The Texas Supreme Court on Friday corrected what it called a “cascade of errors” and reversed a $6.1 million verdict in favor of Rainbow Energy Marketing in its dispute with American Midstream over a contract to ship gas on the Magnolia natural gas pipeline.
Justice James P. Sullivan authored the unanimous 8-0 opinion for the court. Justice John P. Devine did not participate in the decision. Justice Sullivan, who was appointed to the court by the governor in January after serving as his general counsel, started the 24-page opinion by quoting a 1996 Texas Supreme Court opinion authored by then-Justice Greg Abbott in Tenneco Inc. v. Enterprise Products Company.
“‘We have long held that courts will not rewrite agreements to insert provisions parties could have included or to imply restraints for which they have not bargained,’” he wrote, quoting the 1996 holding. “The courts below impermissibly blue-penciled extra words into Section 9.1 of the MAG-0005, which is the contract that gave rise to this dispute between American Midstream LLC and Rainbow Energy Marketing Corporation.”
Haynes Boone partner Mark Trachtenberg, who represents American Midstream, called the ruling a “decisive win” and a “strong affirmation of Texas contract law,” he said.
“The Court’s opinion reinforces that parties are bound by the words they agree to, not by terms added later through litigation.”
Harris County District Court Judge Tanya Garrison, who presided over a bench trial in the case, entered final judgment in Rainbow’s favor in November 2019, finding for Rainbow on all of its claims — breach of contract, repudiation, fraud, fraudulent inducement and negligent misrepresentation.
Justice Sullivan explained that “three consequences flow from correcting the trial court’s interpretation of” the contract. The state’s high court ordered a new trial take place on the breach of contract claims, rendered judgment for American Midstream on the contract repudiation claim and rendered judgment for American Midstream on Rainbow’s claims of fraud, fraudulent inducement and negligent misrepresentation.
According to the opinion, Rainbow, a gas-trading company, entered into a contract called the MAG-0001 with American Midstream in 2014, that allowed it to transport gas through the Magnolia pipeline, which American Midstream owns.
“To transport gas, Rainbow electronically nominated (or scheduled) with AMID an equal amount of gas to enter and exit the Magnolia,” the opinion reads. “AMID would schedule a corresponding amount of gas to flow into the connected Transco pipeline on Rainbow’s behalf. Rainbow could then withdraw gas from the Transco and sell it to a downstream customer.”
MAG-0001 required Rainbow to put into the Magnolia pipeline an amount of gas equal to what it withdrew, and it also required American Midstream to accept Rainbow’s nominations unless the agreement stated otherwise. Because of that requirement on American Midstream, the agreement is what’s known as “firm,” rather than “interruptible,” which allows a pipeline to refuse a shipper’s nomination for any reason.
American Midstream separately had an agreement with Transco under which it was allowed to maintain what’s called a “single-point imbalance” at the Magnolia-Transco interconnect, which occurred when American Midstream would schedule a certain amount of gas to flow into the Transco, but a different amount of gas physically flowed across the interconnect, according to the opinion.
And under that agreement, Transco had authority to limit the single-point imbalance if it either exceeded 5 percent of confirmed nominations at the interconnect and created “operational concerns in either [p]arty’s sole discretion.”
In February 2015, Rainbow wanted to “leverage” American Midstream’s balancing flexibility and the parties entered their own balancing agreement, called the MAG-0005, that allowed Rainbow to transport gas through two interconnected pipelines: the Transco and the Magnolia.
“But Rainbow never used the MAG-0005 to transport gas,” the court explained. “Rather, the parties designed the MAG-0005 to provide balancing services, and that is how Rainbow used it.”
The agreement required that by the end of each month, Rainbow had to resupply the Magnolia to be in balance with the amount of gas it withdrew, but enabled it to run an imbalance — meaning Rainbow could withdraw gas to sell when prices were high, and resupply the pipeline when prices fell.
There were two scenarios under the agreement where American Midstream would be excused from providing balancing services to Rainbow, according to the opinion: if Transco required either company to limit imbalances attributable to Rainbow, or if Transco required American Midstream to limit single-point imbalances at the Magnolia-Transco interconnect that were attributable to rainbow.
“Pipelines must limit physical imbalances because if there is too much or too little gas in a pipeline, it may rupture or stop flowing,” the opinion explains, and Transco could accomplish that by issuing what’s called an operational flow order, or OFO. “… The parties operated smoothly under the MAG-0005 for almost a year until Transco started limiting imbalances more strictly.”
