Breitburn Energy Partners LP, et al.,

UNITED STATES BANKRUPTCY COURT
SOUTHERN DISTRICT OF NEW YORK
---------------------------------------- --------X
:
In re: 	: 	Case No. 16-10992 (SMB)
:
BREITBURN ENERGY 	: 	Chapter 11
PARTNERS LP, et al.1 	:
: 	(Jointly Administered)
Debtors. 	:
------------------------------------------------X
MEMORANDUM DECISION GRANTING IN PART AND
DENYING IN PART MOTION BY LL&E ROYALTY
TRUST FOR RELIEF FROM THE AUTOMATIC STAY
A P P E A R A N C E S:
DICKINSON WRIGHT PLLC
Attorneys for LL&E Royalty Trust
350 S. Main Street, Suite 300
Ann Arbor, Michigan 48104
Michael C. Hammer, Esq.
Doron Yitzchaki, Esq.
Of Counsel
WEIL, GOTSHAL & MANGES LLP
Attorneys for the Debtors and
Debtors in Possession
767 Fifth Avenue
New York, New York 10153
Ray C. Schrock, P.C., Esq.
Stephen Karotkin, Esq.
Of Counsel
1 	The Debtors in these chapter 11 cases, along with the last four digits of each Debtor’s tax
identification number are as follows: Breitburn Energy Partners LP (9953); Breitburn GP LLC (9948);
Breitburn Operating LP (5529); Breitburn Operating GP LLC (5525); Breitburn Management Company
LLC (2858); Breitburn Finance Corporation (2548); Alamitos Company (9156); Beaver Creek Pipeline,
L.L.C. (7887); Breitburn Florida LLC (7424); Breitburn Oklahoma LLC (4714); Breitburn Sawtelle LLC
(7661); Breitburn Transpetco GP LLC (7222); Breitburn Transpetco LP LLC (7188); GTG Pipeline LLC
(3760); Mercury Michigan Company, LLC (3380); Phoenix Production Company (1427); QR Energy, LP
(3069); QRE GP, LLC (2855); QRE Operating, LLC (9097); Terra Energy Company LLC (9616); Terra
Pipeline Company LLC (3146); and Transpetco Pipeline Company, L.P. (2620).
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STUART M. BERNSTEIN
United States Bankruptcy Judge:
LL&E Royalty Trust (“LL&E”) has moved for relief from the automatic stay to
continue state court litigation (the “Texas Litigation”) against Debtors QRE Operating,
LLC (“QRE”), QR Energy, LP (“QR Energy”) (collectively with non-debtor Quantum
Resources Management, LLC, “Quantum”), Breitburn Energy Partners LP (“Breitburn
Energy”), and Breitburn Management Company LLC (collectively with Breitburn
Energy, “Breitburn” and collectively with QRE and QR Energy, the “Debtors”). (LL&E
Royalty Trust’s Motion for Relief from Automatic Stay, dated July 12, 2016 (the “Stay
Relief Motion”), at ¶ 1 (ECF Doc. # 259).) The Debtors oppose the motion. (See
generally Debtors’ Objection to LL&E Royalty Trust’s Motion for Relief from the
Automatic Stay, dated Aug. 15, 2016 (the “Objection”) (ECF Doc. # 382).)
The Texas Litigation was initiated by QRE for declaratory relief relating to a
contract dispute between LL&E and QRE concerning the payment of royalties to LL&E
arising from an oil and gas field located in Florida and Alabama (the “Jay Field”). LL&E
counterclaimed against QRE, the other Quantum parties and Breitburn for breach of the
contract that forms the basis of QRE’s declaratory judgment action. In addition, LL&E
counterclaimed for breach of contract and breach of fiduciary duty against non-debtor
third parties joined as additional defendants and also asserted various tort
counterclaims against QRE and the other counterclaim defendants.
For the reasons set forth below, the Stay Relief Motion is granted, with certain
limitations, to allow the parties to resolve the issues relating to the payment of royalties,
if any, as more fully discussed below. The balance of the motion is denied.
