Encore Enterprises, Inc. a Texas Corporation, Encore Borderplex, LLC EMF Grand Mission Investments, LP and Encore MF Sendero, L.P. v. Borderplex Realty Trust, a Maryland Real Estate Investment Trust, and BRT Realty Operating Limited Partnership

COURT OF APPEALS
EIGHTH DISTRICT OF TEXAS
EL PASO, TEXAS
§
ENCORE ENTERPRISES, INC.,
A TEXAS CORPORATION, §
ENCORE BORDERPLEX, LLC, No. 08-17-00134-CV
EMF GRAND MISSION §
INVESTMENTS, LP, AND Appeal from
ENCORE MF SENDERO, L.P., §
County Court at Law No. 6
Appellants, §
of El Paso County, Texas
v. §
(TC # 2016-DCV2446)
BORDERPLEX REALTY TRUST, A §
MARYLAND REAL ESTATE
INVESTMENT TRUST, AND §
BRT REALTY OPERATING LIMITED
PARTNERSHIP, §
Appellees. §
OPINION
In this appeal, we decide if two sophisticated entities under the tenets of Delaware law have
agreed to exclusively arbitrate their disputes. The trial court concluded they did not, and retained
the case for trial in a Texas courtroom. We affirm.
BACKGROUND
Encore Enterprises, Inc. (and its related entities Encore Borderplex, LLC, EMF Grand
Mission Investments, LP, and Encore MF Sendero, LP)(all collectively “Encore”) held five
properties that were in various stages of development as multi-family apartments. Borderplex
Realty Trust (and its related entity BRT Realty Operating Limited Partnership)(collectively
“Borderplex”) supposedly had access to available capital. This lawsuit arises from an agreement
between Encore and Borderplex. Under the agreement, Encore for the most part would sell or
contribute its properties to a new entity that Borderplex, for the most part, would fund. The new
entity would then issue to both Encore and Borderplex ownership shares reflective of their
respective contributions. Designated members of both Encore and Borderplex would then manage
the new entity.
The parties’ agreement is memorialized in a December 17, 2015 “Contribution
Agreement.” Under the agreement, on or before the date of an “initial closing,” the new entity
would be formed, and both parties would execute a separate “Operating Agreement,” that as its
name suggests, defined the logistics of developing and managing the properties. An unsigned draft
of the Operating Agreement was attached to the Contribution Agreement. The parties were
obligated to execute the Operating Agreement “in substantially the form” as it was attached to the
Contribution Agreement.
The Contribution Agreement contemplated that there could be several closings, as each of
the five Encore properties were either sold or contributed to the new entity. As it turns out,
however, the initial closing never took place. After Encore placed Borderplex on notice that it is
was in default under the Contribution Agreement for failing to make the initial closing, Borderplex
filed this declaratory judgment lawsuit. The lawsuit principally alleges that the first closing was
prevented by third parties, or conditions precedent that were never met, and that Borderplex did
not breach the Contribution Agreement. In particular, Borderplex claims that one of its investors
2
failed to provide funding under a separate subscription agreement.1 The suit seeks a declaration
that Borderplex was under no obligation to close, that Encore was not entitled to recover damages,
and that Borderplex’s performance was excused by Encore’s material breach of the Contribution
Agreement and/or promissory estoppel.
Conversely, Encore in another forum has alleged that individual members of Borderplex
fraudulently misrepresented, or fraudulently failed to disclose, Borderplex’s financial ability to
fund the projects, and misrepresented how the properties were to be managed. Whatever the truth
of the parties’ competing claims, we face here only the question of whether the parties have agreed
to exclusively mediate, then arbitrate this dispute, verse litigate the matter in a court of law. In
response to Borderplex’s suit, Encore filed a motion to dismiss, or in the alternative, to abate the
suit based on its claim that the parties must arbitrate any dispute. The trial court denied Encore’s
motion, and Encore filed this interlocutory appeal challenging that decision. See TEX.CIV.PRAC.&
REM.CODE ANN. § 171.098(a)(1)(West 2011)(allowing interlocutory appeal of denial of motion to
compel arbitration).
The nub of the dispute is this: the Contribution Agreement itself contains no arbitration
clause, but the unsigned Operating Agreement does. With that in mind, we set forth more of the
parties’ agreement as it pertains to how the Contribution Agreement incorporated the unsigned
Operating Agreement.
THE CONTRIBUTION AGREEMENT
The recital portions of the Contribution Agreement outline the parties’ intended dealings.
Encore through various subsidiaries, owned or controlled five multi-family apartment projects in
various stages of development. The parties contemplated that two of the projects would be sold,
1
Failing that condition, Borderplex was obligated to pay a substantial break-up fee, which it alleges that it has paid to
Encore.
3
and three projects would be contributed by Encore to a newly formed company. Borderplex would
come to the table with just over $47 million dollars, used to pay for both the acquisition and
development costs. The newly formed company would then own, develop, and operate each of
the respective properties. It would issue ownership units to Encore and Borderplex in designated
proportion to the parties’ contributions of cash or property.
