Nauru Phosphate Royalties, Inc. v. Drago Daic Interests, Inc.

• Decision Date: 31 March 1998
• Docket Number: No. 97-20279,97-20279
• Parties: NAURU PHOSPHATE ROYALTIES, INCORPORATED, (Texas), Plaintiff-Appellee, v. DRAGO DAIC INTERESTS, INCORPORATED, Defendant-Appellant.
• Court: U.S. Court of Appeals — Fifth Circuit

Page 160

138 F.3d 160

NAURU PHOSPHATE ROYALTIES, INCORPORATED, (Texas), Plaintiff-Appellee, v. DRAGO DAIC INTERESTS, INCORPORATED, Defendant-Appellant.

No. 97-20279.

United States Court of Appeals, Fifth Circuit.

March 31, 1998.

Rehearing and Suggestion for Rehearing En Banc Denied April

29, 1998.

Stephen K. Carroll, Joy M. Soloway, Fulbright & Jaworski, Houston, TX, for Plaintiff-Appellee.

John W. Berkel, Houston, TX, for Defendant-Appellant.

David Michael Gunn, Holman, Hogan, Dubose & Townsend, Houston, TX, for Montgomery 666, Ltd. and Drago Daic Interests, Inc., Amici Curiae.

Appeal from the United States District Court for the Southern District of Texas.

Before HIGGINBOTHAM and STEWART, Circuit Judges, and WALTER ^*, District Judge.

PATRICK E. HIGGINBOTHAM, Circuit Judge:

Drago Daic Interests, Inc. appeals a district court order confirming the award granted to Nauru Phosphate Royalties (Texas), Inc. in an arbitration proceeding. The arbitration panel determined that DDI materially breached the Development Agreement between Nauru and DDI and held the beneficiaries of the agreement, Drago Daic, Trustee, and Montgomery-666, bound by its award. This case asks us to determine whether Nauru's liability on the Promissory Note was properly before the arbitration panel. We hold that the arbitration panel did not exceed its authority in ruling on Nauru's liability on the Promissory Note and AFFIRM the district court's judgment. We reject any suggestion that because Daic Trustee and M-666 were not parties to the arbitration or to this case, the breach of the Development Agreement and Nauru's consequent non-liability on the Promissory Note were beyond the reach of the arbitration. Finally, the district court did not err in concluding that DDI was responsible for Nauru's loss of reimbursement funds for 122 lots and for cost overruns incurred in excavating a drainage ditch.

I.

In 1990, Nauru Phosphate Royalties, Inc., a Delaware corporation, entered into a sale and development agreement with three parties--(i) Drago Daic Interests, Inc., (ii) Drago Daic, Trustee, and (iii) Montgomery 666, Ltd. Nauru purchased 668 acres in Montgomery County, Texas, from Daic Trustee and M-666 for $5 million in cash and an $8 million Promissory Note. The Promissory Note was secured by a Deed of Trust lien on the land being sold. Nauru agreed to retain DDI, as developer, to develop the land into an up-scale residential housing subdivision, called Bentwood, with a country club, golf course and the like.

The Development Agreement and Promissory Note, when read together, set up the following arrangement: Nauru was to fund all monies necessary for the development project and be reimbursed for all of its expenditures in a given calendar year from that year's revenue. If expenditures exceeded revenues, no payments would be made other than to Nauru. Only if revenues exceeded expenditures would payment be made on the Promissory Note. This was to continue until the Promissory Note was fully paid or the project sold, whichever came first. Stated directly, in the event that revenues did not exceed expenditures, the noteholders, Daic Trustee and M-666, would not be entitled to payment on the Promissory Note.

The project began in 1990 and continued into 1995. The property never achieved enough cash flow to pay current expenses, much less reimburse Nauru or make any payments on the Promissory Note. DDI was dissatisfied with Nauru's timeliness of funding, Nauru was unhappy about the costs and expenses, and the noteholders, Daic Trustee and M-666, were unhappy about not being paid. Eventually, Nauru gave notice of intent to terminate DDI as developer and instituted an arbitration proceeding.

In the arbitration, Nauru claimed DDI fraudulently induced Nauru to enter into the transaction and to continue development with various cost overruns. In addition, Nauru claimed that DDI materially breached the Development Agreement and sought indemnification from DDI for any liability on the contingent, non-recourse Promissory Note to Daic Trustee and M-666. DDI counterclaimed that Nauru's actions caused the project to fail. DDI also sought to recover "profits" which assertedly were due.

