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Energy & the Law

New York Fracking Ban: Insult Followed by Injury

Posted in Energy Policy, Lease Disputes
Les Advises the Tigers Not to Buy Leases in NY

Les Advises the Tigers Not to Buy a Lease in NY

Political actions have consequences. A force majeure clause in New York oil and gas leases does not modify the primary term of the habendum clause and the leases are not extended because of the state ban “moratorium” on hydraulic fracturing.

The force majeure clause:

[I]f and when drilling . . . [is] alleged or interrupted . . . as a result of some order, rule, regulation, requisition or necessity of the government, or as the result of any other cause whatsoever beyond the control of Lessee, the time of such delay or interruption shall not be counted against Lessee, anything in this lease to the contrary notwithstanding.”

No operations were conducted during the primary term and there was no production.

This question was certified to the New York State Court of Appeals: “If [the moratorium was a force majeure event] does the force majeure clause modify the habendum clause and extend the primary terms of the leases?” The state court answered “no”.

The Court’s Reasoning

  • The habendum clause did not incorporate the force majeure clause by reference or contain language expressly subjecting it to other lease terms, and the force majeure clause did not specifically refer to the habendum clause.
  • Under New York law the force majeure provision did not supersede all other clauses in the leases, only those with which it was in conflict. Because the two clauses were not in conflict, “anything in this lease to the contrary, notwithstanding” alone was insufficient to compel the conclusion that the force majeure clause modifies the primary term.
  • Because the clause expressly referred to delay or interruption in drilling or production, it follows that the clause only conflicted with, and therefore modified, the secondary term of the habendum clause.
  • The force majeure clause expressly indicated that it dealt with lease termination, not expiration. Thus, the “notwithstanding” language excused lessee’s performance only during the secondary term.

Based on the state court ruling a summary judgment terminating the leases was upheld.

Q and A in Which the Author Interviews Himself

Q:  What is the source of this heresy?

A: You’d be surprised. The court referred to several cases from Texas and California for support. A 1975 Texas case construed identical language in just the same way, meaning that someone didn’t update his forms.

Q:  Did it have to end this way?

A: Of course not. The lessees argued that “anything in this lease to the contrary notwithstanding” has consistently been held to enforce the clause. Several Texas cases could be relied upon for a contrary result. Being the highest court in New York, they could have decided to follow another approach. Supreme courts are fond of saying they just call ball and strikes. But they also define the strike zone, the distance between the bases, the height of the mound, and just about every other aspect of the game.

Q:  What does it mean?

A: Are you asking me, legally or politically? The legal effect is, if the “moratorium” ever ends, many lessees will by paying again for leases they paid for once before. Politically … not my problem, and unless you have leases in New York it’s not yours either.

And this musical commemoration of LSU v. McNeese.

Finally, Les’s failure to stop the lightning is yet another reason to fire him. You-know-who-I’m-talkin’-about would have willed the storms to proceed away from Tiger Stadium … quickly.

You Own the Oil. Do You Own the Rock?

Posted in Land Titles, operations

oil moleculeRiddle: What’s the difference between a hydrocarbon molecule and the underground structure which the molecule inhabits?

Answer: In Texas, you can own one and not the other, according to Lightning Oil Co. v. Anadarko E&P Onshore LLC.

Dueling Estates

This was a subsurface trespass case between lessees on two adjacent mineral estates. The Cutlass lease, owned by Lightning, is a severed mineral estate under a portion of the Briscoe Ranch. Anadarko leased the mineral estate under the Chaparral Wildlife Management Area, adjacent to the Briscoe Ranch. Anadarko had a Surface Use and Subsurface Easement Agreement with the surface owner Briscoe Ranch to place a drilling rig on the surface estate and drill vertically under the Briscoe Ranch before deviating to go horizontal to bottom the well on the CWMA lease.