The properties would be managed and run under the terms of a separate Operating
Agreement. Recital G of the Contribution Agreement provides that:
G. [Borderplex and Encore], upon the issuance of the Units and as owners thereof,
shall have such rights, obligations and preferences as holders of Units as set forth
in the Operating Agreement of the Company, dated as of the date of the Initial
Closing, substantially in the form attached hereto as Exhibit A (the ‘Operating
Agreement’).
Section 1.01 of the agreement similarly provided that:
On or prior to the date of the Initial Closing, [Borderplex and Encore] shall (1)
cause the filing of a certificate of formation of the Company, in a mutually
acceptable form, (2) execute the Operating Agreement, in substantially the form
attached hereto as Exhibit A, (3) cause the Company to issue Units as specified in
Section 1.05 hereof, and make the other deliveries as specified in Section 5.03
hereof.
No closing was ever held and the Operating Agreement was never executed. And while
the Operating Agreement as attached to the Contribution Agreement details multiple facets of how
the projects would be funded and managed, it was incomplete. It contains a blank for an effective
date (“Effective as of February ___, 2016”) and it omits several schedules, such as those including
a budget, the calculation of incentive fees, and employee compensation schedules.
But central to Encore’s position, Section 9.10 of the Contribution Agreement, which
addresses “Exhibits and Schedules,” states:
All Exhibits and Schedules referenced herein are expressly incorporated into this
Agreement. [Emphasis supplied].
4
The incomplete Operating Agreement was one of those exhibits, and it has a section addressing
mediation and arbitration:
15.1 Mediation.
(a) Agreement to Use Procedure. The Members have entered into this Agreement
in good faith and in the belief that it is mutually advantageous to them. It is with
that spirit of cooperation that they agree to attempt to resolve any legal dispute
amicably and without the necessity of litigation. Accordingly, the Members agree
that in the event of any dispute, difference or question as to any matter arising under
or relating to this Agreement or the breach thereof which cannot be otherwise
resolved (the “Dispute”), they will first utilize the procedures specified in this
Section (the “Procedure”) prior to, in the case of a dispute that is arbitrable, the
commencement of any arbitration proceeding under Section 15.2.
…
15.2 Arbitration.
(a) Arbitration Proceedings. If, following the conclusion of the [mediation], the
Dispute is still not resolved, and if the Dispute is of such a nature that either Party
would be entitled to relief at law or equity (i.e., an actionable disagreement, as
opposed to a difference of opinion or dispute as to management or business
philosophy), then, any Disputing Party may initiate arbitration proceedings in
accordance with this and the succeeding Subsection. The arbitration shall be
conducted in accordance with the Commercial Arbitration Rules of the American
Arbitration Association, or pursuant to such other rules and procedures upon which
both Members may agree.
The Contribution Agreement itself makes several specific references to arbitration. Section
9.12 allows for specific performance “subject to the mediation and arbitration of this Agreement
and the Operating Agreement”:
Section 9.12 Specific Performance. Each of the Parties acknowledges and agrees
that the other Party would be damaged irreparably in the event any of the provisions
of this Agreement are not performed in accordance with their specific terms or
otherwise are breached. Accordingly, subject to the mediation and arbitration
provisions of this Agreement and the Operating Agreement, each of the Parties
agrees that the other Party shall be entitled to an injunction or injunctions to prevent
breaches of the provisions of this Agreement and to enforce specifically this
Agreement and the terms and provisions hereof in any action instituted in any court
of competent jurisdiction, in addition to any other remedy to which such Party may
be entitled, at law or in equity. [Emphasis supplied]
A section on “default” and “remedies” also alludes to either a judicial or an arbitration forum:
5
Section 8.03 Costs and Expenses. The costs and expenses of any legal action
initiated to enforce a Party’s rights under this Agreement, including reasonable
attorneys’ fees, shall be borne by the Party that is not the prevailing Party in such
action, or may be allocated equitably by the judge or arbitrator if each Party
prevails as to some issues. [Emphasis supplied]
The Contribution Agreement contemplates two distinct types of defaults, and addresses
remedies for each. One type of default is defined in Section 8.01 and provides:
Section 8.01 Default; Remedies. The following events shall constitute a default
(“Default”) under this Agreement: (a) failure by any Party to perform any
obligation required under the terms of this Agreement which continues for a period
of fifteen (15) days after the giving of written notification from the non-defaulting
Party (“Non-Defaulting Party”) to the defaulting Party (“Defaulting Party”), or if
such breach cannot reasonably be cured within fifteen (15) days, the failure of the
Defaulting Party to commence such cure within fifteen (15) days and diligently
prosecute the same to completion; and (b) insolvency, receivership, bankruptcy or
any similar proceeding initiated by or against a Party. Upon the occurrence of a
Default, the Non- Defaulting Party shall have the right to terminate this Agreement.
All other defaults are addressed in Section 8.02:
Section 8.02 Indemnification. With respect to any other default under this
Agreement not included in the definition of Default set forth immediately above,
such as a breach of a representation or warranty pertaining to a Pipeline Project
with respect to which a Closing has already occurred, the Parties shall look
exclusively to the indemnification rights and obligations set forth in the Operating
Agreement, and any such dispute or controversy arising with respect to the same
shall be resolved in accordance with the procedures set out in Article 14 of the
Operating Agreement, and shall be subject to the survival period set forth in Section
14.2 of the Operating Agreement.