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BACKGROUND2
The debtor Breitburn Energy is a master limited partnership and a holding entity
that, along with its debtor and non-debtor affiliates, is in the business of acquiring,
exploiting and developing oil and gas properties, “Midstream Assets” (including
pipelines and processing plants) and certain ethane, propane, butane and natural
gasolines. (Declaration of James G. Jackson Pursuant to Local Bankruptcy Rule 1007-
2 and in Support of the Debtors’ Chapter 11 Petitions and First Day Relief, filed May 16,
2016 (the “Jackson Declaration”), at ¶ 5 and ¶ 5 n.2 (ECF Doc. # 13).)
Prior to 2006, ConocoPhillips Company (“ConocoPhillips”) and ExxonMobil held
the working interests in the Jay Field. (Stay Relief Motion at ¶ 6.) Through various
mergers and acquisitions between 2006 and 2014, the Debtors acquired the working
interests in the Jay Field, and according to LL&E, became responsible for paying the
royalties. (E.g., Stay Relief Motion at ¶¶ 7-8.) The debtor QRE presently holds the
majority working interest in the Jay Field. (Objection at ¶ 5.) Without deciding whether
the predecessor Debtors assumed contractual or other obligations to pay royalties,
references in this opinion to QRE include the Debtor predecessors.
LL&E owns an “overriding royalty interest” (the “Royalty Interest”) in the Jay
Field. (Stay Relief Motion at ¶ 6; Objection at ¶ 5.) It acquired the Royalty Interest in
1983 pursuant to a Conveyance of Overriding Royalty Interests (the “Conveyance
Agreement”), 3 which was recorded in Santa Rosa County, Florida. (Stay Relief Motion
2 	Unless otherwise noted, all ECF document numbers refer to case no. 16-11390.
3 	A copy of the Conveyance Agreement is attached as Exhibit 2 to the Stay Relief Motion (ECF Doc.
# 259-2).
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at ¶ 6; Conveyance Agreement at 1.) The Conveyance Agreement is governed by Texas
law, except to the extent Florida law “mandatorily” applies “by virtue of the fact that the
[underlying oil, gas and mineral] Leases affect lands located in . . . Florida.”
(Conveyance Agreement, Art. XXIII, at 22.)4 The parties acknowledge that their rights
are governed by the Conveyance Agreement. (Objection at ¶ 5; see Stay Relief Motion at
¶¶ 6-8.)
LL&E’s Royalty Interest consists of 50% of the “Net Proceeds attributable to the
Subject Interests” conveyed pursuant to the Conveyance Agreement. (Conveyance
Agreement at 1.) The Net Proceeds are “for each month, the excess, if any, of the Gross
Proceeds for such month over Production Costs for such month.” (Id. § 1.15, at 5.) QRE
is required to use its “best efforts” to pay the amounts attributable to the Royalty
Interest each month, (id., Art. VIII (a), at 12), but may place proceeds into a formal
escrow account under certain circumstances, including in the event of uncertainty or
controversy as to the sale price of the Subject Minerals (as defined in the Conveyance
Agreement), (id., Art. VIII (d), at 13), and subject to conditions set forth in the
Conveyance Agreement. Alternatively, QRE may refrain from escrowing proceeds, and
instead calculate and pay amounts due to LL&E as though such funds had been
escrowed, subject to certain conditions and limitations set forth in the Conveyance
Agreement. (Id., Art. VIII (h), at 16.)
4 	The parties have not argued that Florida and Texas law differ on the issues material to their
dispute.
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Importantly, QRE may also withhold payment and escrow proceeds in the Special
Cost Escrow Account in certain situations, including if the “aggregate estimated future
Gross Proceeds . . . is less than . . . [the] estimated future Production Costs.” (Id., Art.