Flawed Arguments

Lightning argued, first: Anadarko had no right to drill through the Cutlass lease to the CWMA lease. Lightning’s mineral estate included the right to exclude others from the estate and thus, Anadarko was committing an ongoing trespass. Lightning’s leasehold interest is a separate, real interest amounting to a defeasible title to the oil and gas in the ground. The court construed that to mean that Lightning claiming to own the oil and gas and the ground. The court then asked: Who owns the earth in which the mineral estate is contained?

Second: An oil and gas lease typically entitles the lessee to the “exclusive right” to drill wells on the leasehold. Yes, but the authorities cited by Lightning did not convey to the lessee the exclusive right to control the subterranean structures within the boundaries circumscribing the lease.

Third: What about trespass from subsurface seismographic surveys? What about it? That could be a trespass, except that there was no evidence that Anadarko conducted a seismographic survey of Lightning’s mineral estate.

Lightning had other arguments, which were dismissed.

Here’s the Point

Texas law construes a surface estate to mean portions of the earth over which the surface estate owner holds dominion after severance of a mineral estate. Ownership of hydrocarbons does not give ownership of the earth surrounding them. Conveyance of mineral rights does not convey the entirety of the subsurface. Because Lightning did not own the structure under the earth in which the hydrocarbon molecules may lay, it did not own or control the earth surrounding those molecules.

Lightning had no legal right to prevent Anadarko from drilling through the earth within the boundaries of the Cutlass lease. Anadarko needed only Briscoe Ranch’s permission to drill.

Another Claim Going Nowhere

Lightning also sued for tortious interference with its lease. One defense to such a claim is that a defendant may justify its actions based on the exercise of either its own legal rights or a good faith claim to a colorable legal right. Proving that a claim for tortious interference sounds a lot scarier than it really is, the court believed that Anadarko was justified in drilling through the Cutlass lease to get to the CWMA lease. As a matter of law Anadarko could not commit a trespass by traversing subterranean structures in which Lightning’s hydrocarbon molecules may lie.

Anadarko’s musical tribute to the court

Compressor Station Negligent Nuisance Verdict Reversed

Posted in Construction, Litigation

locomotiveTherapist: “We’re here today in group to bring closure to the traumatic events of Crosstex North Texas Pipeline L.P. v. Gardiner. Each side claims mistreatment by his adversary and by one component or another of the civil justice system. Rancher/property owner Mr. Gardiner, you appear to be the more unhappy party, let’s start with you. Your glorious trial victory ended in soul-crushing defeat. What happened?”

Gardiner: “I own 95 acres in a rural part of Denton County, Texas. I reluctantly gave Crosstex an easement for their 24-inch transmission line when they threatened the confiscatory and intimidating power of emiment domain. I thought it would stop there, but it didn’t. I run cattle and horses on the property. The environment was peaceful and quiet, with your usual country sounds. We could hear coyotes howling, and birds.

Therapist: “Thank you. Crosstex, how does that make you feel?”

Crosstex: “Confiscatory, my %$#. We paid him five times the value we should have for that easement. What’s a company to do?  No matter how carefully we place a facility and then work to alleviate concerns of our neighbors, we get sued in a bad venue. We can’t make everybody happy, especially a local jury.

“We could transport more gas if we had compression along the line. Without it, Barnett Shale producers would have stranded wells with no way to get their gas to market. We built a sixteen million dollar compressor station on 19 acres we purchased across the road from the Gardiners. We chose that area because it was rural and there were no houses anywhere around. Besides Gardiner’s ranch there were only flea markets, mobile homes, welding shops and more pasture. We located the station in a place that was far away as it could be from people it might bother.

Here’s what that rabble did to us – a verdict for two million dollars! In a reflective moment we appealed to our ‘higher power’, which was in Fort Worth. But I digress.”

Therapist: “Crosstex, please look at Mr. Gardiner when you speak, not at me. And it isn’t helpful to wink and smile at the court as if they were your new best friend.

