CHAPTER 8 ETHICS AND LIABILITY IN NEGOTIATING OIL AND GAS AGREEMENTS

• Jurisdiction: United States

Oil and Gas Agreements: Sales and Financings
(May 2006)
CHAPTER 8
ETHICS AND LIABILITY IN NEGOTIATING OIL AND GAS AGREEMENTS
Susan Saab Fortney
George H. Mahon Professor of Law
Texas Tech University School of Law
Lubbock, Texas
Bruce M. Kramer
Maddox Professor of Law
Texas Tech University School of Law
Lubbock, Texas

BRUCE M. KRAMER

Bruce M. Kramer received a B.A. in International Relations from UCLA, a J.D. from the UCLA School of Law, and an L.L.M. in Environmental and Natural Resources Law from the University of Illinois College of Law. He has been teaching at Texas Tech University School of Law since 1974 and has been the Maddox Professor since 1992. Professor Kramer is the co-author of The Law and Pooling and Unitization (3d ed.), Williams and Meyers Oil and Gas Law (since 1996, Cases and Materials on Oil and Gas Law (6th and 7th eds.) and International Petroleum Transactions. He is the author of numerous law review articles on oil and gas law including "The Sisyphean Task of Interpreting Mineral Deeds and Leases: An Encyclopedia of Canons of Construction and Royalty Interests in the United States: Not Cut From the Same Cloth." He has been an editor of the Oil and Gas Reporter and was recently named the administrative editor of that publication.

SUSAN S. FORTNEY

Susan Saab Fortney serves as the George H. Mahon Professor of Law at Texas Tech University School of Law. Prior to joining the faculty, Professor Fortney practiced law in both the public and private sectors. She first served as briefing attorney for Chief Justice Carlos Cadena of the Texas Court of Appeals of Texas. She continued her public service as an attorney with the Division of Corporation Finance and the Division of Enforcement at the U.S. Securities and Exchange Commission. Thereafter, Professor Fortney entered private practice, handling securities and corporate matters. With that background, she developed an expertise in business and coverage litigation, principally handling legal malpractice and directors and officers liability cases. Professor Fortney's research and writing focuses on law firm governance and ethics. She has conducted various empirical studies on law firm ethics and governance. In 2005 she conducted a national cross-profession study of lawyers practicing in law firms, as well as corporate and government officers. The study, funded by the National Association for Law Placement Foundation, analyzed work-life conflicts and employer best practices. Professor Fortney works with numerous state, national, and international programs including the Fulbright Program and the Supreme Court of Texas Task Force on the Texas Disciplinary Rules of Professional Conduct.

I INTRODUCTION

Recently, the question of truth and lies captured national headlines. The fabricated memories of James Frey, the author of the best-selling novel, A Million Little Pieces, triggered a debate on the role and acceptability of lies. Some commentators resisted the temptation to condemn Frey, arguing that people lie everyday. Others rejected the assumption that "lying is OK because everyone does it." These critics asserted that trust requires truth.

For many lawyers, negotiation ethics also involves drawing lines between tolerable conduct and condemnable misrepresentations. In considering this line-drawing and the propriety of negotiations conduct, a practitioner should ask various questions. First, a practitioner should ask whether the conduct is proper under applicable ethics codes. The second consideration is whether the conduct is legal under applicable statutory provisions and common law principles. The third question asks whether the conduct is acceptable and advisable in the professional and business communities in which the lawyer functions. This paper tackles these questions. Section II discusses the applicable ethics code provisions that relate to negotiations. Section III focuses on civil liability concerns of lawyers handling sales and purchase agreements. Section IV discusses select situations involving lawyer conduct and the tension between a lawyer's duty to preserve client confidentiality and duty to reveal information. Finally, the conclusion comments on the business and reputation dimensions of adopting a particular role as a negotiator.

II DISCIPLINARY LIABILITY

The starting point in considering ethical conduct is to look at the disciplinary rules that state the minimum standards for lawyers to avoid discipline by state regulatory authorities charged with enforcing the provisions of the disciplinary rules. The current disciplinary rules in the vast majority of states are largely based on the ABA Model Rules of Professional Conduct, first adopted by the American Bar Association (ABA) in 1983. Between 2001 and 2003, the ABA House of Delegates adopted numerous revisions to the Model Rules. Immediately following the ABA action on the revisions, individual states began the process of evaluating the revisions for inclusion in state ethics codes. The following discussion of applicable ethics code provisions will discuss the principal Model Rules that apply to negotiations conduct.

