Chancery Court Enforces Good Faith Standard of Care in Limited Partnership Agreement
By Eric Feldman and Priya Chadha
In Brinckerhoff v. Enbridge Energy Co., Inc., et al., C.A. No. 11314-VCS (April 29, 2016), the Delaware Court of Chancery reiterated its adherence to the principle stated in the Delaware Revised Uniform Limited Partnership Act (“DRULPA”) of giving “maximum effect to the principle of freedom of contract and to the enforceability of partnership agreements” as well as to the ability under DRULPA of parties to a limited partnership agreement to define their respective standards of care and scope of duties and liabilities, including to eliminate default fiduciary duties, and dismissed the plaintiff’s claims.
The plaintiff, an investor in a master limited partnership, Enbridge Energy Partners, L.P. (“EEP”), brought class and derivative claims against EEP’s general partner, Enbridge Energy Company, Inc. (“EEP GP”), EEP GP’s controlling parent, Enbridge, Inc. (“Enbridge”), EEP’s designated manager, Enbridge Energy Management, L.L.C. (“Enbridge Management”), and the shared directors of EEP GP and Enbridge Management. The transaction at issue (the “Transaction”) involved EEP’s repurchase of a two-thirds interest in a crude oil pipeline (the “Interest”) from Enbridge for $1 billion. As part of the Transaction, the limited partnership agreement of EEP (the “LPA”) was also amended in a manner ultimately designed to allocate certain items of gross income to the public unitholders that would otherwise have been allocated to EEP GP (the “Special Tax Allocation”). EEP had previously sold the Interest to Enbridge in 2009 for $800 million (the “2009 Sale”). The plaintiff had unsuccessfully challenged the 2009 Sale on principally the same grounds and under substantively identical provisions of the LPA, and the Court of Chancery dismissed the plaintiff’s claims in this action on much the same basis as in the 2009 Sale.
Upon deciding to repurchase the Interest, EEP GP’s board of directors formed a special committee of three directors, two of whom the plaintiff conceded were independent. That special committee in turn hired Simmons & Co. International (“Simmons”), a financial advisor which reviewed 27 comparable transactions between 2011 and 2014, although it did not include the 2009 Sale in its review. Simmons subsequently issued an opinion concluding that the Transaction was fair to EEP and its unitholders (the “Fairness Opinion”). The special committee recommended the Transaction to EEP GP’s board of directors, which approved the Transaction. The plaintiff alleged, among other things, that Enbridge’s sale of the Interest to EEP and the other terms of the Transaction breached the terms of the LPA, the implied contractual covenant of good faith and fair dealing, and default fiduciary duties.
After finding that demand was excused, the Court of Chancery emphatically rejected the plaintiff’s claims, finding that the LPA only required that EEP GP and the other defendants not act in bad faith and that the plaintiff had failed to allege facts that would rise to such a level. Specifically, the LPA fully replaced common law fiduciary duties with a contractual standard of care. That standard of care required that EEP GP act in good faith and provided that any act taken by EEP GP in reliance on an advisor was automatically presumed to have been in good faith. Though the LPA required that any conflicted transactions be “fair and reasonable” compared to similar or related transactions, another provision stated that EEP GP’s liability for such transactions was limited to those made in bad faith.
The Court of Chancery acknowledged that the plaintiff’s claims were “rich in allegations of wrongdoing that likely would gain traction if the defendants’ conduct were to be measured under traditional corporate governance standards.” Because, however, the LPA required that EEP GP’s conduct be measured under a good faith standard, the Court was bound to judge EEP GP’s conduct by that standard in order to give maximum effect to the principle of freedom of contract. Similarly, the Court stated that while certain other provisions and standards set forth in the LPA may have been relevant if the Special Tax Allocation was analyzed in isolation, because the Special Tax Allocation was made in the context of, and was a part of, the overall Transaction, the same overriding standards that applied to analyzing the Transaction as a whole applied with respect to the Special Tax Allocation. In furtherance of this finding, the Court pointed to the Fairness Opinion, which specifically considered the Special Tax Allocation as part of its determination of the fairness of the Transaction. Thus, because the LPA limited the defendants’ liability only to decisions made in bad faith and provided a presumption of good faith to EEP GP for any decisions made in reliance upon an advisor, the Court held that the plaintiff had failed to plead facts showing bad faith by the defendants or to overcome the presumption of good faith to which EEP GP was entitled. In so holding, the Court acknowledged that certain provisions of the LPA, including those providing for a presumption of good faith if relying on an advisor, on their face only applied to EEP GP and not to the other defendants (although other provisions of the LPA, including those providing for a bad faith liability standard, encompassed all defendants). The Court, however, suggested that the presumption of good faith extended to the other defendants in addition to EEP GP, emphasizing precedent that those that cause a general partner to act should not be subject to action against them where the general partner’s actions itself did not breach its duties (although the Court did not need to expressly reach this conclusion as it found that, with or without this presumption, the allegations of bad faith against the defendants were insufficient). Accordingly, the Court dismissed the breach of contract claims against all defendants.
The Court of Chancery also rejected the plaintiff’s claim for breach of the implied contractual covenant of good faith and fair dealing, finding that because the LPA addressed every breach alleged in the complaint, there was no “gap that needs to be filled” by the covenant of good faith and fair dealing. Lastly, the Court of Chancery rejected the plaintiff’s equitable claim for rescission or reformation, holding that both were extraordinary remedies and that plaintiff had failed to adequately state claims for either of them.