VIII (e), at 14.) 5 Consequently, LL&E would be entitled to past or current royalty
payments, but QRE may nevertheless have the right to withhold payment and place the
proceeds in the Special Cost Escrow Account based on estimated future shortfalls in
revenue. Although QRE has apparently withheld payment under this provision, it did
not create or fund the Special Cost Escrow Account. Instead, it takes the position that
Article VIII (h), described in the preceding paragraph, allows it to forego the escrow and
calculate and pay royalties as if it had funded the escrow. (Debtors’ Supplemental
Objection to LL&E Royalty Trust’s Motion for Relief from the Automatic Stay, dated
Sept. 1, 2017 (“Debtors’ Supplement”) at ¶¶ 10-11 (ECF Doc. # 476.)
A. 	The Texas Litigation
The principal dispute concerns LL&E’s contractual right to the payments
withheld by QRE. On August 12, 2015, QRE commenced the Texas Litigation against
Roger D. Parsons, in his capacity as trustee of LL&E. 6 (See Plaintiff’s Original Petition
for Declaratory Judgment, dated Aug. 12, 2015 (the “Texas Petition”).) 7 In relevant
part, the Texas Petition sought a declaratory judgment that QRE had paid LL&E the
5 	The amount of payments QRE may withhold to cover future costs is subject to a formula and
several limitations. For present purposes, it is sufficient to say that QRE is entitled to withhold payments
under certain circumstances, but LL&E argues that it has not followed the Conveyance Agreement in
withholding payments.
6 	LL&E had commenced an earlier action in the United States District Court for the Eastern District
of Michigan, but the Michigan Court dismissed the complaint for lack of subject matter jurisdiction.
7 	A copy of the Texas Petition is annexed to the Stay Relief Motion as Exhibit 4. (ECF Doc. # 259-
4.)
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correct amounts (and had therefore withheld the correct amounts to cover estimated
future costs) in accordance with the terms of the Conveyance Agreement and had
otherwise complied with the Conveyance Agreement. (Texas Petition at ¶¶ 61-73 & p.
16.)
Parsons answered on February 19, 2016. (See Defendant Roger D. Parsons’ First
Amended Answer, Original Counterclaim and Original Third-Party Petition dated Feb.
19, 2016 (the “Texas Answer”).) 8 The Texas Answer contained a general denial of the
allegations asserted in the Texas Petition, (Texas Answer at ¶ 1.1), and asserted eight
counterclaims against QRE and additional parties joined as counterclaim defendants.
The eight counterclaims fell into three categories. First, Cause of Action One (“Count
One”) asserted a counterclaim for breach of contract against Quantum and Breitburn
based on their failure to pay royalties, their overstatement of future costs and their
refusal to contribute their share of future costs, provide the information needed by
LL&E to remain publically registered and provide a full and complete accounting of the
estimated reserves, interest payments and escrow sums. (Id. at ¶ 3.50.) Second, Causes
of Action Two through Five charged the non-Breitburn and non-Quantum defendants
with breach of contract and breach of fiduciary duty. (Id. at ¶¶ 3.52-3.63.) Third,
Causes of Action Six through Eight (the “Tort Counts”) charged all of the counterclaim
defendants with tortious interference with contract, inducing a breach of fiduciary duty
and conspiracy. (Texas Answer at ¶¶ 3.64-3.71.) The Tort Counts, as they concerned
Quantum and Breitburn, and in addition to the alleged interference with and diversion
8 	A copy of the Texas Answer is annexed to the Stay Relief Motion as Exhibit 5. (ECF Doc. # 259-
5.)
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of LL&E’s royalty payments, rested on allegations that they conspired with the other
counterclaim defendants to devalue LL&E’s assets and withhold information needed by
potential bidders with the goal of forcing a sale of LL&E’s assets to Quantum at a
reduced price, (see id. at ¶¶ 3.33, 3.35, 3.36, 3.64-3.71), and sought to trigger the
mandatory termination provision of the LL&E trust agreement. (Id. at ¶ 3.37.) A
lawsuit by an LL&E beneficiary thwarted the attempt to terminate LL&E, but LL&E
incurred attorney’s fees and litigation costs in connection with that earlier lawsuit. (Id.
at ¶¶ 3.38-3.39.) The counterclaims sought damages, including exemplary damages,
attorney’s fees, costs, interest and other legal and equitable relief to which it might be
entitled. (E.g., id. at 20-21.)