Crosstex:  “We installed hospital grade mufflers. When Mr. Gardiner complained, we hired a consultant and spent thousands of dollars on sound mitigation. We did everything he told us we needed to do. At one test the sound level was a mere 37 decibels. I’m sorry our employee made that report saying “NOISE VERY LOUD”. She really shouldn’t have done that. But we built a roof, walls on three sides, and a sound barrier at the road.”

Gardiner: “Yes, but the wall wasn’t on my side. There were four diesel motors bigger than a mobile home. The noise sounded like a locomotive, one neighbor couldn’t use her yard to entertain outside, you had to scream to be heard when the compressors were running, my son couldn’t hear my directions when we rode horses, the cattle couldn’t hear when I honked the truck horn for dinner time. It sounded like an air impact wrench that takes off lug bolts!  I am a person of ordinary sensibilities and the station caused unreasonable discomfort and annoyance to me.

Crosstex: “You’re saying your cattle are too stupid to know when to eat? Give me a break! And you were holding the property for sale or development. You didn’t care about those country sounds.”

Therapist: “That’s a clever use of sarcasm, Crosstex, but please consider whether it’s helpful. Your Honors, thank you for wearing your robes to the session as a reminder of your authority.

The Court of Appeal: “I don’t even know why we agreed to be here. We aren’t from Denton County, and we are exposed to the electorate only once every six years. Here’s some law for you, Mr. Gardiner:  We found that the evidence was factually insufficient to support the verdict that the operator committed acts constituting negligent nuisance. Our painstaking recitation of all the ugly and highly-contested facts  supports this conclusion.  There was a dissent but we didn’t invite her.

“If you want to know how Texas law defines nuisance, nuisance per se and nuisance in fact, please refer to page 4 and footnote 3 in our opinion. See footnote 4 for a lesson on the elements of a negligence cause of action. That’s where the trial judge got it wrong.”

Crosstex: “We won. Hooray! Go ahead and appeal to the Supreme Court. You know what that bunch thinks about plaintiffs and big judgments. If you don’t like it, vote Democrat next time.”

Therapist: “Mr. Crosstex, I wish you hadn’t said it quite like that. Mr. Gardiner, is that a burdizzo you just pulled from your briefcase?

Grosstex: “Get away from me with that thing!” (Screams, … scuffle ensues).

Therapist: “Oh my God! This session is over.”

Who Needs A Master Service Agreement?

Posted in Contract Disputes, Hydraulic Fracturing

trumpYou do, whether you are a vendor or an operator. Matador Production Company vs. Weatherford Artificial Lift Systems, Inc. is a treatise on what can go wrong with a frac job: Failure of pumps, worker inexperience, failure of the “delayed release gel breaker”, failure to clean gel hoses, failure to pump enough gel and proppant, loss of materials, profuse apologies, invoices, refusal to pay invoices, and … litigation. It also suggests what you need for an enforceable MSA and the likely result if you don’t have one.

The Lessons

If you are trying to enforce an MSA:

  • Disclaimers and exculpatory clauses in six point font on the last page of a six-page stimulation recommendation will not satisfy the conspicuousness requirement of the express negligence rule (about which, see below).
  • Terms and conditions to be found on the vendor’s web site, if the customer bothers to look, are insufficient.
  • Between two parties who had never before worked together, an MSA signed three months after the FUBAR is not admissible at trial.
  • A properly prepared and administered MSA can save a party – the vendor in this case – lots of time, money and grief.

The Trial

Weatherford sued on a sworn account alleging $314,000 due on invoices. Matador counterclaimed for economic damages of $2,300,000. after summary judgment for Weatherford on the sworn account, the jury found that Weatherford failed to use reasonable skill and diligence and breached its implied warranty of a good and workmanlike performance of services. But Weatherford’s breach was excused because Matador waived compliance with the contract and released Weatherford from liability arising from the contract. It did this in the Master Service Agreement.

