October 2010 Archives

October 15, 2010

Chesapeake Sued in Oklahoma For Underpayment of Royalties in Barnett Shale Wells

A royalty owner in the Barnett Shale has sued Chesapeake in Oklahoma federal court for failure to properly pay royalties. The suit, Robyn Coffey vs. Chesapeake Exploration, L.L.C. and Chesapeake Operating, Inc., Civil Action No. CIV-10-1054-C, was filed on September 27 in the U.S. District Court for the Western District of Oklahoma, in Oklahoma City. A copy of the complaint can be viewed here: Coffey v Chesapeake.pdf  The plaintiff seeks to bring the case on behalf of all royalty owners in the Barnett Shale formation, as a class action.

The plaintiff alleges that Chesapeake "employs a scheme" to reduce royalty payments by selling the gas to its wholly owned subsidiaries at a price "substantially less than either the market value at well or the amount actually received by Chesapeake Operating."

The royalty clause in the plaintiff''s oil and gas lease is unusual. It provides for payment of royalties based on the "market value at the point of sale," but not less than "the actual amount realized by the Lessee." The clause says that all royalty paid to the lessor "shall be free of all costs and expenses related to the exploration, production and marketing of oil and gas production from the lease including, but not limited to, costs of compression, dehydration, treatment and transportation." Most gas royalty clauses provide that gas royalties will be based on "the amount realized by Lessee, computed at the mouth of the well," or similar language.

The plaintiff's lease does not expressly address sales by a lessee to a company which is affiliated with the lessee. The plaintiff in this case will therefore have to prove in effect that the sale to Chesapeake's affiliate is a sham designed to cheat its royalty owners. It is possible to draft a royalty clause that would deal with sales to affiliates -- in effect providing that royalties shall be based on the proceeds received by the lessee or any affiliate of the lessee -- in other words, based on the price received in the first arms-length sale to an unrelated third party.

The case is obviously drafted to be a class action. The amount of the individual plaintiff's claim is not stated in the complaint, but the plaintiff owns royalties on only about 3 acres. If the plaintiff is able to get the case certified as a class action on behalf of all Chesapeake royalty owners in the Barnett Shale, millions of dollars of royalty will be at issue in the case.  It is evident that the lawyers elected to file in Oklahoma because the Texas Supreme Court has been very hostile to royalty owner class actions in Texas. In light of the unusual language in this royalty owner's lease, it will be interesting to see if the federal court in Oklahoma will be willing to certify this case as a class action.

October 1, 2010

More On the Frac'ing Controversy

Recent happenings in Pennsylvania:

  • The controversy over natural gas in underground aquifers in Dimock Township, Pennsylvania continues. It was reported that private lab tests of contaminated water found chemicals used in hydraulic fracturing. Dimock resident Victoria Switzer said that the tests had found ethylene glycol, propylene glycol and toluene in her well water. The testing company said that the tests also found ethylbenzene and zylene in most of the affected water wells in the township. Read the Scranton Times-Tribune article here. The Pennsylvanie Department of Environmental Protection has fined Cabot Oil & Gas for improper casing and cementing that allegedly have caused natural gas to appear in Dimock's ground water.
  • Cabot has denied that the tests show contamination of ground water by frac water from its wells. Cabot claims that it has not used xylene, ethyl benzene or toluene in its frac water. It said that the chemicals found in the ground water were present before Cabot ever drilled its wells, and Cabot notes that an automobile and truck repair garage is sited near the water wells tested and that these chemcials are primary constituents of car and truck fuel and are commonly found in gasoline spills.  See article here.
  • The EPA hearing on its well frac'ing study finally took place in Binghamton, New York. After all of the concern about the crowd and security, about 700 people showed up for the hearing, while others chose to demonstrate outside the hearing. There were demonstrators on both sides, some holding signs saying "Kids can't dring gas" and "Protect our water. Stop fracking America." Other signs said "Yes to science, no to paranoia" and "Pass gas now!" See Philadephia Inquirer article here

Analyst Dave Pursell of Tudor, Pickering & Holt has addressed the frac'ing controversy tongue-in-cheek, inspired by Jack Nicholson's character in A Few Good Men:

You want the truth? You can't handle the truth! We live in a world that needs clean natural gas, and gas wells have to be frac'd by men with rigs and pumps. Who's gonna do it? Microsoft? Apple? The energy industry has greater responsibility than you could possibly fathom. You weep for your i-phone app, and you curse the frac crews. You have that luxury. You have the luxury of not knowing what we know. That fossil energy fuels economic growth. And the existence of frac'ing, while grotesque and incomprehensible to you, powers our economy. You don't want the truth because deep down in places you don't talk about on Facebook, you want them on that frac, you need them on that frac. We use words like pressure, proppant, conductivity. We use these words as the backbone of a life spent producing gas. You use them as a punchline. We have neither the time nor the inclination to explain ourselves to someone who takes a hot shower every morning using the natural gas that we provide, and then questions the manner in which we provide it. We would rather you just said thank you, and went on your way. Otherwise, we suggest you pick up a pipe wrench, and meet us on location. We have wells to frac!