B. 	The Stay Relief Motion
1. 	Introduction
Breitburn and twenty-one affiliates, including the other Debtors, commenced
chapter 11 cases in this Court on May 15 and May 16, 2016. (See n.1, supra (listing
debtor entities).) LL&E agrees that the bankruptcy filing “arguably” stayed Count One
and stayed the Tort Counts to the extent they are directed at the Debtors. (Stay Relief
Motion at ¶ 2.) Accordingly, on July 12, 2016, LL&E filed the Stay Relief Motion to
allow the Texas Litigation to proceed against the Debtors. In light of the Debtors’
chapter 11 filings, the Texas court “put the [Texas Litigation] ‘on hold,’” and LL&E has
not requested that the Texas court proceed with the unstayed claims pending the
determination of the Stay Relief Motion. (LL&E Royalty Trust’s Supplemental Brief in
Support of Motion for Relief from Automatic Stay, dated Sept. 1, 2016 (“LL&E
Supplement”), at 3 (ECF Doc. # 477).)
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Section 362(d)(1) of the Bankruptcy Code authorizes the Court to grant relief
from the automatic stay “[o]n request of a party in interest . . . for cause, including the
lack of adequate protection of an interest in property of such party in interest.” 11 U.S.C.
§ 362(d)(1). The Bankruptcy Code does not define “cause,” but courts are guided by the
factors enumerated in Sonnax Indus., Inc. v. Tri Component Prods. Corp. (In re Sonnax
Indus., Inc.), 907 F.2d 1280 (2d Cir. 1990) (the “Sonnax Factors”):
(1) whether relief would result in a partial or complete resolution of
the issues; (2) lack of any connection with or interference with the
bankruptcy case; (3) whether the other proceeding involves the debtor as a
fiduciary; (4) whether a specialized tribunal with the necessary expertise
has been established to hear the cause of action; (5) whether the debtor’s
insurer has assumed full responsibility for defending it; (6) whether the
action primarily involves third parties; (7) whether litigation in another
forum would prejudice the interests of other creditors; (8) whether the
judgment claim arising from the other action is subject to equitable
subordination; (9) whether movant’s success in the other proceeding
would result in a judicial lien avoidable by the debtor; (10) the interests of
judicial economy and the expeditious and economical resolution of
litigation; (11) whether the parties are ready for trial in the other
proceeding; and (12) impact of the stay on the parties and the balance of
harms.
Id. at 1286. Not all of the factors are relevant in every case, Schneiderman v.
Bogdanovich (In re Bogdanovich), 292 F.3d 104, 110 (2d Cir. 2002); Mazzeo v. Lenhart
(In re Mazzeo), 167 F.3d 139, 143 (2d Cir. 1999), and the Court need not assign equal
weight to each factor. In re Keene Corp., 171 B.R. 180, 183 (Bankr. S.D.N.Y. 1994).
The movant bears the initial burden of making a prima facie showing of “cause”
for relief from the stay, but the ultimate burden of persuasion rests with the debtor to
show an absence of “cause.” See Mazzeo, 167 F.3d at 142; Sonnax, 907 F.2d at 1285; cf.