The Appeal

Reversed. Weatherford could not rely on the MSA (see the lessons). In the MSA Matador released Weatherford for Weatherford’s negligence, agreed that acceptance of delivery indicates inspection and approval of the equipment, and waived its right to consequential damages. A release by one party of another for the released party’s own negligence must be CONSPICUOUS IN THE CONTRACT (this is the express negligence doctrine). As a result of Weatherford’s failure to properly prepare and administer its MSA Weatherford’s home run at trial morphed into a bases-loaded strikeout on appeal.

What to Do?

Am I suggesting that a MSA is more important for the vendor than the customer? No. The purpose of an MSA is peace of mind brought about by certainty, to establish from the outset – before there is a disagreement having major financial consequences – who will be liable for acts and omissions and who will be responsible for damages. Get your MSA in place, whether you are a vendor or producer. Take care of potential exposure with proper and sufficient insurance coverage.

Au Contraire

Didn’t the customer benefit from not having an MSA? Yes, but if he had been the negligent party, maybe not.

Donald Trump is My Favorite!

Favorite what, I didn’t say. But, “Why”? you ask.

Because of his unparalleled ability to prance, preen and posture.

What others say about him.

How he sees himself

Did the 2015 Texas Legislature Help Oil and Gas?

Posted in Energy Policy, Legislation

davy crockettYour Texas legislators have done their work and the citizens are safe for the next two years.  The other good news is that industry supporters generally believe the 2015 Legislature was their friend.

House Bill 2: Set aside $4,471,800 to the University of Texas at Austin Bureau for Economic Geology and appointed a technical advisory committee to study the effects of hydraulic fracturing and disposal wells on earthquakes. The Bill authorized seismic equipment, maintenance of seismic networks, and modeling of reservoir behavior in the vicinity of faults. The committee will have nine members appointed by the governor. Two members will represent higher education institutions and have seismic or reservoir modeling experience, two will be experts in the oil and gas industry, and at least one must be a RRC seismologist. The committee will advise the governor and the House Committee on Energy Resources.

House Bill 40:  Preempts local jurisdiction over subsurface operations. This is the legislative response to the ogre that was Denton’s anti-fracking ordinance.

House Bill 1331: Once an operator has transferred drill cuttings to a third party for subsequent beneficial use, such as recycling, the operator can no longer be held liable in tort for consequences of the subsequent use.

Senate Bill 1589: Requires holders of unclaimed mineral proceeds to include more information when reporting to the Comptroller, such as lease, property and well names, and identification numbers used to identify the lease, property or well.

House Bill 2207: An existing oil and gas lease will remain in effect upon the foreclosure of a security interest if the lease was executed and recorded before the foreclosure sale. If the leased property is sold in a foreclosure sale, the rights granted to the lessee to use the surface will be terminated. Royalty payments which become due after the foreclosure sale will pass to the purchaser of the foreclosed property. A subordination agreement would control conflicting provisions of the law.

House Bill 30: Requires regional water planning groups to include opportunities for benefits of developing large scale desalinization facilities. The point is to establish brackish groundwater production zones that would not affect industry’s use of brackish water. The Texas Water Development Board is to study the use of brackish groundwater. As passed the Bill does not create a scheme for the use of brackish groundwater.

The Ones That Got Away (or Euthanized, If You See It That Way)

House Bill 1552: The allocation well Bill. An operator would have been allowed with a RRC permit to drill, operate and produce from wells that traverse multiple tracts. The Bill would have removed doubts about the legality of allocation wells. Royalty and mineral owners defeated this one.

House Bill 3291: Would have established as a second degree felony the possession transporting, removing or purchasing oil and gas or condensate without a RRC permit. Passed in a version that was far different from the original, then  vetoed by the governor. I’m told the reason was because it would have criminalized what has otherwise been a RRC permitting violation. Thieves and some DA’s were pleased, operators were not.

