Game Changer Case
Will the Texas Supreme Court’s Opinion on Standing in Pike v. TX EMC Mgmt., LLC (Tex. June 19, 2020) Simply Confuse Texas Courts?
by J.D. Reed
The Supreme Court of Texas recently held that a limited partner had individual standing to sue for its personal and separate alleged loss to the value of its limited partnership interest. Pike v. Texas EMC Management, LLC, Case No. 17-0557 (Tex. June 19, 2020) (Busby, J) (Bland, J, dissenting). Texas EMC Products (the limited partnership) was formed between investors and limited partners (Wilson and Walker, both individually and through Walker’s company Few Ready Mix) and a Dutch technology company, EMC Cement BV. Texas EMC Management, LLC, was the general partner and Pike was the president. The limited partnership failed and never made a profit, after which EMC Cement BV cancelled its technology license agreement with the limited partnership. Eventually, a foreclosure sale of the limited partnership’s cement plant and equipment was held. At the foreclosure sale, VHSC Cement (a newly formed company, who hired Pike as its president) purchased Texas EMC Products’ property.
Summary of Pike v. TX EMC Mgmt., LLC
Texas EMC Products, Texas EMC Management and EMC Cement BV (collectively, EMC plaintiffs) sued Pike, Walker, Wilson and VHSC on various theories, including misappropriation of trade secrets for alleged damages directly to the limited partnership (Texas EMC Products), as well as indirect damages to the limited partners flowing therefrom (i.e., lost value in limited partnership interest). EMC Cement BV, a limited partner did not sue in a derivative capacity for injury to the limited partnership. Further, defendant Walker did not file a verified plea challenging EMC Cement BV’s capacity to recover, pursuant to Tex. R. Civ. P. 93(2).
In the trial court and court of appeals, Walker argued that EMC Cement VB lacked standing to bring its individual claims for breach of the partnership agreement because a claim alleging harm to the limited partnership belongs to the partnership, not to its individual partners.
The Texas Supreme Court first found that EMC Cement BV, a limited partner, had constitutional standing to individually bring suit to redress the alleged harm to the value of its separate interest in the limited partnership. This holding seemingly changes decades of Texas jurisprudence regarding whether an interest holder can recover damages in the form of reduced value in his/her interest in the business entity, for a wrong done solely to the business entity—the Wingate prohibition. Wingate v. Hajdik, 795 S.W.2d 717, 719 (Tex. 1990); In re Fisher, 433 S.W.3d 523, 527-28 (Tex. 2014) (orig. proceeding). Justice Bland, in dissent, argued that EMC Cement BV, a limited partner, had no separate/individual constitutional standing to bring suit because in his opinion, “a limited partner does not own the limited partnership’s claims. The partnership does.” Id. “To recover individually, a stockholder must prove a personal cause of action and personal injury” outside of the injury to the business entity. Id.
The majority disagreed with dissenting Justice Bland and reasoned that EMC Cement BV had the required injury-in-fact to constitute standing. The Texas Supreme Court also reasoned that whether a limited partner like EMC Cement BV was authorized to individually bring suit was a question of capacity, which should be tried on the merits, and not a question of standing.
Interestingly in a footnote, the Texas Supreme Court stated “[t]he Wingate prohibition and our current statutes generally reserve any recovery for such an injury to the organization, though we need not resolve how those statutes apply to the facts of this particular case as explained below.” The Texas statutes referred to by the Court—Tex. Bus. Orgs. Code §§ 152.002, 152.210-.211, and 153.401-.413)—define which claims and remedies may be pursued by an organization and which by its stakeholders individually, and further, when such stakeholders may pursue the organization’s claims derivatively. Additionally, the majority held “we are mindful of the statutory provisions that
define and limit a stakeholder’s ability to recover certain measures of damages, which protect the organization’s status as a separate and independent entity.” However, the Court did not provide clarification or analysis on how its holding would conflate with the aforementioned Texas statutes. The Court’s holding did not address multiple other Texas statutes (i.e., Tex. Bus. Orgs. Code §§ 101.106(b) and 154.001-.002). By not doing so, the Court did not substantively address the long- standing “entity theory,” which states that “[business entities] are legally distinct from individual partners” and that interest holders in a business entity do not have an interest in any specific property of the entity, including profits or claims of the business entity. See Tex. Bus. Orgs. Code § 101.106(b); In re Allcat Claims, 356 S.W.3d 455, 465 (Tex. 2011). Moreover, although the Court stated “we do not suggest that a limited partner could recover directly for the partnership’s injury if that recovery were the subject of a proper objection in the trial court,” the holding still leaves open the possibility that stakeholders may file suit individually, without joining the business entity, and obtain judgment that properly belongs to the business entity.
Ruling leaves open legal questions and may cause more lawsuits
Accordingly, the Court’s holding that an individual interest holder may individually sue for the lost value of his/her interest in the business entity coupled with not addressing the “entity theory” leaves open various legal questions concerning, among others: (i) the distinction between ownership of entity property and that of the interest holders; (ii) derivative lawsuits and prerequisites for filing them; (iii) what injuries to the business entity affect the value of a stakeholder’s interest and thus, whether recovery is for injury directly to the entity or the stakeholder; (iv) a business entity’s rights related to a judgment improperly possessed by a stakeholder; and (v) other “wrong plaintiff” issues. As a result of its opinion in Pike, the Texas Supreme Court will be required to answer a host of legal issues that have already been decided and somehow fuse its new holding with Texas statutes and business entity agreements based on those statutes.
Without further guidance from the Texas Supreme Court, the Pike opinion may likely cause the proliferation of lawsuits filed by minority interest holders for the diminution in value of their interests in businesses. Pike may also cause stakeholder plaintiffs to disregard derivative lawsuit prerequisites and lead to protracted litigation with heavy emphasis expert fact determinations regarding lost value. Without the ability for trial courts to dismiss procedurally defective claims made individually by stakeholders, discovery and motion practice concerning a stakeholder’s capacity to bring his/her individual claims will be more important than ever. Lastly, Pike reinforces the need of closely held business entities and their stakeholders to consult with an attorney regarding their respective rights and obligations.
We can help you with that. Contact JD via email or 469-916-7700 x110.
when it matters ™
About J.D. Reed
John David “JD” Reed focuses his practice on litigation involving private equity, corporate law, finance litigation, and commercial business disputes, business partnership disputes, construction defects, DTPA/consumer protection, employment, breach of fiduciary duty, non-compete, eminent domain, and Anti-SLAPP.Learn more about J.D….