11 U.S.C. § 362(g)(2) (party opposing stay relief has burden of proof on all issues other
than debtor’s equity in subject property). The burden on the movant seeking relief from
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the automatic stay to prosecute an unsecured claim is especially heavy. “[T]he general
rule is that claims that are not viewed as secured in the context of § 362(d)(1) should not
be granted relief from the stay unless extraordinary circumstances are established to
justify such relief,” In re Leibowitz, 147 B.R. 341, 345 (Bankr. S.D.N.Y. 1992); accord
Lawrence v. Motors Liquidation Co. (In re Motors Liquidation Co.), No. 10 Civ. 36
(RJH), 2010 WL 4966018, at *4 (S.D.N.Y. Nov. 8, 2010); In re Residential Capital, LLC,
501 B.R. 624, 643-44 (Bankr. S.D.N.Y. 2013), lest the unsecured creditor receive a
distributive advantage contrary to the principle of equality of distribution. Motors
Liquidation Co., 2010 WL 4966018, at *4; Leibowitz, 147 B.R. at 345.
2. 	The Royalty Interest
LL&E does not contend that it is a secured creditor. Nevertheless, the disposition
of the Stay Relief Motion is complicated by the threshold question of whether the
unpaid royalty funds are property of the estate or property of LL&E. LL&E maintains
that the Royalty Interest is a real property interest under Texas law, (LL&E Supplement
at 4), and the disputed funds are held in an express trust under the terms of the
Conveyance Agreement, (id. at 8), or in the alternative, in a constructive or resulting
trust under Texas law. (Id.) The Debtors contend that LL&E’s Royalty Interest is not an
interest in property but a mere contract right, (Debtors’ Supplement at ¶ 19), and any
unpaid royalties are unsecured claims. (See id. at ¶ 4 (describing LL&E as a “typical
prepetition, general unsecured creditor.”).)
Texas law is unclear. Older Texas authority distinguishes between an “overriding
royalty,” which the Conveyance Agreement purports to grant, and a “net profits royalty,”
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which it actually grants. 9 “An ‘overriding royalty’ is an interest in oil and gas produced
at the surface, free of the expense of production, and carved from the working interest
held under an oil and gas lease, rather than from the royalty reserved by a landowner on
the severance of the mineral estate.” T-Vestco Litt-Vada v. Lu-Cal One Oil Co., 651
S.W.2d 284, 291 (Tex. App. 1983, writ ref’d n.r.e.) (emphasis added). In contrast, “[a]
net profits interest is a share of gross production . . . [under which] the operator pays all
costs of exploration and development and, after satisfying such costs from the proceeds
of production, shares the profits on an agreed basis with the owner of the net profits
interest.” Id. (quoting 2 W ILLIAMS AND M EYERS , O IL AND GAS L AW § 424.1 at 439 (1981)).
The Conveyance Agreement requires LL&E to share in the costs of production, (see
Conveyance Agreement at § 1.18, at 6-10 & Ex. B (defining “Production Costs”)), and
hence, LL&E holds a net profits royalty.
While older cases treated a net profits interest as a contractual right rather than a
property interest, see LeBus v. LeBus, 269 S.W.2d 506, 510-511 (Tex. Civ. App. 1954,
writ ref’d n.r.e.), the current view seems to treat net profits royalty interests like true
overriding royalty interests as interests in realty. See Delta Petroleum General
Recovery Trust v. BWAB Ltd. Liability Co. (In re Delta Petroleum Corp.), Adv. Proc.
No. 12–50898 (KJC), at *8 n.17 (Bankr. D. Del. Apr. 2, 2015) (“There is some indication
in early cases, at least by way of dictum, that the [net profits] interest is a mere contract
interest. We believe, however, that a net profits interest should be treated in much the
9 	“[W]hether the interest created or reserved in an instrument is an overriding royalty or something
else depends upon the true nature and the wording of the particular conveyance which gives rise to the
interest. Calling an interest an overriding royalty would not be conclusive of its true status.” Delta
Drilling Co. v. Simmons, 338 S.W.2d 143, 146-47 (Tex. 1960).
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same manner as an overriding royalty and that it should be classified as an interest in
land.” (footnotes omitted) (quoting 2–4 W ILLIAMS & MEYERS , O IL AND GAS L AW § 424.1
(2014)); Madera Prod. Co. v. Atlantic Richfield Co., 107 S.W.3d 652, 659-60 (Tex. App.