House Bill 1392: The fieldwide unitization effort that has failed in every session since Davy Crockett realized there wasn’t a back door to the Alamo. This year it was known by the catchy “Cenozoic Era Unitization”. Some have been in favor, some not.

To see the text and history of the Bills, go to www.capitol.state.tx.us/.  Under Search Legislation type in bill number (“SB … or HB …), and search.  If it passed, see the “engrossed” version.

Our legislative interludes:

To the supporters of HB 40

To legislators everywhere who can’t get a bill passed

To legislators everywhere who prevent their colleagues from passing a bill



Ballplayers Don’t Fear the Clock; Should a Plaintiff?

Posted in Litigation, Pollution

adjusting his gloveQuiz: How is baseball not like litigation?

  1. Sloppy play can lose the game
  2. Production sometimes declines after a big signing
  3. Lawyers don’t wear athletic supporters to work
  4. When the judge says “Call your next witness”, lawyers don’t step out of the batters’ box to adjust their gloves while the jury waits
  5. “Pace of play” is a constant debate
  6. Baseball doesn’t have a clock

Plaintiffs who fail to pay attention to the clock that is the statute of limitations end up as just more detritus littering courtrooms everywhere. See Ranchero Esperanza. Ltd. v. Marathon Oil Company.

What Happened and When

1989 – Marathon plugs and abandons Well 812 in Crockett County, Texas.

2004 – Rancho Esperanza purchases a 32-section ranch and undivided half in the Trinity Aquifer beneath the property. Well 812 is on the ranch.

July 2008 – The well begins leaking salt water onto the surface, apparently due to injection activity in other wells nearby.

July 22, 2008 – Aspen, now the operator of nearby wells, notices saltwater flowing from Well 812, stops the flow, and cleans and remediates the area.

July 28, 2008 – The day RE says it discovers the leak.

July 27, 2010 – RE sues

Did RE Have Standing to Sue?

Yes. The cause of action for injury to land is a personal right belonging to the person owning the property at the time of injury.  A subsequent purchaser cannot recover for an injury committed before his or her purchase unless that right is assigned to it.  R E had standing to file the suit.  The injury occurred in 2008 when the saltwater appeared, not in 1989 when Marathon negligently plugged the well.

Was RE Too Late?

Yes. When does a cause of action accrue for injury to property?  When a wrongful act causes some legal injury, even if the fact of the injury is not discovered until later and even if all resulting damages have not yet occurred.

RE’s cause of action accrued in July 2008 when the surface damages first resulted from the alleged deficient plugging.

RE’s bigger problem was that it waited too long to bring suit.  The claims were subject to the two-year statute of limitations.  The leak was discovered on July 20, 2008 and RE sued on July 27, 2010.  RE’s foreman saw the leak on July 28 (in which case the filing would have been just in time) but he admitted that had he driven to the well a week earlier he might have discovered the leak.

The discovery rule did not apply because the nature of the injury incurred – surface damages arising from saltwater flowing from a well onto the surface – is not inherently undiscoverable.

And we’ll never know if the  jury would have deemed Marathon negligent.

Musical Interludes – Other things that are bad for you besides being too late to the courthouse:

One we all know about

A common human experience

One that starts out good but can go really wrong


Contracts – It’s More About the Drafting Than the Suing

Posted in Contract Disputes
compressorCo-author Brooke Sizer

It’s been said that your most important decisions are made when you write your contract, not when you have to sue on it. Kachina Pipeline Company v. Lillis agrees.

In a gas-purchase agreement, can the pipeline operator (Kachina) deduct costs of compression from its payments to the producer (Lillis).

“No”, said the Texas Supreme Court. Kachina could not charge Lillis for compression costs incurred after it received the gas in order to sell the gas to the third-party processing facility.

Why? Because according to the words of the contract that was the intention of the parties. This is even if, as the dissent argues, given the way things work in the business the parties couldn’t have meant what the words say.