In turn, Article 14 of the Operating Agreement details how claims for “Indemnified Loss” were to
be made between the “Members,” a defined term meaning each person who signed the Operating
Agreement. And if not resolved under Article 14, then the Indemnified Loss would be resolved
under Article 15, which as we set out above, includes the mediation and arbitration provisions that
Encore claims are applicable here.
Finally, the Contribution Agreement states:
6
Section 9.07 Governing Law
…
Any action or proceeding brought for the purpose of enforcement of any term or
provision of this Agreement shall be brought only in the federal or state courts
sitting in El Paso, Texas, or Dallas, Texas.
ARBITRATION UNDER THE FAA AND DELAWARE LAW
The Contribution Agreement provides that it is governed by Delaware law; the parties also
agree that underlying transaction involves interstate commerce, thereby invoking the Federal
Arbitration Act (FAA). Delaware arbitration law mirrors that of the FAA. James & Jackson, LLC
v. Willie Gary, LLC, 906 A.2d 76, 79 (Del. 2006)(“Delaware arbitration law mirrors federal
law[.]”). We accordingly look to both federal and Delaware precedents to resolve this appeal.2
The FAA states that arbitration agreements “shall be valid, irrevocable, and enforceable,
save upon such grounds as exist at law or in equity for the revocation of any contract.” 9 U.S.C.A.
§ 2 (2009). The FAA was enacted “to reverse the longstanding judicial hostility to arbitration
agreements . . . and to place arbitration agreements upon the same footing as other contracts.”
Gilmer v. Interstate/Johnson Lane Corp., 500 U.S. 20, 24, 111 S. Ct. 1647, 1651, 114 L. Ed. 2d 26
(1991). Nonetheless, the FAA’s purpose is to make arbitration agreements “as enforceable as
other contracts, but not more so.” Prima Paint Corp. v. Flood & Conklin Mfg. Co., 388 U.S. 395,
404 n.12, 87 S. Ct. 1801, 1806, 18 L. Ed. 2d 1270 (1967). “[A]rbitration is a matter of contract and
a party cannot be required to submit to arbitration any dispute which he has not agreed so to
submit.” United Steelworkers of America v. Warrior & Gulf Nav. Co., 363 U.S. 574, 582, 80 S. Ct.
2
We look to Texas law, however, for our own procedural standard of review. Longview Energy Co. v. Huff Energy
Fund LP, 533 S.W.3d 866, 872 (Tex. 2017)(“The law of Texas, as the forum state, governs matters of procedure.”);
McAfee, Inc. v. Agilysys, Inc., 316 S.W.3d 820, 824 (Tex.App.--Dallas 2010, no pet.)(“In applying a contractual
choice-of-law provision, Texas courts apply the substantive law of the choice-of-law provision but apply Texas law
to matters of remedy and procedure.”). Under Texas law, we review de novo a trial court’s determination as to the
existence of a valid agreement to arbitrate. See In re Labatt Food Serv., L.P., 279 S.W.3d 640, 643 (Tex. 2009)(orig.
proceeding); J.M. Davidson, Inc. v. Webster, 128 S.W.3d 223, 227 (Tex. 2003); Kmart Stores of Texas, L.L.C. v.
Ramirez, 510 S.W.3d 559, 565 (Tex.App.--El Paso 2016, pet. denied)(“Whether the parties agreed to be bound to an
arbitration agreement is a contract formation question we review de novo, deferring to the trial court’s findings of
historical fact as between the parties so long as those determinations are supported by evidence.”).
7
1347, 1352, 4 L. Ed. 2d 1409 (1960). Stated otherwise, arbitration “is a matter of consent, not
coercion[.]” Volt Information Sciences, Inc. v. Board of Trustees of Leland Stanford Junior Univ.,
489 U.S. 468, 479, 109 S. Ct. 1248, 1256, 103 L. Ed. 2d 488 (1989).
Applying these FAA principals, Delaware courts distinguish between substantive and
procedural disputes over arbitrability. “Substantive arbitrability issues are gateway questions
about the scope of an arbitration provision and its applicability to a given dispute. The court
presumes that parties intended courts to decide issues of substantive arbitrability. The opposite
presumption applies to procedural arbitrability issues, such as waiver, or satisfaction of conditions
precedent to arbitration.” Willie Gary, 906 A.2d at 78-79, citing Howsam v. Dean Witter Reynolds,
Inc., 537 U.S. 79, 83, 123 S. Ct. 588, 591, 154 L. Ed. 2d 491 (2002)(“The question of whether the
parties have submitted a particular dispute to arbitration, i.e. the ‘question of arbitrability,’ is an
issue for judicial determination [u]nless the parties clearly and unmistakably provide
otherwise.”)[internal quotes omitted]. Thus, if a contract contains an arbitration clause, challenges
to the validity of the contract as a whole are for the arbitrator to decide. See Prima Paint, 388 U.S.
at 403-04, 87 S.Ct. at 1806. But challenges to the formation of a contract are “generally for courts
to decide.” See Granite Rock Co. v. Int’l Broth. of Teamsters, 561 U.S. 287, 296, 130 S. Ct. 2847,
2855-56, 177 L. Ed. 2d 567 (2010); see also Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S.