2003) (“An action seeking royalty and overriding royalty in minerals is considered a suit
on real property interests for the purpose of fixing venue in suits for recovery of such
interests or damages thereto . . . [and a] suit seeking net profits interest based on
ownership of land is also an interest in land.” (emphasis in original) (citing T–Vestco,
651 S.W.2d at 292)); Parker v. Petro-Lewis Corp., 663 S.W.2d 905, 907-08 (Tex. App.
1983) (net profits interest in oil and gas lease is interest in land for venue purposes); see
generally 55A T EX. J UR . 3d, O IL & GAS § 348 (April 2017 Update) (oil and gas in place,
oil and gas leases and economic interests derived from them are interests in real
property).
Texas law also distinguishes between future royalties and accrued royalties. Once
oil or gas is extracted from the land it becomes personal property. Anadarko E & P Co.
v. Clear Lake Pines, Inc., No. 03-04-00600-CV, 2005 WL 1583506, *3 (Tex. App. July
7, 2005); Phillips Petroleum Co. v. Mecom, 375 S.W.2d 335, 339 (Tex. Civ. App. 1964);
Lone Star Gas Co. v. Murchison, 353 S.W.2d 870, 879 (Tex. Civ. App. 1962, writ ref’d
n.r.e.). Thus, even if future royalties (derived from unextracted oil or gas) are interests
in real property, “[r]oyalties accrue, and therefore become interests in personal
property, at the time the minerals are severed from the land.” Anadarko, 2005 WL
1583506, *3 (citations omitted).
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The Debtors have contributed to the confusion because they previously (and
successfully) took the position advocated by LL&E that they now oppose. 10 The Debtors
sought authority to make royalty payments in a “First Day” motion. (See Motion of
Debtors Pursuant to 11 U.S.C. §§ 105(a), 363(b), and 541 for Entry of Interim and Final
Orders (I) Authorizing Payment of All Funds Relating to Royalty Interests and (II)
Directing Financial Institutions to Honor and Process Checks and Transfers Related to
Such Royalty Interests, dated May 15, 2016 (the “Royalty Motion”) (ECF Doc. # 16.)
They argued that Royalty Interests (as defined in the Royalty Motion), which included
“net profits interests,” (id. at ¶ 14), were real property interests in most states in which
they operate, including Texas, (id. at ¶ 20), and were the property of the Royalty Interest
Holders. (Id. at ¶ 21.)
Hence, the proceeds were not property of the estate, (id. at ¶ 22), and the
automatic stay might not prevent the Royalty Interest Holders from enforcing their
rights in the royalty payments. (Id. at ¶ 23.) They asserted that “[t]he Debtors at most
hold bare legal title to the Royalty Payments held in the Royalty Accounts and hold no
legal title to the percentage of the oil and gas production attributable to the Royalty
Interest Holders.” (Id. at ¶ 26 (emphasis in original).) The Debtors asked the Court to
“hold that the Royalty Payments are not property of the Debtors’ estates . . . and [ ]
authorize the Debtors to make the Royalty Payments to the Royalty Interest Holders . . .
for obligations incurred prior to or after the Petition Date on account of the Royalty
Interests.” (Id. at ¶ 28.)
10 	LL&E has not argued that the Debtors are judicially estopped from taking the position they have
advanced in opposition to the Stay Relief Motion.
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The Royalty Motion acknowledged that under the law in three jurisdictions (but
apparently not Texas), the Royalty Interests might constitute property of the estate. (Id.
at ¶ 29.) Even in those situations, the debtors maintained that they should be
authorized to satisfy their pre-petition royalty obligations under the doctrine of
necessity. They argued that “such relief is necessary for the Debtors to carry out their
fiduciary duties under sections 1107(a) of the Bankruptcy Code.” (Id. at ¶ 31.)
Moreover, “taking into account the costs and risks associated with litigating the issue
and the importance of the Debtors’ ongoing relationships with its Royalty Interest
Holders, sound business reasons exist for granting the relief requested.” (Id. at ¶ 34.)