The case construed the following provision:

Seller shall deliver the gas deliverable hereunder, … at a pressure sufficient to enter Buyer’s pipeline against the working pressure maintained therein from time to time. … neither party … shall be obligated to compress any gas … . If Buyer installs compression to effect delivery of Seller’s gas, Buyer will deduct from proceeds payable to Seller hereunder a value equal to Buyer’s actual costs to install, repair, maintain and operate compression, plus 20% … .

Sequence of Events

2001 – Lillis begins selling gas to Kachina (maybe earlier)

2003 – Kachina installs the Barker Central Compression Station

2007 – Kachina installs additional compression

2005 – The contract is made

2005 to 2008 – Kachina buys, transports, and resells Lillis’s gas according to the contract, deducting marketing fees, which include compression costs.

2008 – Lillis enters into a purchase agreement directly with Davis, constructs his own pipeline to its plant, and objects to Kachina’s deductions.

Lillis would transfer gas from his wells into Kachina’s gathering system and Kachina would pay Lillis a percentage of the proceeds from resale to Davis.

Alternative Readings

If the provision authorized deductions for any compression that aids in the final delivery of gas to Davis, then Kachina had been rightfully deducting Lillis’s share of costs.

If the provision only allowed deductions for compression that Kachina installed post-contract. If Lillis failed to deliver at pressures that overcame Kachina’s working pressure at the point of transfer, no deductions were allowed.

The Result

The contract allowed Kachina to deduct only the costs of compression installed during the term of the Agreement if required to overcome the working pressure in Kachina’s system.  In order to discern the intention of the parties the court relied on the four pretty-much standard rules of construction. We’ve stated them in this blog before and don’t need to repeat them. See page 6 of the opinion.

The Dissent
Three justices dissented. It was illogical for Lillis to pay compression costs prior to 2005, but then no longer have to pay them under the 2005 agreement. The believe the parties really didn’t intend the meaning ascribed to them by the majority. Further, “Lillis testified that, under the 2005 GPA, he expected to keep paying compression costs. And though Lillis’ expectations do not determine the meaning of the agreement … they certainly reflect his perspective on the facts: … Kachina’s compression had been and would be effecting delivery of his gas. [We] would not reward Lillis’ efforts to avoid his acknowledged obligation under the GPA.”

Today’s musical interlude is dedicated to Mr. Lillis, whose testimony almost blew his case.

Fracking, Trigger Warnings, and a Safe Room

Posted in Energy Policy, Hydraulic Fracturing

amniotic fluidFirst, an apology. I have brought shame to my own self and this blog for failing to invoke trigger warnings about activities I will mention again, after the appropriate trigger warning. (I had no idea there were so many.)

Trigger Warning

This post will refer to activities in oil and gas production as they are commonly described in the industry. This post will feature the mindset of the industry and its enemies. Don’t take my word for it. Read the links themselves. First, see James Lileks‘ treatment of trigger warnings in National Review.

Fracking (ouch) had mixed poll results in a recent Gallup Poll.  Perhaps that is because of …


Michael Lynch in Forbes cites emotional, bordering on the ridiculous, claims by anti-frackers, including our favorite Yoko and related anti-fracing groups who resort to demagoguery and overuse and misuse of “frac”.

Women in the oil business, do know what you are? Sandra Steingraber is an environmental activist who “peer-reviewed” the study relied on by Gov. Cuomo to ban fracking in New York. She opined that the only jobs for women in the “fossil fuel industry” are as prostitutes and hotel maids. But then, there is …


Energy in Depth reports that according to the California Council on Science and Technology, five myths by fracking opponents have been debunked:

  • Hazardous chemicals are released by hydraulic fracturing,
  • Hydraulic fracturing directly causes ground water contamination,
  • Fluid injected in the process of fracing causes earthquakes,
  • Upstream oil and gas sources represent small proportions of toxics in certain highly-urbanized areas in the South Coast air district. Eliminating oil and gas production would not eliminate air pollution problems in the San Joaquin Valley. (To be fair about it, oil and gas facilities emit significant air toxics in the area and are responsible for a large fraction of H2S emissions.)
  • Fracturing operations use a large amount of fresh water compared to other human water use.