440, 444 n.1, 126 S. Ct. 1204, 1208, 163 L. Ed. 2d 1038 (2006)(distinguishing between challenges
to a contract’s validity and challenges to its formation).
But adopting another federal caveat, Delaware courts also recognize that the parties might
agree to submit to the arbitrator any question over arbitrability. “Just as the arbitrability of the
merits of a dispute depends upon whether the parties agreed to arbitrate that dispute, so the question
‘who has the primary power to decide arbitrability’ turns up what the parties agreed about that
8
matter.” DMS Properties-First, Inc. v. P.W. Scott Associates, Inc., 748 A.2d 389, 392 (Del. 2000),
quoting First Options of Chicago, Inc. v. Kaplan, 514 U.S. 938, 943, 115 S. Ct. 1920, 1923, 131
L. Ed. 2d 985 (1995). If there is “clear and unmistakable evidence that they did so,” parties can
leave issues of arbitrability solely to the arbitrator. Id. at 944, 115 S. Ct. 1920. In Willie Gary, the
Delaware Supreme Court adopted as a matter of policy “the majority federal view” that (1) where
an arbitration clause generally provides for arbitration of all disputes, and (2) incorporates the
American Arbitration Association’s commercial arbitration rules into a contract, the parties have
evidenced a clear and unmistakable intent to submit arbitrability issues to an arbitrator.3 906 A.2d
at 80.4
Under these precepts, Encore advances four issues contending that the trial court erred in
refusing to compel arbitration. But we turn first to Borderplex’s argument that Encore has waived
the right to insist on arbitration because it filed suit against several Borderplex board members
alleging fraud.
HAS ENCORE WAIVED ITS RIGHT TO ARBITRATE?
Borderplex filed its declaratory judgment suit in El Paso on June 29, 2016. Encore
answered the suit on September 2, 2016, and twenty-four days later, filed its motion to dismiss or
abate based on the arbitration clause. The trial court heard the motion on April 3, 2017, and denied
the motion at the hearing. On April 28, 2017, Encore filed suit in Dallas County against ten
3
This so because Rule 7 (a) of the Commercial AAA rules provides that “The arbitrator shall have the power to rule
on his or her own jurisdiction, including any objections with respect to the existence, scope, or validity of the
arbitration agreement or to the arbitrability of any claim or counterclaim.” See “Commercial Including Procedures
for Large, Complex Commercial Disputes Arbitration Rules and Mediation Procedures” at https://www.adr.org/sites/
default/files/Commercial%20Rules.pdf (last visited January 11, 2018).
4
The lower Delaware courts have applied what could be called a third prong to the Willie Gary test: that if a party
meets the Willie Gary test, then a court must still make a preliminary determination that the argument in favor of
arbitration is not frivolous. Legend Natural Gas II Holdings, LP v. Hargis, CA No. 7213-VCP, 2012 WL 4481303,
at *6 (Del. Ch. Sept. 28, 2012); McLaughlin v. McCann, 942 A.2d 616, 626-27 (Del. Ch. 2008); Suzanne H. Holly,
Margaret E. Juliano, Recent Developments Concerning Enforcement of Adr Provisions, 15 Del. L. Rev. 55, 64 (2014).
9
individuals, who are all identified as members of the Board of Trustees for Borderplex. The suit
asserts various fraud claims based on alleged fraudulent representations, or omissions, by the
individual defendants. The representations and omissions pertained to Borderplex’s ability to raise
funds, how the new entity would be managed, and efforts to re-negotiate several terms of the
transaction.
Borderplex now asserts that Encore’s resort to the courts in the Dallas action waives its
right to invoke arbitration, if arbitration even applies. And indeed, a party can waive an arbitration
clause by substantially invoking the judicial process to the other party’s detriment or prejudice.
RSL Funding, LLC v. Pippins, 499 S.W.3d 423, 430 (Tex. 2016); Perry Homes v. Cull, 258 S.W.3d
580, 589-90 (Tex. 2008).5 But “[t]here is a strong presumption” against waiver under the FAA,
which make the waiver hurdle “a high one.” Id. We look to the “totality of the circumstances” to
decide if a party has waived an arbitration right, which includes multiple factors identified by our
supreme court.6 Borderplex does not specifically address those factors, and our own review leads
to the conclusion that there is no waiver here.
Encore promptly moved to arbitrate the dispute, and only after the trial denied its motion,
did it file the second lawsuit, while simultaneously appealing the trial court’s ruling. See In re
ReadyOne Industries, Inc., 294 S.W.3d 764, 772 (Tex.App.--El Paso 2009)(orig. proceeding)
(pursuing discovery after motion to compel arbitration was denied did not constitute waiver). Even
5
Like our standard of review, we view the waiver claim as another procedural issue controlled by Texas law. But in
any event, the parties point to no substantive differences in how Texas and Delaware would analyze the issue.
6
Those factors include: (1) whether the party asserting the right to arbitrate was the plaintiff or defendant in the
lawsuit, (2) how long the party waited before seeking arbitration, (3) the reasons for any delay in seeking to arbitrate,
(4) how much discovery and other pretrial activity the party seeking to arbitrate conducted before seeking arbitration,
(5) whether the party seeking to arbitrate requested the court to dispose of claims on the merits, (6) whether the party
seeking to arbitrate asserted affirmative claims for relief in court, (7) the amount of time and expense the parties have
expended in litigation, and 8) whether the discovery conducted would be unavailable or useful in arbitration. See G.T.