The Court granted the Royalty Motion without opposition. (Interim Order
Pursuant to 11 U.S.C. §§ 105(a), 363(b), and 541 (I) Authorizing Payment of All Funds
Related to Royalty Interests and (II) Directing Financial Institutions to Honor and
Process Checks and Transfers Related to Such Royalty Interests, dated May 17, 2016
(ECF Doc. # 38); Final Order Pursuant to 11 U.S.C. §§ 105(a), 363(b), and 541 (I)
Authorizing Payment of All Funds Related to Royalty Interests and (II) Directing
Financial Institutions to Honor and Process Checks and Transfers Related to Such
Royalty Interests, dated June 15, 2016 (ECF Doc. # 135).)
In conclusion, whether accrued net profits royalties are property of the royalty
interest holder under Texas law appears to be unsettled even in the minds of the
Debtors. The Court does not decide the issue, and its unsettled nature informs to some
extent the disposition of the Stay Relief Motion. In this regard, although the parties
treat the Stay Relief Motion as an “all or nothing” proposition, the Court views it as
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consisting of two discrete branches: Count One and the Tort Counts. I now turn to the
consideration of each branch.
3. 	Count One
The Texas Petition seeks a declaration of the rights of the parties under the
Conveyance Agreement. The Texas Petition is not stayed, and Count One is the flip side
of the Texas Petition. The question common to both claims is whether QRE properly
withheld LL&E’s share of the net profits under the terms of the Conveyance Agreement.
Stay relief will result in a complete resolution of this issue, (Sonnax Factor # 1), and
promote the interests of judicial economy and the expeditious and economical
resolution of the issue. (Sonnax Factor # 10.) In addition, although the contract dispute
is connected to the bankruptcy cases, the litigation of that dispute will not interfere with
the cases, (Sonnax Factor # 2), or prejudice the other creditors. (Sonnax Factor # 7.)
The Debtors have already taken the position (which the Texas court may nonetheless
reject) that the net profits royalties are not property of the estate that can be used to pay
other creditors. Furthermore, the Debtors appear to owe LL&E fiduciary duties under
Texas law (Sonnax Factor # 3). See Luecke v. Wallace, 951 S.W.2d 267, 274 (Tex. App.
1997) (“An executive owes nonparticipating royalty interest owners a duty of utmost
good faith. This duty is a fiduciary duty arising from the relationship of the parties and
not from contract. The ‘duty requires the holder of the executive right . . . to acquire for
the non-executive every benefit that he exacts for himself.’”) (internal citations omitted)
(citing and quoting Manges v. Guerra, 673 S.W.2d 180, 183 (Tex. 1984)).
In addition, although the Texas court is technically not a specialized tribunal,
(Sonnax Factor # 4), the question of whether LL&E holds a property right or a mere
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unsecured contract claim in the amount of unpaid net profits is unsettled under Texas
law, and the determination of the Texas courts will assist this Court and ultimately
contribute to a resolution of the dispute. See City Ins. Co. v. Mego Int’l Inc. (In re Mego
Int’l, Inc.), 28 B.R. 324, 326 (Bankr. S.D.N.Y. 1983) (“A [bankruptcy] court may . . .
allow a suit commenced in state court to proceed in that forum if a decision in that suit
requires judicial interpretation of intricate or ambiguous state law or resolution of
unsettled state law questions, such functions being more properly within the expertise of
a state court.”); Terry v. Johnson (In re Terry), 12 B.R. 578, 583 (Bankr. E.D. Wis. 1981)
(finding cause to vacate the automatic stay where a plaintiff asserted claims based on a
novel state law theory that raised “serious public policy questions”).
Finally, the balance of harms weighs in favor of LL&E. (Sonnax Factor # 12.)
