fidelity Explora-
tion & Development Co., 325 F.3d 1155, 1157-58 (9th
Cir. 2003).
Alliances between coal companies and gas extraction
companies are therefore common, and BPI decided to try
No. 10-3871 3
to form such an alliance. It began by acquiring options
to buy coal-mining rights; its plan was to sell the options
to a coal company in exchange for the right to extract gas
from its partner's coal. It advertised for a partner in Coal
Age. Drummond responded, and after brief negotiations
the parties signed a memorandum of understanding in
which they agreed that BPI would sell its coal options
to Drummond and Drummond would lease to BPI the
right to extract gas from many of its coal holdings, not
limited to those Drummond would obtain by exercising
the coal-mining options that BPI would be transferring
to it.
The memorandum of understanding is brief and
recites that it is merely “intended to form the basis for
negotiation of a final agreement” and that “the parties
acknowledge that [it] does not constitute a binding agree-
ment upon the parties” with an immaterial exception
regarding confidentiality.
The memorandum had a short term, and upon its
expiration was succeeded by a letter of intent that lists
some of BPI’s coal interests and Drummond’s gas extrac-
tion opportunities, states that BPI has no interest in
mining coal and Drummond no interest in producing
gas, avers that the two firms “are desirous of forming
a strategic alliance whereby BPI can assist [Drummond]
in expanding [its] coal interests and [Drummond] can
assist BPI in expanding [BPI’s gas] interests,” and adds
that BPI “can further assist [Drummond] by degassing
the coal and coal mines prior to, during and following
coal mining operations on [Drummond’s] reserves.” The
4 No. 10-3871
letter of intent further states that it “will serve as the basis
for negotiations of final agreements that will specifically
outline the relationship between the parties” and adds that
BPI will exercise its options to acquire more coal-mining
rights and sell those rights to Drummond at cost and that
Drummond will use its influence in pending negotia-
tions to obtain gas extraction rights for BPI and the
latter will have a right of first refusal to any such
rights secured by Drummond. But the terms on which
Drummond will lease those rights to BPI are not
indicated in the letter of intent or elsewhere. Again there
is a disclaimer: “the parties acknowledge that this [letter
of intent] does not constitute a binding agreement upon
the parties” (with again an irrelevant exception). “A
binding commitment with respect to the transactions
contemplated in this [letter of intent] will result only
from execution of definitive agreements. This [letter of
intent] contains the entire understanding of the parties
as of the date hereof, and supersedes all prior oral or
written agreements or understandings.” Finally, the
“parties agree to complete due diligence as quickly as
possible and to work on final agreements that will specifi-
cally define the [parties’] responsibilities and commit-
ments.”
The letter of intent was signed in September 2004. The
following month BPI began transferring coal rights to
Drummond as contemplated by the letter of intent.
Drummond dragged its heels in reciprocating by
leasing gas extraction rights to BPI, and when it did
begin leasing them (after BPI threatened to exercise its
remaining coal options itself rather than transfer them
No. 10-3871 5
to Drummond), it failed to include maps showing where
it was mining coal—and without those maps BPI did not
know where it could begin to extract gas without inter-
fering with Drummond’s mining. Drummond had second
thoughts about some of the gas leases that the parties had
executed, proposing substitute leases with terms less
favorable to BPI.
The relationship between the parties went from bad to
worse. In February 2007 Drummond announced that it
was terminating the letter of intent “in all respects, and
specifically as to the proposed strategic alliance.”
Drummond has a different version of the facts, but
we’ll accept BPI’s (of course without vouching for them)
because even if its version is accurate it does not have
a fraud case. We note, however, that virtually the only
source cited in BPI’s statement of facts is its complaint.