Leach Builders, LLC v. Sapphire V.P., LP, 458 S.W.3d 502, 512 (Tex. 2015); Perry Homes, 258 S.W.3d at 590-92.
10
at that, While the suits share interrelated subject matter, the Dallas suit is against different parties,
and raises distinct issues from those in the declaratory judgment suit below. As the Texas Supreme
Court has said, “a party who litigate[s] one claim with an opponent d[oes] not substantially invoke
the litigation process for a related yet distinct claim against another party with whom it ha[s] an
arbitration agreement.” Kennedy Hodges, L.L.P. v. Gobellan, 433 S.W.3d 542, 545 (Tex. 2014);
see also Richmont Holdings, Inc. v. Superior Recharge Sys., L.L.C., 455 S.W.3d 573, 576 (Tex.
2014)(“Merely filing suit does not waive arbitration, even when the movant, as in this case, files a
second, separate suit in another county based in part on a contract at issue in the first action.”).
Finally, Borderplex has failed to make any credible claim of prejudice distinctly flowing from the
filing of the second suit that would not have otherwise occurred had arbitration commenced.
Because Borderplex has failed to meet its burden to show waiver, we reject its claim that
any arbitration rights, if they exist, were waived.
DOES THE INCORPORATION BY REFERENCE OF THE UNSIGNED OPERATING
AGREEMENT MAKE THAT DOCUMENT’S ARBITRATION AGREEMENT
IMMEDIATELY EFFECTIVE?
Turning to the merits, Encore’s central argument, advanced in its first issue, is that Section
9.10 of the Contribution Agreement expressly incorporates all the exhibits and schedules, which
includes the unsigned Operating Agreement, along with its arbitration clause. Delaware law, like
Texas law, allows parties to incorporate by reference other writings into a contract, and upon doing
so, the terms of those other writings become enforceable obligations. See Realty Growth Investors
v. Council of Unit Owners, 453 A.2d 450, 454 (Del. Supr. 1982)(“A contract can be created by
reference to the terms of another instrument if a reading of all documents together gives evidence
of the parties’ intention and the other terms are clearly identified.”)[citations omitted]; State ex rel.
Hirst v. Black, 83 A.2d 678, 681 (Del. Super. 1951)(“Where a contract is executed which refers to
11
another instrument and makes the conditions of such other instrument a part of it, the two will be
interpreted together as the agreement of the parties.”); see also In re Bank One, N.A., 216 S.W.3d
825, 826 (Tex. 2007)(incorporation of arbitration agreement on bank signature card). The fact that
the other writing is unsigned is not dispositive--the incorporation of the document evidences the
parties’ intent that it may be enforced.
While we do not dispute the importance of incorporation by reference, we think it misses
the point of why the Operating Agreement was included as an attachment and when its terms
should become effective. The parties contemplated that in the future they would close on several
properties, and then would develop and manage those properties. When they did so, they required
an agreement to govern the properties. The Contribution Agreement itself refers to the future
execution of the Operating Agreement. Recital G. states that “upon the issuance” of ownership
units in the yet to be formed company, and as of the date of an initial closing, the parties would
have certain rights stated in the Operating Agreement. Section 1.01 of the Contribution Agreement
similarly provided that “on or prior to the date of the Initial Closing” the parties would execute the
Operating Agreement. The closing was the event which would necessitate the execution of the
Operating Agreement.7
Encore does not contend otherwise, but nonetheless claims Section 9.10 by incorporating
the draft Operating Agreement made all its terms, including the arbitration clause, immediately
enforceable. This construction, however, is at odds with how we view a Delaware court would
7
Encore directs us to provisions in the Contribution Agreement requiring both Encore and Borderplex to deliver to
each other and the new company “counterpart signature pages to this Agreement and the Operating Agreement, as
and if applicable, duly executed by [the appropriate party].” [Emphasis supplied]. The “as and if applicable”
language, however, negates any obligation to immediately execute the Operating Agreement unless the initial closing
occurred simultaneously with the execution of the Contribution Agreement.
12
construe the Contribution Agreement.8 “The proper construction of any contract . . . is purely a
question of law[.] Exelon Generation Acquisitions, LLC v. Deere & Co., 176 A.3d 1262, 1266-67
(Del. 2017), quoting Rhone-Poulenc Basic Chems. Co. v. Am. Motorists Ins. Co., 616 A.2d 1192,
1195 (Del. 1992). As the Delaware Supreme Court describes its review:
Our objective is to determine the intent of the parties from the language of the
contract. This inquiry should focus on the parties’ shared expectations at the time
they contracted, but because Delaware adheres to an objective theory of contracts,
the contract’s construction should be that which would be understood by an
objective, reasonable third party. If a contract is unambiguous, extrinsic evidence
may not be used to interpret the intent of the parties, to vary the terms of the
contract, or to create an ambiguity.
