Co-author Kamal Omar

In Zarvona Energy v. Black Stone Minerals Company, a Texas Court of Appeals reiterated that the cessation-of-production clause in an oil and gas lease cannot be read in absolute terms as a lessor might want it to be. The Court also grappled with ambiguities among four different provisions in the lease. 

The Facts

Zarvona operated wells on several pooled units that included two oil and gas leases from lessors Black Stone Minerals and Sugarberry covering over 7,000 acres in Tyler and Polk Counties. The Court focused on the Black Stone lease.

The trouble began when Blackstone notified Zarvona that 1,527 acres under the Blackstone lease had terminated because wells had failed to produce in paying quantities for over 90 days. Zarvona refused to release the acreage and Blackstone filed a partial release in the county records. Sugarberry followed. Zarvona sued.   

Operative lease provisions

Several clauses were in play (paraphrased):

  • The habendum clause ¶1: The lease would be maintained after the primary term so long as oil or gas continued to be produced in paying quantities.
  • Cessation of production ¶11: A 90-day cessation of production in paying quantities would terminate the lease.
  • Continuous development ¶10: The lease would remain in force after the primary term as to undeveloped acreage as long as lessee did not permit more than 90 days to pass between the date operations ceased on one well and commencement of the next well.
  • Retained acreage ¶3: Following the 90-day continuous development provision, the lease would terminate except as to spacing units around each well or portions of lands included in pooled units.

Blackstone’s argument was straightforward: The units lost money in April, May and June of 2020—91 days—so the lease died. Zarvona countered that the paying quantities language did not replace the longstanding Clifton v. Koontz rule.

The Court sides with lessee

Clifton established that the terms “produced” and “produced in paying quantities” mean substantially the same thing. The test: Texas courts do not mechanically add up 90 days of revenue and costs in evaluating whether there has been cessation of production in paying quantities. Instead, they ask whether a reasonably prudent operator—considering depletion, oil prices, profitability of nearby wells, and other factors—would keep operating the well. An unprofitable quarter on its own does not meet the test. A bad quarter does not automatically kill the lease.

Conflicting provisions

The cessation-of-production clause began with “Unless maintained by other provisions … .” The habendum clause began with “Subject to the other provisions of this Lease … ,” Each section was subordinate to the other. That mutual subordination created an ambiguity that the Court refused to resolve in favor of forfeiture. A Texas court will not hold lease language to impose a special limitation on the lease grant unless the language is so clear, precise and unequivocal that it cannot reasonably give it no other meaning. That was not the case here.

Retained acreage

The retained acreage clause— releasing undrilled acreage back to the lessor—operated as a onetime snapshot, not a rolling mechanism applying on a unit-by-unit basis. The clause began “Following the 90-day continuous development provision …” the lease would terminate as to non-producing lands. The clause determined when it applied, but not how often. Because the clause could reasonably be read either way it was ambiguous and again, Texas courts do not readily construe ambiguities so as to forfeit leasehold interests.  Lease termination was a one-time event.

The holding

The Court rendered judgment declaring, “the retained acreage clause is a snapshot provision and does not provide for rolling lease terminations during the secondary term on a unit-by-unit basis, and … [the cessation-of-production clause] does not apply on a unit-by-unit basis and does not define the measuring period for assessing production in paying quantities when production has not ceased.” It’s back to the trial court to address unresolved questions.

Remember, this result is based on the wording of these particular leases. As we are reminded by financial advisors, personal injury lawyers, and championship-winning coaches, past performance does not guarantee future results. (But give me an extension and a big raise, anyway!)

Your Memorial Day musical interlude.