The Royalty Motion acknowledged that the estate had no legal right to withhold the
payment of non-estate funds to the Royalty Interest Holders. In fact, the debtors argued
that even if the Royalty Interests were estate property, it was still critical to pay the
Royalty Interest Holders under the doctrine of necessity. Thus, the liquidation of
LL&E’s claim, if any, to unpaid royalties will assist the Debtors in the performance of
their duties, and will obviously benefit LL&E.
Some of the Sonnax Factors concededly militate against the granting of stay
relief. Count One does not primarily involve third parties. (Sonnax Factor # 6.) The
Debtors rather than an insurer will bear the cost of the litigation. (Sonnax Factor # 5.)
Lastly, the parties are not ready for trial. (Sonnax Factor # 11.)
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On balance, however, the Court concludes that Count One should be litigated
along with QRE’s unstayed declaratory judgment claim in Texas. Accordingly, stay relief
is granted to allow the Texas courts to determine the parties’ rights under the
Conveyance Agreement, and in particular, whether and to what extent LL&E owns or
holds a beneficial or other interest in the net profits, or alternatively, is an unsecured
creditor in the amount of the accrued, unpaid net profits. Following the disposition of
the issues by the Texas court, the parties should return to this Court to determine the
appropriate remedy under bankruptcy law. Nothing in this decision authorizes relief
from the stay to recover any property or receive payment.
4. 	The Tort Counts
I reach a different conclusion with respect to the Tort Counts. The Tort Counts
assert unsecured claims against the Debtors (and Quantum) among others, and most of
those claims have nothing to do with the contract dispute underlying the Conveyance
Agreement. Forcing the Debtors to bear the costs and disruptions involved in
liquidating these unsecured claims before knowing what distribution will be made to
unsecured creditors unnecessarily interferes with the bankruptcy cases and prejudices
the unsecured creditors. (Sonnax Factors ## 2, 5, 7.) Further, in contrast to the
property issues discussed earlier, the Tort Counts do not present difficult issues of Texas
law. (See Sonnax Factor # 4.) In addition, the Tort Counts do not primarily involve
third parties, (Sonnax Factor # 6), and are not ready for trial. (Sonnax Factor # 11.)
Moreover, the automatic stay does not prevent LL&E from prosecuting Causes of
Action Two through Five (which are not directed at the Debtors) and the Tort Counts
against the other non-debtor counterclaim defendants, while pursuing its unsecured
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claim against the Debtors through the claims allowance process. Further, the automatic
stay does not protect the Debtors from pre-trial discovery in the Texas Litigation. See In
re Residential Capital, LLC, 480 B.R. 529, 537 (Bankr. S.D.N.Y. 2012) (“[S]ection
362(a) does not, standing alone, protect the Debtors from discovery in third-party
actions.”); Groner v. Miller (In re Miller), 262 B.R. 499, 505 (B.A.P. 9th Cir. 2001)
(“[S]ection 362(a) does not preclude generation of information regarding claims by or
against a non-debtor party, even where that information could eventually adversely
affect the Debtor.”).
I recognize that this bifurcation may not be the most economical method of
resolving issues common to the Debtors and non-debtor counterclaim defendants.
(Sonnax Factor # 10.) But if joining a debtor as a defendant in a multi-defendant case
meant that judicial economy always mandated stay relief, this factor would subsume the
other Sonnax Factors in many cases, and force a debtor to defend against unsecured
claims possibly in multiple venues. Instead, the balance of harms tips decidedly in favor
of the Debtors. (Sonnax Factor # 12.) LL&E remains free to pursue its unstayed claims
against the non-debtor counterclaim defendants and file a proof of claim in this Court,
while the Debtors avoid the time and expense of participating in a trial involving
numerous parties when the ultimate distribution to the unsecured class may prove that
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the value of the claim in “bankruptcy dollars” is not worth the expense to either party of
litigating it.
Settle order on notice.
Dated: New York, New York
April 14, 2017
/s/ Stuart M. Bernstein
STUART M. BERNSTEIN
United States Bankruptcy Judge
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