Because a grant of summary judgment is based on
a determination that dispositive facts alleged by the
prevailing party are not or cannot reasonably be
disputed, it can be challenged (other than by showing
that the opponent’s claim or defense is groundless as a
matter of law even if all its factual allegations are con-
ceded) only by showing that some or all of those alleged
facts are disputed, and this requires evidence, and allega-
tions are not evidence. Tibbs v. City of Chicago, 469 F.3d
661, 663 n. 2 (7th Cir. 2006); Nisenbaum v. Milwaukee
County, 333 F.3d 804, 810 (7th Cir. 2003); FDIC v. Deglau,
207 F.3d 153, 172 (3d Cir. 2000); see Fed. R. Civ. P. 56(c), (e),
and Committee Notes to 1963 and 2010 Amendments
to Rule 56. But BPI’s sin was a venial one, because the
6 No. 10-3871
essential facts on which it relied in the argument section
of its brief are supported by citations to exhibits that
contain admissible evidence.
The memorandum of understanding and the letter of
intent, had they singly or jointly formed a legally enforce-
able contract, would in essence have obligated Drum-
mond to swap its gas extraction leases for BPI’s coal-
mining options on mutually favorable terms. If indeed
Drummond failed to do that, BPI could have sued for
breach of contract. It could have charged that Drum-
mond had failed to perform its side of the bargain in
good faith (thus violating the duty of good-faith perfor-
mance that is read into every contract, In re Ocwen Loan
Servicing, LLC Mortgage Servicing Litigation, 491 F.3d 638,
645-46 (7th Cir. 2007) (Illinois law); Original Great American
Chocolate Chip Cookie Co. v. River Valley Cookies, Ltd., 970
F.2d 273, 279-80 (7th Cir. 1992) (same); Restatement (Sec-
ond) of Contracts § 205 (1981)), by dragging its heels, as
by failing to furnish mining maps and seeking to revise
a key term in leases of gas extraction rights to BPI after
having executed them.
But both the memorandum of understanding and the
letter of intent unambiguously disclaim the creation of
enforceable rights. A document can be a contract without
calling itself a contract; many letters of intent create
contractual rights. Quake Construction, Inc. v. American
Airlines, Inc. 565 N.E.2d 990, 993-94 (Ill. 1990); Glass v.
Kemper Corp., 133 F.3d 999, 1002 (7th Cir. 1998) (Illinois
law); E. Allan Farnsworth, “Precontractual Liability and
Preliminary Agreements: Fair Dealing and Failed Negotia-
No. 10-3871 7
tions,” 87 Colum. L. Rev. 217, 253-63 (1987). But when a
document says it isn’t a contract, it isn’t a contract. Each
lease of gas extraction rights by Drummond to BPI was
a contract, but BPI isn’t charging violation of the leases.
Its complaint is that Drummond had promised to make
the terms of the leases favorable to BPI, just as BPI had
promised to sell its coal-mining options to Drummond
at cost, but that not only had Drummond failed to carry
out its promise, the promise was fraudulent—Drummond
had never intended to lease gas rights on terms
favorable to BPI; it was merely stringing BPI along in
the hope of obtaining coal options on the cheap.
Illinois recognizes “promissory fraud,” though, unlike
most other jurisdictions, see Speakers of Sport, Inc. v.
ProServ, Inc., 178 F.3d 862, 866 (7th Cir. 1999), and refer-
ences there, only if it is part of a scheme to defraud. See,
e.g., HPI Health Care Services, Inc. v. Mt. Vernon Hospital,
Inc., 545 N.E.2d 672, 682 (Ill. 1989); Association Benefit
Services, Inc. v. Caremark Rx, Inc., 493 F.3d 841, 853 (7th
Cir. 2007) (Illinois law). The concern is that otherwise
it would be difficult for a judge or jury to distinguish
between a fraudulent promise and a mere breach of
promise, that is, breach of contract. As defined by the
Illinois courts, a “scheme to defraud” requires a pattern of
fraudulent statements, HPI Health Care Services, Inc. v. Mt.
Vernon Hospital, Inc., supra, 545 N.E.2d at 682-83; Speakers of
Sport, Inc. v. ProServ, Inc., supra, 178 F.3d at 866 (Illinois
law), or one particularly egregious fraudulent statement.
