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Business, Banking and Contracts No. 01-0836, 7/3/2003. Click here for the full text of this decision FACTS: The trial court certified a class consisting of gas royalty owners in Crockett County who claim that lessees breached an implied duty to “obtain the best current price reasonably obtainable.” The court of appeals affirmed. As certified, the class includes some royalty owners whose leases calculate royalty payments on an amount-realized (or proceeds) basis and other royalty owners whose leases calculate royalty payments based on current market value. HOLDING: Reversed and remanded. The court concludes that certification is improper because none of the issues identified in the trial plan satisfy the commonality requirement of Texas Rule of Civil Procedure 42. The court notes that “the threshold for commonality is not high.” Phillips Petroleum Co. v. Bowden, ___ S.W.3d ___ (Tex. App. – Houston [14th Dist.] 2003, no pet. h.). Yet it does require at least one issue of law or fact “that inheres in the complaints of all class members.” A common issue must also be “applicable to the class as a whole” and be “subject to generalized proof.” Nichols v. Mobile Bd. of Realtors Inc., 675 F.2d 671 (5th Cir. 1982). Even under the commonality requirement’s low threshold, the court concludes that not one of the enumerated issues both “inheres in the complaints of all class members” and is “subject to generalized proof.” Questions (4), (5), (7) and (8) ask specifically whether the defendants “breached the implied covenant to reasonably market” by failing to obtain arm’s length prices. Since Yzaguirre v. KCS Res. Inc., 53 S.W.3d 368 (Tex. 2001), held that market-value leases have no such implied covenant, these questions cannot satisfy the commonality requirement in a class that includes proceeds leases and market-value leases. Questions (1), (2), (3), (6) and (9) question whether UPRG engaged in a sham transaction by charging its affiliates a preferential price. Question (3), though it appears to ask whether the royalty owners themselves were charged a marketing fee, actually questions the propriety of a marketing fee allegedly paid by Union Pacific to its affiliates. The royalty owners argue that the marketing affiliate did nothing to earn the fee, but that the fee was a sham which only served to decrease the amount of money that Union Pacific appeared to receive from its sales. Again, however, these inter-affiliate transactions do not determine the amounts owed under market-value leases – under a market-value lease the producer need not attempt to obtain the best price available. A producer could provide its affiliate with gas at any price it chose, but the royalty owners would be protected because their payments would be “based on the prevailing market price at the time of sale.” Similarly, the producer could choose to pay its affiliates a marketing fee, and this payment would not reduce the gas price that it was obligated to pay the lessors – the inter-affiliate transaction might reduce the proceeds it purported to receive, but it could not reduce the objective market value of the gas. Thus, the question under a market-value lease would be whether the lessees paid royalties based on market value, while the question under a proceeds lease would be whether the proceeds actually received by the lessee were a fraud or a sham. These are different inquiries. Under some circumstances, a reasonable marketer may sell gas for more or less than market value, as when a lease is subject to a long-term purchase contract. As the court has previously noted, there is no “absolute duty to sell gas at market value under a ‘proceeds’ royalty clause.” Amoco Prod. Co. v. First Baptist Church, 611 S.W.2d 610 (Tex. 1980) (per curiam). The royalty owners argue that the distinction between market-value leases and proceeds leases is immaterial here. Specifically, they assert that in this case market value is equal to the best price reasonably attainable, and that both are equal to the amount that Union Pacific affiliates received from third-party purchasers. Whether these prices are in fact equal, however, is a question that remains to be proven. The question before the court at this time is merely whether such unity of value can be established through common proof, and the court holds that it cannot. This lack of commonality becomes clear if the court hypothesizes that the royalty owners are able to establish at trial that the affiliate transactions were a sham. Could the trial court then infer that the third-party sale price represented market value and the best price reasonably attainable? No, because the marketing affiliates may have been able to receive a price higher than market value, either through a long-term contract as in Yzaguirreor simply through extraordinary negotiation and sales efforts that exceeded the results reasonably obtainable by an ordinary lessee. Under this scenario, the proceeds owners would be entitled to share in the lessee’s good fortune, while market-value owners would not be. Conversely, the third-party sale price might conceivably be lower than market value, in which case the proceeds owners would receive less than the market-value owners. Consequently, a finding that Union Pacific engaged in a sham transaction might affect the outcome of the proceeds owners’ claims, but would not determine its liability to the market-value owners. Further analysis would be needed to determine whether market-value owners were indeed paid market value. Consequently, neither questions addressing the purported breach of the covenant to reasonably market nor questions addressing the price differential between the affiliate transactions and third-party sales can serve as common questions uniting a single class. Finally, Questions (10) and (11) deal with possible defenses, including the catch-all category of “other defenses.” The royalty owners have not argued that these two issues are “applicable to the class as a whole” and “subject to generalized proof.” Consequently, the court does not determine whether these issues, standing alone, can establish sufficient commonality on which to base a single class. OPINION: Phillips, C.J., delivered the opinion of the court.

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