CCST is a “non-partisan, impartial not for profit corporation established in 1988 by an assembly concurrent resolution to provide objective advice from California’s best scientists and research institutions on policy issues involving science.”

According to a grudgingly favorable report from Treehugger, billions of gallons of treated wastewater from fracking operations are being delivered to California almond and pistachio producers for irrigation.

The Massachusetts Institute of Technology reports that electrodialysis may provide a cost effective treatment of salty water from hydraulic fracturing.  Both of these reports show progress in the important area of water use. Do not let the likes of CERES tell you nobody but them is doing anything about it.

Announcing the Gray Reed Safe Room

By now you are aware of “safe rooms” on college campuses – havens for those youngsters who are so traumatized by ideas that offend their firmly and sincerely held personal beliefs that they can’t function. I learned about the one at Brown University from a source not The Onion and not first presented on April 1st. That’s what you get for $48,272 in annual tuition.

Gray Reed goes one better than Brown.  Sand is an irritant to sensitive young skin, a little one could gag on a chunk of Play Doh, and communing with your inner three-year-old isn’t sufficiently therapeutic. In the Gray Reed safe room there will be the frolicking puppies, but also more! To bring a profound and perfect peace to the utterly infantilized, participants in the Gray Reed safe room will be bathed in a warm, gently flowing stream of amniotic fluid. No harsh abrasives or choking hazards. You can’t get any closer to “home” than that.

A Bo Diddley interlude.

Coming soon: Huckleberry Finn, uncensored.

Another Lease Termination Case, a Different Ending

Posted in Lease Disputes
Co-author Matthew Wheatley

We recently discussed failure to produce in paying quantities. Another decision involving the same lessee had a different result. Why?

The question in both cases was whether the well was capable of producing in paying quantities and whether a reasonably prudent operator would continue to operate the well.

In the new case ten wells were on the property. Production declined, and as of June 2012 only one well was producing. Red Deer acquired top leases. BP shut the final well in on June 12 and distributed notice and shut-in royalty checks on June 13. Red Deer sued, claiming the shut-in royalty clause was ineffective because the final well was not capable of producing in paying quantities when it was shut in.

Three Rules    

  • A shut-in royalty will not preserve the lease if the well is not capable of production in paying quantities.
  • A lessee whose title is wrongfully repudiated by notice that the lease is terminated is excused from any obligation to conduct activities necessary to hold the lease in force until the lease controversy is resolved. Establishing repudiation requires proof of a subsisting lease and the lessor’s “unqualified notice” of lease forfeiture or termination.
  • This is important: Repudiation is not available as a defense unless specifically pleaded.

The Result

There was legally sufficient evidence to support the jury’s conclusion that the well was not capable of production in paying quantities at the time it was shut in and that a reasonably prudent operator would not continue to operate the well in the manner BP had been. (Interpretation: That’s what the jury concluded.  Maybe they were right or maybe they weren’t; the appeal court’s job is to determine if there was evidence to support the verdict, not whether it agrees).

There was steady long-term decline in production. The remaining reserves were estimated to be less than one percent of the total reserves. There was testimony that there was nothing BP could do economically to increase the well’s production. At shut-in the well had experienced a five-month period of unprofitable production.

BP did not argue repudiation, and cited no authority for its assertion it “was entitled to shut-in the… well and to keep the well shut in because of Red Deer’s title challenge”. BP’s contention that another well, if drilled, would be a producer was not proof of a well which would support a shut-in royalty.

How is Red Deer Different From Laddex?