Desnick v. American Broadcasting Companies, Inc., 44 F.3d
1345, 1354 (7th Cir. 1995) (Illinois law). BPI is claiming a
scheme to defraud.
8 No. 10-3871
Drummond argues that the claim is barred by the
Statute of Frauds. But the Statute of Frauds is a defense
to a claim for breach of contract, not a defense to a tort,
and fraud is a tort, and promissory fraud is a form of
fraud and so a tort and so not subject to the Statute of
Frauds. At least that is the majority rule. See Consolida-
tion Services, Inc. v. Keybank National Ass’n, 185 F.3d 817,
823 (7th Cir. 1999) (Indiana law); Hugh Symons Group, plc
v. Motorola, Inc., 292 F.3d 466, 470 (5th Cir. 2002) (Texas
law); Texaco, Inc. v. Ponsoldt, 939 F.2d 794, 801-02 (9th
Cir. 1991) (California law); Lehman v. Dow Jones & Co., 783
F.2d 285, 294-96 (2d Cir. 1986) (Friendly, J.) (New York
law); Restatement (Second) of Torts § 530(1) and comment c
(1977); see also Fineman v. Armstrong World Industries, Inc.,
980 F.2d 171, 189 (3d Cir. 1992) (New Jersey law); contra,
MediaNews Group, Inc. v. McCarthey, 494 F.3d 1254, 1265
(10th Cir. 2007) (Utah law); Bruce v. Cole, 854 So. 2d 47, 58-
59 (Ala. 2003); Telecom Int’l America, Ltd. v. AT&T Corp.,
280 F.3d 175, 196 (2d Cir. 2001) (New York law). (The
Second Circuit in Wall v. CSX Transportation, Inc., 471
F.3d 410, 416 (2d Cir. 2006), reconciled Telecom with
Judge Friendly’s decision in Lehman v. Dow Jones & Co,
supra, by distinguishing between a promise in the con-
tract itself and a promise “collateral” to the contract, such
as a promise intended to induce the promisee to sign
a contract.) The position of the Illinois courts is murky,
but, as near as we can fathom it, they have adopted the
majority rule with variant wording. Ceres Illinois, Inc. v.
Illinois Scrap Processing, Inc., 500 N.E.2d 1, 7 (Ill. 1986); see
also Crawley v. Hathaway, 721 N.E.2d 1208, 1212 (Ill. App.
1999); Geva v. Leo Burnett Co., 931 F.2d 1220, 1224 (7th Cir.
1991) (Illinois law).
No. 10-3871 9
In arguing that BPI’s claim of promissory fraud is
barred by the Statute of Frauds, Drummond failed to cite
any of the applicable precedents, or indeed even to ac-
knowledge that promissory fraud is a tort rather than a
breach of contract. Such ostrich tactics are sufficient
grounds for rejecting the argument summarily. Hill v.
Norfolk & Western Ry., 814 F.2d 1192, 1198-99 (7th Cir.
1987); see also Gonzalez-Servin v. Ford Motor Co., No. 11-
1665, 2011 WL 5924441 (7th Cir. Nov. 23, 2011); Gross v.
Town of Cicero, 619 F.3d 697, 703 (7th Cir. 2010); In re
Hendrix, 986 F.2d 195, 200-01 (7th Cir. 1993). But to do so
would not establish the merits of BPI’s claim
that Drummond entered into the memorandum of under-
standing and the letter of intent merely to obtain coal
rights on favorable terms from BPI, since Drummond’s
business is coal mining, and that it had no intention of
reciprocating by leasing gas-extraction rights to BPI on
favorable terms, or perhaps on any terms not distinctly
unfavorable to BPI. For the Statute of Frauds is not
Drummond’s only defense to the claim.