In 1996, the arbitration panel (2-1) determined that DDI had committed thirteen material breaches of the Development Agreement between the parties, and Nauru had committed three non-material breaches of the Development Agreement. The panel responded to Nauru's claim for indemnification of any liability on the Promissory Note by deciding that Nauru had no further liabilities to DDI under the Development Agreement and that Nauru had no liability for payment of the $8 million Promissory Note. This Note was executed by Nauru and payable to the noteholders, Drago Daic, Trustee and Montgomery-666, who were not parties to the arbitration proceeding. Finally, the panel decided that DDI was liable to Nauru for over $1.8 million as a result of DDI's material breaches of the Development Agreement.

Nauru then filed an action in district court to confirm the arbitration award. DDI moved to dismiss for lack of jurisdiction and also moved to vacate or modify the award. The district court denied the motion to dismiss and referred the matter to a magistrate judge, who recommended that the award be confirmed. In 1997, the district court accepted the magistrate judge's findings and recommendations and confirmed the arbitration award. This appeal followed.

II.

We must first determine if there is federal jurisdiction. DDI contends that the district court erred in sustaining federal jurisdiction on the basis of diversity of citizenship. ¹

DDI is a Texas corporation with its principal place of business in Texas and Nauru is a Delaware corporation. Complete diversity turns here on the location of Nauru's principal place of business. Nauru argues that its principal place of business is in Australia or Nauru, a small island republic in the south Pacific. DDI argues Nauru's principal place of business is in Texas.

This court applies a "total activity" test to determine the principal place of business. J.A. Olson Co. v. City of Winona, Miss., 818 F.2d 401, 411-12 (5th Cir.1987). We look to the nature, location, importance, and purpose of a corporation's activities and the degree to which those activities bring the corporation into contact with the local community. Id. Three general principles drawn from the insights of Professor Wright guide the inquiry (see Wright, Federal Courts § 27, at 167-68 (5th ed.1994)):

(1) when considering a corporation whose operations are far flung, the sole nerve center of that corporation is more significant in determining principal place of business; (2) when a corporation has its sole operation in one state and executive offices in another, the place of activity is regarded as more significant; but (3) when the activity of a corporation is passive and the "brain" of the corporation is in another state, the situs of the corporation's brain is given greater significance.

Olson, 818 F.2d at 411 (citations omitted).

DDI asserts that the second Olson principle is applicable and locates Nauru's principal place of business in Texas because, even if its offices are in Nauru, its sole operations are in Texas. Nauru contends the third Olson principle is applicable and establishes its principal place of business in Nauru or Australia because its investment in Bentwood is passive and the bulk of the corporation's activities involve managing its affairs from its nerve center in Nauru or Australia. Thus, the critical inquiry involves the nature and quality of Nauru's activities with regard to Bentwood.

The district court determined that at the time this action was filed Nauru was a passive investor in land and its primary activities were management-oriented. This determination is supported by the record which indicates that Nauru's nerve center or "brain" is in Nauru or Australia, not in Texas. Bentwood is the only investment asset of Nauru, which was formed for the sole purpose of acquiring this asset. Nauru had four members on its board of directors, each of whom is a citizen of and resides in Nauru. Nauru has three officers--a president, a treasurer/ secretary and an assistant secretary. The president resides in Nauru, the treasurer/secretary resides in Australia, and the assistant secretary resides in Houston, Texas. Nauru maintains its offices and staff in Nauru and Australia. The assistant secretary functioned as a conduit of information to the directors and other officers in Australia and Nauru, and the Nauru Board and its officers made substantive and managerial-level decisions.

The single exception to the lack of significant operations at Bentwood is the Bentwood Country Club which includes the golf course and restaurant/bar and generates a significant amount of gross revenue. The country club is operated by two wholly-owned subsidiaries of Nauru--the Bentwood Country Club, Inc. and Bentwood Private Club, Inc.

Other circuits have held that the operations of a subsidiary are not to be imputed to a parent company for purposes of locating the parent's principal place of business, at least so long as the subsidiary is not the alter ego of the parent. Taber Partners, I v. Merit Builders, Inc., 987 F.2d 57, 61-63 (1st Cir.) cert. denied, 510 U.S. 823, 114 S.Ct. 82, 126 L.Ed.2d 50 (1993); Danjaq, S.A. v. Pathe Communications Corp., 979 F.2d 772, 774-76 (9th Cir.1992); Pyramid Sec. Ltd. v. IB Resolution, Inc., 924 F.2d 1114, 1120 (D.C.Cir.), cert. denied, 502 U.S. 822, 112 S.Ct. 85, 116 L.Ed.2d 57 (1991). This court has attributed a subsidiary's citizenship to its parent company in alter ego situations where the subsidiary's wrongful conduct is at issue. Kuehne & Nagel (AG & Co.) v. Geosource, Inc., 874 F.2d 283, 290-91 (5th Cir.1989). There is no evidence that the corporate form of Nauru's subsidiaries should be disregarded and the subsidiaries treated as alter...