Exelon, 176 A.3d at 1267 [internal quotes and footnotes omitted]. A Delaware court would also
read the contract as a whole and give each provision and term effect, so as not to render any part
of the contract mere surplusage. Osborn ex rel. Osborn v. Kemp, 991 A.2d 1153, 1159-60 (Del.
2010). Nor would a Delaware court read a contract to render a provision or term “meaningless or
illusory. . . . When the contract is clear and unambiguous, we will give effect to the plain-meaning
of the contract’s terms and provisions.” Id. at 1159-60. While Delaware courts attempt “to honor
the reasonable expectations of the parties and ordinarily resolve any doubt as to arbitrability in
favor of arbitration,” this policy “does not trump basic principles of contract interpretation.” Parfi
Holding AB v. Mirror Image Internet, Inc., 817 A.2d 149, 155-56 (Del. 2002).
Applying a construction that makes all the terms of the Operating Agreement immediately
effective violates several of these tenants, particularly with regards to how Article 8 of the
Contribution Agreement appears to operate. As we set out above, Article 8 of the Contribution
Agreement refers to two different types of defaults: (1) those under Section 8.01 (uncured defaults
8
“When deciding whether the parties agreed to arbitrate a certain matter (including arbitrability), courts
generally . . . should apply ordinary state-law principles that govern the formation of contracts.” First Options of
Chicago, Inc. v. Kaplan, 514 U.S. 938, 944, 115 S. Ct. 1920, 1924, 131 L. Ed. 2d 985 (1995).
13
in the obligations arising under the Contribution Agreement); and (2) those under Section 8.02 (all
other defaults, “such as a breach of a representation or warranty pertaining to a [contributed
property] with respect to which a Closing has already occurred.”) It was only this second class of
Section 8.02 defaults for which the agreement directed the parties back to the mediation and
arbitration provisions of the Operating Agreement. The final Section under Article 8-- Section
8.03-- allows the prevailing party in “any legal action” to collect attorney’s fees and costs, or as
may be “allocated equitably by the judge or arbitrator” if a party only partially prevailed. In
harmonizing these provisions, an objective and reasonable view of Section 8 is that it contemplates
the possibility of both litigation and arbitration, and the only example of the class of arbitrable
disputes are those occurring post-closing.
Encore’s construction, however, would require arbitration of any dispute, negating the
omission of a reference to mediation-arbitration in Section 8.01, and negating the affirmative
reference to legal actions and court rulings in Section 8.03. Article 8 also must be read in light of
the specific performance provisions in Section 9.12. That section allows for a court based legal
injunction “to prevent breaches of the provisions . . . and to enforce specifically the terms and
provisions” of the Contribution Agreement. Section 9.12 is “subject to the mediation and
arbitration provisions of this Agreement and the Operating Agreement,” but parsing Article 8 and
Section 9.12 together leads to a construction that Section 8.01 defaults might be addressable by a
court, and other breaches--such as post-closing defaults--were intended to be handled only under
the Operating Agreement.
And important here, this litigation began when Encore through a demand letter asserted a
default under Section 8.01. Encore’s notice of default letter stated that it was providing “formal
notice, in accordance with Section 8.01” of the Contribution Agreement that Borderplex had failed
14
to “perform certain material obligations under that agreement.” Borderplex then filed suit
asserting it was not in default because several conditions precedent to any closing never occurred.
Encore points out, however, that the broad definition of an “Indemnified Loss” under
Article 14 of the Operating Agreement would include breaches of the Contribution Agreement.9
From this, Encore reasons that Section 8.02’s incorporation of Article 14 then must necessarily
govern any breach of the Contribution Agreement. That construction, however, swallows all of
Section 8.01 and renders it superfluous--something at odds with how Delaware would interpret an
agreement. Osborn, 991 A.2d at 1159-60 (contract must be read as a whole so as not to render
any part of the contract mere surplusage). Rather, we construe Section 8.02 to govern post-closing
issues which might indeed include breaches of warranties from the Contribution Agreement that
survive any closing. Section 8.01 governs pre-closing breaches of the Contribution Agreement.
Contrary to Encore’ suggestion, our construction does not leave a “gaping hole” in the
remedies for breaches of the Contribution Agreement. A pre-closing breach of the Contribution
Agreement is addressable under Section 8.01, and the several provisions of the agreement referring
to the court actions. After a closing, Article 14 and 15 of the Operating Agreement (which by that
time would be certainly executed and fully in effect) would govern a breach of that agreement, or
applicable breaches of the Contribution Agreement (such as a warranty that survives closing).
Nor does our construction make the incorporation of the Operating Agreement superfluous.
The Contribution Agreement substantively needed some terms from the Operating Agreement to
deal with post-closing issues that might arise under the Contribution Agreement. For instance, if
9
Article 14 defines one type of “Indemnified Losses” to include:
Any and all loss, liability or damage, . . . suffered or incurred by an Indemnified Person by reason
of any untrue representation, breach of warranty or nonfulfillment of any covenant by the
Indemnifying Member contained herein or in the Contribution Agreement or in any certificate,
document or instrument delivered by the Indemnifying Member pursuant to or in connection with
this Agreement or the Contribution Agreement; [Emphasis supplied].