BPI’s principal evidence in support of its claim is the
memorandum of understanding and the letter of intent,
and even if these were contracts for the exchange of the
coal rights for the gas rights on mutually favorable
terms, the fact that a party breaks a contract doesn’t
show that its promise to perform it had been
fraudulent when made—that is, that the party had never
intended to perform it. Desnick v. American Broadcasting
Companies, Inc., supra, 44 F.3d at 1354-55; Perlman v. Zell,
185 F.3d 850, 853 (7th Cir. 1999). Otherwise every victim
of a breach of contract could sue for fraud, trading a
10 No. 10-3871
slightly higher burden of pleading and proof (pleading
with particularity, Fed. R. Civ. P. 9(b), and proof by
clear and convincing evidence rather than by a mere
preponderance, Avery v. State Farm Mutual Auto Ins. Co.,
835 N.E.2d 801, 856 (Ill. 2005); Integrated Genomics, Inc. v.
Gerngross, 636 F.3d 853, 863 (7th Cir. 2011) (Illinois law)),
and a shorter statute of limitations—in Illinois five rather
than ten years, 735 ILCS 5/13-205, -206; Doe A. v. Diocese
of Dallas, 917 N.E.2d 475, 486-87 (Ill. 2009); LeBlang
Motors, Ltd. v. Subaru of America, Inc., 148 F.3d 680, 690-91
(7th Cir. 1998) (Illinois law)—for a shot at punitive as
well as compensatory damages, Slovinski v. Elliot, 927
N.E.2d 1221, 1224-25 (Ill. 2010); Back Doctors Ltd. v. Metro-
politan Property & Casualty Ins. Co., 637 F.3d 827, 831 (7th
Cir. 2011) (Illinois law); Zapata Hermanos Sucesores, S.A.
v. Hearthside Baking Co., 313 F.3d 385, 389-90 (7th Cir.
2002) (same), while avoiding the Statute of Frauds and the
parol evidence rule and any other defenses to suits for
breach of contract but not for fraud.
BPI claims to have another piece of evidence of
Drummond’s perfidy. One of the gas leases that
Drummond issued to BPI specified that BPI would pay a
royalty of 6.25 percent. In his deposition, Garry N.
Drummond, Drummond’s CEO, said he wouldn’t have
approved such a low rate—that it was half the
industry standard rate, and the employee who had speci-
fied the rate had simply made a mistake. But this is not
evidence that the company was scheming from the
outset to obtain favorable coal-mining leases from BPI and
provide nothing in return. There is no evidence that
12.5 percent is not the standard royalty rate for a gas
No. 10-3871 11
extraction lease, or that the Drummond negotiators had
said or done anything during the negotiation of the
memorandum of understanding or the letter of intent to
suggest that it would charge a lower than normal
rate for leasing gas extraction rights to BPI in exchange
for coal-mining rights. Drummond tried to rectify its
mistake about the rate both by claiming that BPI had
violated the terms of an executed gas-extraction lease
because it had failed to arrange for required insurance, and
by invoking arbitration in the hope of being authorized to
renegotiate the lease. This contractual dispute between
the parties has been settled; and neither a breach of
contract nor an invocation of legal remedies in an effort
to wiggle out of a disadvantageous commercial rela-
tionship is fraud.
In a final effort to bolster its charge of fraud, BPI
argues that Drummond had engineered an identical
scheme against another gas extraction company, Layne
Christensen Company, the year before beginning to
negotiate with BPI. Drummond had initially preferred
to contract with Layne rather than BPI (which Drum-
mond correctly surmised to be financially shaky) to
pump gas from its coal. It signed a letter of intent
and preliminary standstill agreement with Layne that
required Layne to pay royalties and fees on gas extracted
from Drummond coal. But it abandoned that venture
before a definitive agreement was signed when it decided
that an alliance with BPI could yield coal options (which
Layne had not offered) in addition to gas royalties. Con-
ceivably Layne incurred reliance costs based on the letter
of intent—it issued a press release that implies that a
12 No. 10-3871
definite deal had been made: Layne Christensen Company,
“Layne Christensen Announces Coalbed Methane Gas
Project in the Illinois Basin with Triple A Minerals, L.L.P.
[a Drummond subsidiary],” Aug. 12, 2003, http://investor.
laynechristensen.com/releasedetail.cfm?ReleaseID=369439
(visited Dec. 5, 2011). But Layne’s subsequent disappoint-
ment does not appear to have led to a lawsuit.