Here are a few ways:

  • In Red Deer, production had been declining steadily for a long duration (nine other wells had been shut in.) In Laddex the decline was relatively recent. This was part of the reason the Laddex court held that the 15-month period was unreasonable.
  • There was evidence in Red Deer of the scarcity of remaining reserves and BP’s inability to increase production. Production in Laddex resumed to pre-slowdown levels prior to suit.
  • The Red Deer court held that five months of unprofitability could be probative of a well’s capability to produce. The Laddex court held that limiting the jury’s consideration to a fifteen month period was unreasonable. It seems the Red Deer court gave more weight to factors other than the duration of unprofitability.

A musical interlude.

Royalty Clauses For the Lessor – This Battle is Over

Posted in Lease Disputes, Royalty Disputes

still freeWhat is your guiding principle when writing agreements?

“The more the words the less the meaning, and how does that profit anyone?” Ecclesiastes 6:11.


“The beginning of wisdom is the definition of terms.” Socrates

The Legal Issue

A lease grants “a perpetual, cost-free (except only its portion of production taxes) overriding royalty of five percent … of gross production obtained” for directional wells drilled on the lease but bottomed on nearby land (emphasis mine). Are deductions of post-production costs allowed? No, says the Texas Supreme Court in Hyder v. Chesapeake Exploration, a decision long-awaited by those of us who pay attention to these matters.

The court of appeals decision was the subject of a prior post.  The Supreme Court affirmed the court of appeal, which had affirmed the trial court.

Is This a Big Deal?

It certainly is for the Hyders and lessors with the same provision. Otherwise, I’m not so sure.

  • The court was split five to four.
  • The court emphasized that it was merely determining the parties’ intentions based on the language of the lease, disclaiming a broader agenda.
  • The court recognized a basic proposition in Texas law: A royalty is usually subject to post-production costs, but the parties can modify the general rule by agreement. They just didn’t do it in this case, said the court.
  • The court declined to read into Heritage Resources, Inc. v. NationsBank anything other than that the meaning of a lease is governed by a fair reading of its text.

The Rationale

In the Hyder lease the basis for royalty payment is the price received by the lessee, which the court noted is often sufficient in itself to excuse lessors from bearing post-production costs. “Cost free”, said the majority, is not merely a synonym for an ORRI. Scriveners often include “cost free” in a royalty clause to make certain that everybody understands the royalty is free of production costs, but not necessarily post-production costs, even though the language is not necessary (royalties are cost-free as a matter of law).

The court did not believe that “cost free” means free of post-production costs. But the Ecclesiastes way didn’t serve Chesapeake well.  In order to prevail Chesapeake had to prove that “cost free” could not refer to post-production costs.  The court concluded that the ORRI was to be paid on the price received by Chesapeake after post-production costs are paid.

The Dissent

Four justices would have gone with the default – ORRIs bear post-production costs. The way they saw it:

  • The ORRI clause did not allow valuation of the ORRI downstream at any point of sale. It implicated only one location – the wellhead. Post-production activities would add value to the Hyders’ ORRI, but had not yet done so at the wellhead.
  • Although the ORRI may not have been expressed using the familiar market-value-at-the-well language, they read its value to be just that. The “cost free” designation did not express an intent to abrogate the default rule. They would recognize that “cost free” simply stressed the cost free nature of the royalty without struggling to ascertain any additional meaning.
  • Siding with Socrates, they focused on the vast differences between the royalty and ORRI provisions in the Hyder lease, concluding that if the extensive, specific, and detailed free-and-clear language in the royalty clause was surplusage, so should be bare bones “cost free” designation in the ORRI clause. “Cost free” is redundant, but not meaningless. We discussed the court of appeal interpretation of the detailed royalty clause in another post.

Today’s musical interlude: Backup singers.

Bobby King, Terry Evans, and (?) Herman Johnson

Mary Wilson and Florence Ballard

All of the Platters except the dude in the middle