15
there was a cost overrun for one of the properties to be developed (which could only occur post-
closing), Borderplex was obligated to fund the cost overrun up to a specified limit. If it failed to
timely do so, the Contribution Agreement recites that any loss would be handled under Section 14
of the Operating Agreement. That section of the Operating Agreement is more than simply
attached--it is incorporated, but in practice could only have legal significance after a closing had
already occurred.
Encore also directs us to an unpublished Delaware decision where a contribution
agreement, which incorporated an operating agreement, required arbitration of disputes arising
under either agreement. See Nolu Plastics, Inc. v. Ledingham, No. 20445-NC, 2005 WL 5654418
(Del. Ch. Dec. 17, 2005). The contribution agreement in that case contained an arbitration clause,
and it incorporated by reference an operating agreement that apparently did not. Id. at *3. The
court held that a dispute arising under the operating agreement was nonetheless subject to
arbitration because the parties intended for the terms of the contribution agreement to govern any
disputes of the parties. Id. While not doubting the wisdom of the decision, we think it misses the
point here. The Contribution Agreement here evidences a different intent. It sets up two class of
disputes, only one of which is channeled back to the Operating Agreement. Moreover, it
contemplated the Operating Agreement would be executed later, consistent with the class of post-
closing claims that might arise post-closing. Nothing in Nolu Plastics suggests Delaware would
otherwise construe the agreement here.
Encore also claims that because the Contribution Agreement and the Operating Agreement
were intended to work in tandem, they must be construed together, giving effect to the terms of
each. See E.I. du Pont de Nemours & Co. v. Shell Oil Co., Inc., 498 A.2d 1108, 1115 (Del.
1985)(two agreements negotiated, drafted and executed simultaneously, were construed together).
16
To be sure, the Contribution Agreement refers to various provisions of the Operating Agreement,
and outlines how future problem would be resolved under the terms of the Operating Agreement.10
But those potential issues all appear to be post-closing issues. At or before the initial closing, a
final Operating Agreement would have been signed and undoubtedly in force and effect. That the
parties outlined how future post-closing contingencies would have been handled, does not make
every provision of the Operating Agreement immediately effective before any closing.
In sum, Encore’s construction unnecessarily contorts the structure of Article 8, and under
Delaware law we could not apply a construction that subverts the parties intended plan or scheme.
See GMG Capital Investments, LLC v. Athenian Venture Partners I, L.P., 36 A.3d 776, 779 (Del.
2012)(“The meaning inferred from a particular provision cannot control the meaning of the entire
agreement if such an inference conflicts with the agreement’s overall scheme or plan.”).
THE VENUE CLAUSE ALSO UNDERMINES ENCORE’S CONSTRUCTION
Section 9.07 of the Contribution Agreement provides that any action or proceeding brought
to enforce any term or provision of the Contribution agreement “shall be brought only” in a court
in El Paso or Dallas. Borderplex contends this provision belies any construction requiring all
disputes to be arbitrated. In its second issue, Encore suggests this provision is boilerplate, or only
applies to a suit to enforce an arbitration award, or for specific performance or injunctive relief.
But if the provision was so limited, it would have said so, rather than using the broader language
covering enforcement of any term or provision of the Contribution Agreement. Instead, Section
9.07 buttresses our construction of the Contribution Agreement: one class of disputes requires
arbitration, but one class does not. Encore through its notice of default letter initiated a dispute
10
The Contribution Agreement substantively references the Operating Agreement in eleven provisions. It also
incorporates the definitions of some terms as specifically defined in the Operating Agreement.
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not governed by the mediation/arbitration provisions, effectively leaving the dispute for a Dallas
or El Paso court.
Encore further argues that this single provision cannot undermine the overall scheme of the
agreement. We agree with that rule of contract construction, but conclude that Section 9.07 is
consistent with how Sections 8.01 and 8.02 were intended to operate. Finally, Encore developed
a record below which included a “red-lined” draft of the Contribution Agreement exchanged by
the parties during their negotiations. Based on that draft, Encore divines the parties’ intent based
on several changes suggested by Borderplex’s counsel. Nonetheless, we decline to draw any
inferences from the red-lined draft for two reasons. First, we have no need to refer to parol
evidence unless the agreement is ambiguous, a finding that neither the trial court nor this Court
has made. Norton v. K-Sea Transp. Partners L.P., 67 A.3d 354, 360 (Del. 2013)(“We consider
extrinsic evidence only if the contract is ambiguous.”). Second, the Contribution Agreement has
a joint drafting clause that precludes any inference from the authorship of any provision.11
Encore’s arguments regarding Section 9.12 are unappealing, and we overrule Issue Two.
SHOULD AN ARBITRATOR DECIDE ARBITABILITY?
In its third issue, Encore asks that we order an arbitrator to resolve any disputes about
arbitrability of the disputes below. And as we note above, both the FAA and Delaware law
contemplate that parties can agree to let an arbitrator decide the threshold question of whether a
dispute falls within the scope of an arbitration clause or not. To accomplish that result, the parties
must in “clear and unmistakable” terms indicate the desire to leave issues of arbitrability solely to
11
The Contribution Agreement includes this provision:
Section 9.11 Construction. The Parties have participated jointly in the negotiation and drafting of
this Agreement. In the event an ambiguity or question of intent or interpretation arises, this
Agreement shall be construed as if drafted jointly by the Parties and no presumption or burden of
proof shall arise favoring or disfavoring any Party by virtue of the authorship of any of the provisions
of this Agreement.