Even if there were proof of fraud, BPI’s case would
collapse for want of justifiable reliance. In the absence of
fraud, promissory estoppel will make an otherwise unen-
forceable promise (unenforceable because not supported
by consideration) enforceable if the promisee relied
upon the promise to his detriment, provided the reliance
was “reasonable.” Quake Construction, Inc. v. American
Airlines, Inc., supra, 565 N.E.2d at 1005; Bethany Pharmacal
Co. v. QVC, Inc., 241 F.3d 854, 861 (7th Cir. 2001) (Illinois
law); Colosi v. Electri-Flex Co., 965 F.2d 500, 504 (7th Cir.
1992) (same); Restatement (Second) of Contracts, supra,
§ 90(1); 1 E. Allan Farnsworth, Farnsworth on Contracts
§ 2.19, p. 176 (3d ed. 2004). “Reasonable” in this context
has the same meaning as due care, so unreasonable
reliance would be equivalent to contributory negligence.
But fraud is an intentional tort, and contributory negli-
gence is not a defense to an intentional tort and therefore
is not a defense to a claim to promissory estoppel that
is based upon a fraudulent promise.
Reliance on a fraudulent representation need only be
“justifiable,” Doe v. Dilling, 888 N.E.2d 24, 35-36 (Ill. 2008);
Restatement (Second) of Torts, supra, § 537(b), by which is
meant “not reckless,” in other words not willfully em-
No. 10-3871 13
bracing a substantial risk. Vigortone AG Products, Inc. v.
PM AG Products, Inc., 316 F.3d 641, 645 (7th Cir. 2002)
(Illinois law); Ojeda v. Goldberg, 599 F.3d 712, 717 (7th
Cir. 2010). So the plaintiff may not “blindly [rely] upon
a misrepresentation the falsity of which would be
patent to him if he had utilized his opportunity to make
a cursory examination or investigation,” Field v. Mans,
516 U.S. 59, 71 (1995), because “if the plaintiff’s own
conduct is ‘willful,’ ‘wanton,’ or ‘reckless,’ it will be set
up against similar conduct on the part of the defendant,
and recognized as a bar to his action.” W. Page Keeton
et al., Prosser & Keeton on Torts § 65, p. 462 (5th ed. 1984).
So why don’t courts say “reckless”? Law would be
clearer if judges said what they meant. Well, sometimes
they do: “The potential victim of a fraud may not ig-
nore a manifest danger. That is recklessness.” AMPAT/
Midwest, Inc. v. Illinois Tool Works Inc., 896 F.2d 1035,
1042 (7th Cir. 1990).
Both the memorandum of understanding and the
letter of intent were expressly nonbinding and envisaged
the negotiation of final agreements defining the parties’
mutual obligations. Without waiting for those agree-
ments to be made, BPI went ahead and transferred ex-
tensive coal rights to Drummond in anticipation of reci-
procal favors. By doing so it jumped the gun. There
had been no agreement on the terms of the gas extrac-
tion leases that Drummond would be granting to BPI. It
is reckless to rely on an agreement expressly stated to
be nonbinding. Such a statement is equivalent to saying
“you rely at your peril.” You know there is a risk and
14 No. 10-3871
decide to gamble. If you lose the gamble, you have
only yourself to blame.
To look at the question from another angle, how can a
firm that wants to retain its freedom to change course
avoid a suit for fraud if a warning not to rely, or (as in this
case) equivalent language, in a preliminary agreement can
be ignored? Cf. Extra Equipamentos e Exportação v. Case
Corp., 541 F.3d 719, 724-25 (7th Cir. 2008).
The flaws in BPI’s case go beyond absence of evidence
of fraud and absence of justifiable reliance. Drummond
presented compelling evidence (not discussed by the
district judge) that BPI’s efforts at gas extraction were a
failure—and indeed BPI went broke within two years
after the parties’ relationship dissolved.
A FFIRMED.
12-8-11