In January 2016, American Midstream told Rainbow that it couldn’t provide balancing services because of a Transco OFO, and on other days throughout that year American Midstream advised Rainbow “to limit its out-of-balance nominations.”
In December 2016, Rainbow and American Midstream held a conference call to discuss “Transco’s stricter stance on limiting imbalances” and its impact on MAG-0005. Over the next month, the parties continued operating under the deal and one day, American Midstream told Rainbow it couldn’t provide balancing services.
So, in February 2017, Rainbow terminated the agreement, stopped making payments under it and filed a lawsuit against American Midstream, bringing claims for breach of contract, repudiation, fraud, fraudulent inducement, and negligent misrepresentation. Rainbow was seeking $6 million in lost profits based on what it said was American Midstream’s “unreliable performance” under the deal. American Midstream counterclaimed for breach of contract.
At trial, Rainbow said its business model under the agreement was based on making “forward trades,” where Rainbow would promise to sell gas on a future date at a set price and promise to buy gas on a future date at a set price to fulfill “forward sales contracts.” It gave Rainbow certainty it could fulfill its obligations to customers while also guaranteeing profit, according to the opinion.
But after American Midstream began limiting Rainbow’s nominations in January 2016, company representatives testified, Rainbow couldn’t rely on MAG-0005 “to fulfill forward sales contracts.” That cost Rainbow $6 million in lost profits, the company alleged.
Judge Garrison ruled in favor of Rainbow on all claims, finding American Midstream breached by refusing to provide balancing services on certain days, that it repudiated the agreement with Rainbow based on statements made in the conference call about limiting balancing services “to stay under Transco’s radar,” and that American Midstream had committed fraud and fraudulent inducement by representing that it could provide a firm balancing service.
“Judges cannot write language into a contract that the parties did not include themselves,” Justice Sullivan wrote. “That’s what the trial court did here, erroneously inserting language into Section 9.1 of the MAG-0005. We hold that, under a proper interpretation of Section 9.1, AMID was excused from providing balancing services on any day that Transco required AMID or Rainbow to limit imbalances attributable to Rainbow. The plain language of the parties’ agreement didn’t limit the type of imbalance that would excuse AMID’s performance, so neither can we.”
The Texas Supreme Court held that American Midstream had not made any false statements regarding its ability to provide “firm” balancing services subject to the limitations outlined in the agreement and also found there was “legally insufficient evidence” that American Midstream had repudiated the agreement based on comments made during the conference call.
“AMID did not repudiate the MAG-0005 by communicating its sound reading of that contract to Rainbow,” the opinion reads.
The Texas Supreme Court also concluded that Rainbow had improperly been awarded “speculative lost-profit damages.”
“It is undisputed that Rainbow, even before AMID’s alleged breach, never used the daily market or the MAG-0005 to fulfill forward sales contracts,” the court wrote. “Rather, Rainbow solely used the MAG-0005 to make daily trades—withdrawing gas from the Magnolia to sell when prices spiked and then later resupplying when prices fell. Rainbow points us to no evidence that, in its twenty-five-year existence, it has ever engaged in the strategy for which it now seeks to recover.”
American Midstream filed notice it was appealing Judge Garrison’s judgment in November 2019.
The First Court of Appeals in Houston issued a 2-1 opinion affirming the trial court in April 2023, holding Judge Garrison had correctly interpreted the contract and that there was sufficient evidence supporting the findings of breach and lost profits.
In a 33-page dissent, Justice April Farris wrote that “Texas courts are not authorized to rewrite agreements to insert provisions that the parties could have included or to imply limitations for which the parties have not bargained.”
“I conclude that the trial court misconstrued a key provision of the parties’ unambiguous MAG-0005 agreement by inserting limiting qualifiers that changed the terms of the parties’ bargain. … Because this misconstruction was instrumental to the trial court’s resolution of the claims in the case, I respectfully dissent,” she wrote. “I would reverse and render judgment for AMID in part and remand for a new trial in part.”
The Texas Supreme Court granted American Midstream’s petition for review in October and heard oral arguments in January.
American Midstream is represented by Polly Fohn and Kaylen Strench of Haynes Boone and Cody Lee Vaughn of Jackson Walker.
Rainbow Energy is represented by R. Alan York, Kenneth E. Broughton and Christopher B. Donovan of Reed Smith.
The case number is 23-0384.