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the arbitrator. Willie Gary, 906 A.2d at 80. They meet that standard when an arbitration clause
(1) generally provides for arbitration of all disputes, and (2) incorporates the AAA arbitration rules,
and (3) the argument for arbitration is “non-frivolous.” Id.; McLaughlin, 942 A.2d at 626-27.
Guided by two Delaware opinions, we conclude the parties did not clearly and
unmistakably leave the issue of arbitrability to the arbitrator under the first prong of the test. In
Willie Gary, the court upheld the trial court denial of arbitration. 906 A.2d at 82. The agreement
there required arbitration of any controversy arising out of the parties’ contract and it incorporated
the AAA rules. Id. at 79-80. However, it expressly authorized the non-breaching party to obtain
injunctive relief and specific performance in the courts. Id. “Thus, despite the broad language at
the outset, not all disputes must be referred to arbitration. Since this arbitration clause does not
generally refer all controversies to arbitration, the federal majority rule does not apply, and
something other than the incorporation of the AAA rules would be needed to establish that the
parties intended to submit arbitrability questions to an arbitrator.” Id. at 81. In other words, the
injunctive relief carve out was sufficiently broad to negate the first prong of the Willie Gary test
(that arbitration applies to all disputes).
We contrast Willie Gary with BAYPO Ltd. Partnership v. Technology JV, LP, where a court
reached the opposite result, but based on a more narrowly tailored carve out clause. 940 A.2d 20,
26 (Del. Ch. 2007). The contract in BAYPRO allowed the parties to seek injunctive or equitable
relief, but only as necessary to protect “the rights and property of such party or maintain the status
quo before, during or after the pendency” of any arbitration. Id. The agreement additionally
directed that an arbitrator decide all substantive and procedural issues. Id at 27.
Read together, the decisions teach that the “carve outs and exceptions to committing
disputes to arbitration should not be so obviously broad and substantial as to overcome a heavy
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presumption” that incorporating the AAA Rules intends that the arbitrator decide all issue of
arbitrability. McLaughlin, 942 A.2d at 625. In the Contribution Agreement before us, those carve
outs are sufficiently broad to overcome the presumption. As we discuss above, Section 8.01
broadly includes any breaches of the Contribution Agreements, and under the most appropriate
construction, allows them to be judicially resolved. Only a narrower class of claims--those post-
closing--are clearly governed by the arbitration agreement in the Operating Agreement. And like
Willie Gary, the Contribution Agreement additionally carves out specific performance and
injunctive relief to prevent breaches of the Contribution Agreement, or to enforce its terms. We
conclude that because of the scope of these carve outs, Encore has failed to show the agreement
commits all disputes to arbitration, and thus no presumption arises that the parties intended to have
an arbitrator determine arbitrability. Accordingly, we overrule Issue Three.
DOES AN SUPERCEDED PLEADING CHANGE THE CALCULAS?
In its fourth issue, Encore also asserts something of its own waiver/estoppel argument by
arguing that in a prior, and now superseded pleading, Borderplex asserted a claim for violation of
the Operating Agreement. Such a claim would necessarily invoke the Operating Agreement’s
arbitration clause. Borderplex’s Second Amended Petition alleged:
In the alternative and without waiving the foregoing, [Borderplex’s] performance
under the Contribution Agreement is excused by [Encore’s] material breach of
contract and/or promissory estoppel. [Encore] made promises, representations,
and commitments to [Borderplex] in February 2016 with respect to (i)
modifications in the method of calculating fees due to Encore Borderplex, LLC
under the Operating Agreement . . . . [Emphasis supplied].
By the time of the trial court heard Encore’s motion to compel arbitration, however, Borderplex
had filed a Third Amended Petition that replaced the above italicized language, and qualified it to
address only the “proposed draft of the Operating Agreement” which would only become effective
20
once the parties reached an agreement on additional terms. Nonetheless, Encore contends the
allegations in the Second Amended Petition are broad enough to trigger the arbitration clause.
Generally, “[a] plaintiff’s timely filed amended pleading supersedes all previous pleadings
and becomes the controlling petition in the case regarding theories of recovery.” Elliott v.
Methodist Hosp., 54 S.W.3d 789, 793 (Tex.App.--Houston [1st Dist.] 2001, pet. denied); see also
TEX.R.CIV.P. 63, 65. Borderplex’s amended pleading superseded and replaced its prior pleading.
See TEX.R.CIV.P. 65; Elliott, 54 S.W.3d at 793. Given the procedural facts here, we decline to
consider the superseded pleading. See ENGlobal U.S., Inc. v. Gatlin, 449 S.W.3d 269, 278 n.4
(Tex.App.--Beaumont 2014, no pet.)(also noting effect of superseded pleading). We overrule
Issue Four.
Having overruled all of Encore’s issues, we affirm the decision of the trial court and remand
the case for further proceedings.
September 28, 2018
YVONNE T. RODRIGUEZ, Justice
Before McClure, C.J., Rodriguez, and Palafox, JJ.
McClure, C.J. not participating
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