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Commentators who discuss negotiations ethics often start by dissecting the provisions of Model Rule 4.1 -- Truthfulness in Statements to Others.¹ As provided in Model Rule 4.1, a lawyer who is representing a client, "shall not knowingly (a) make a false statement of material fact or law to a third person, or (b) fail to disclose a material fact when disclosure is necessary to avoid assisting a criminal or fraudulent act by a client, unless disclosure is prohibited by Model Rule 1.6. [the client confidentiality rule]."² According to the terminology section of the Model Rules, "knowingly" denotes "actual knowledge of the fact in question."³ Therefore, a mere suspicion does not charge the lawyer with the requisite knowledge and disclosure duty under Model Rule 4.1. Although commentators urged the ABA Ethics 2000 Commission ("Ethics 2000 Commission") to clarify the candor provisions under Model Rule, 4.1, the Ethics 2000 Commission did add language to the Comments following Model Rule 4.1.⁴ These comments provide additional guidance in explaining the reach of the rule.

Comment 2 following Model Rule 4.1 notes that the determination of whether a particular representation is a "statement of fact" will turn on the circumstances. Comment 2 then includes the following observation:

Under generally accepted conventions in negotiation, certain types of statements ordinarily are not taken as statements of material fact. Estimates of price or value placed on the subject of a transaction and a party's intentions as an acceptable settlement of a claim are ordinarily in this category, and so is the existence of an undisclosed principal except where nondisclosure of the principal would constitute fraud. [emphasis added].⁵

The ABA Ethics 2000 Commission added the word "ordinarily" to the sentence that explains that estimates of price or value may not be viewed as statements of material fact. The ABA Ethics 2000 Commission also added the following sentence to Comment 2: "Lawyers should be mindful of their obligations under applicable law to avoid criminal and tortious misrepresentation."⁶ Professor Carrie Menkel-Meadow, the nation's leading expert on negotiations ethics, maintains that these comment changes make explicit that substantive fraud and "other applicable law" may, in fact "trump" the general language of Model Rule 4.1.⁷ Professor Menkel-Meadow also suggests that changes to Comment 1 recognize that partially true, but misleading statements, as well as failure to act, may also constitute misrepresentation under some state or other laws if they are "the equivalent of affirmative false statements."⁸ Finally, Professor Menkel-Meadow notes that changes in Comment 3

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reflect a "growing consensus that lawyers have an increasing duty to reveal client crimes and fraud when necessary to prevent physical and some economic harm, and to either withdraw from representation or to rectify certain crimes or frauds."⁹

Other changes made by the ABA Ethics 2000 Commission reflect the "growing consensus" related to lawyers' ability to disclose confidential information to prevent future financial harms to the interests of others. Although the ABA initially rejected amendments that would permit lawyers to disclose confidential information to prevent substantial financial harm to the interests of others, the ABA later amended Model Rule 1.6 following Congressional enactment of the Sarbanes-Oxley legislation.¹⁰ These amendments to Model Rule 1.6 now state that a lawyer may reveal confidential client information to the extent that the lawyer reasonably believes necessary:

(2) to prevent the client from committing a crime or fraud that is reasonably certain to result in substantial injury to the financial interests or property of another and in furtherance of which the client has used or is using the lawyer's services; and

(3) to prevent, mitigate or rectify substantial injury to the financial interests or property of another that is reasonably certain to result or has resulted from the client's commission of a crime or fraud in furtherance of which the client has used the lawyer's services. (emphasis added). ¹¹

The new permissive exceptions under Model Rule 1.6 must be read in conjunction with the provisions of Model Rule 4.1(b). Model Rule 4.1(b) requires that lawyers disclose material facts when disclosure is necessary to avoid assisting a criminal or fraudulent act by a client, unless disclosure is prohibited by Model Rule 1.6.¹² Because Model Rule 1.6 now includes exceptions allowing lawyers to disclose information related to certain substantial financial injury, lawyers now have duty to disclose such information to avoid assisting a criminal or fraudulent act by a client.¹³

These changes are significant to negotiators because they...