November 2012 Archives

November 17, 2012

Sunset Advisory Commission Issues Report on Texas Railroad Commission

Texas' Sunset Advisory Commission has issued its recommendations for changes at the Texas Railroad Commission. The report can be found here.

The RRC was up for regular Sunset review in 2010, and the Sunset Commission issued a report recommending several changes then, including abolishing the three-member elected Commission and replacing it with a single appointed Commissioner. Largely due to debate over that recommendation, most of the Sunset Commission's 2010 recommendations were not enacted, and the Legislature told the Sunset Commission to issue a new report for its 2012 legislative session.

In its current report the Sunset Commission no longer recommends replacing the three elected Commissioners. It recommends changing the Commission's name to the Texas Energy Resources Commission; limiting the time when Commissioners can solicit campaign contributions and prohibiting a Commissioner from accepting contributions from any party with a contested case before the Commission; requiring a Commissioner running for another elected office to resign; and requiring the Commission to adopt a recusal policy rule.

Other proposed changes in the current report of interest to mineral owners include:

- removing the $20 million cap on the Oil and Gas Regulation Cleanup Fund, used to plug "orphaned" wells in Texas. There are an estimated 7,400 orphaned wells that remain unplugged. In fiscal 2012 the RRC plugged 764 orphaned wells.

- giving the RRC authority to impose a pipeline permit fee and to regulate the safety of interstate pipelines.

- requiring the RRC to develop an enforcement policy and penalty guidelines for oil and gas-related violations.

- requiring contested cases to be heard by administrative law judges at the State Office of Administrative Hearings, rather than by examiners who are members of the RRC staff.

In its discussion of the RRC's enforcement policy, the Sunset Commission reports that, since its 2010 Sunset review, the RRC has added 10 new full-time field inspectors (it now has 97 full-time inspectors and 55 additional staff that dedicate part of their time to field inspections). In fiscal 2012 the RRC conducted more than 118,000 inspections and found more than 55,000 violations; it issued 217 penalties and assessed more than $1.9 million in fines. The RRC also uses lease severance - revoking an operator's permit to sell production from a lease - as a method of enforcement. The RRC reported that the RRC issued 11,589 severance notices in fiscal 2012. In 63% of those cases where the RRC sent an operator a notice of severance, the violations were corrected after receiving the notice and an additional 22% of violations were corrected after the lease was severed; the remaining 15% were referred for enforcement action. The Sunset Commission notes that the RRC has adopted penalty guidelines by a new rule that assigns penalties based on the risk posed, the severity of the violation, and instances of repeat violations; and that the RRC is in the process of revising and "field testing" changes to its enforcement policies, requiring field personnel to refer all "major" violations for enforcement action even if the operator comes into compliance after the violation is found. The report says that "recent trend data does suggest an increase in the number of cases referred for enforcement." But the report notes that only 2% of the 55,000 violations were referred for enforcement in fiscal 2012. The report recommends that the Legislature require the RRC by statute to develop an overall enforcement policy that includes criteria for classifying violations and standards for which type of violations to forward for enforcement action.

I continue to believe that responsibility for enforcement of environmental laws related to the oil and gas industry should not reside in the same agency that enforces drilling and spacing regulations and is responsible for promoting development of oil and gas in the State. Moving contested cases to SOAH may help.

The RRC's reputation for enforcement was not helped by a recent report by StateImpact Texas of violations by a commercial disposal facility near Beaumont owned by Pemco Services . The Texas Environmental Enforcement Task Force, run out of the Travis County District Attorney's office, recently won a criminal conviction and a $1.35 million fine against Pemco for violation of its permit to dispose of drilling fluid by "landfarming". The facility was permitted by the RRC, but the RRC failed to require Pemco to comply with its permits for several years, according to the article. ""For over a decade the company was out of compliance with their permit and there was little done to regulate them," said Patricia Robertson, the task force's environmental crimes prosecutor." Pemco was pumping  unauthorized stormwater from the landfarm into Peveto Bayou, in voilation of the permit. The prosecutors alleged that, from 2002 to 2009, nearly 57 million gallons of drilling fluids were deposited on the landfarm in voilation of the permit, yet the RRC failed to take any enforcement action. RRC spokesperson Ramona Nye responded to a reporter's request for comment, saying that the RRC "tries to get voluntary compliance to correct violations 'before enforcement action is sought.'" Nye said that the RRC decided not to take enforcement action "as long as Pemco complied with Commission directives to stop accepting waste at the facility and to take actions necessary to close this site." Based on this report, it appears that the RRC still has work to do on its enforcement policy.

November 10, 2012

Herein of "Production Sharing Agreements" and "Allocation Wells"

I have recently become aware of recent changes in Texas Railroad Commission policies regarding "production sharing agreements" and "allocation wells" that deserve some comment. Some background is necessary to understand these recent developments.

Over the last couple of years I have been asked to review and explain proposed "production sharing agreements" sent to royalty owners.  Operators in the Haynesville came up with the concept of production sharing agreements when they were faced with trying to drill wells in areas that were held by production from large pooled units producing from vertical Cotton Valley wells. The pooled units were not configured to allow for efficient drilling of Haynesville horizontal wells. Operators wanted to drill laterals crossing the boundaries of the pooled units, and apparently the pooled units covered the Haynesville depths as well as the Cotton Valley. So, they came up with the idea of production sharing agreements. The agreements provide that the royalty owners in the two existing units agree that production from the horizontal well will be "shared" between the two units based on the percentage of lateral length on each unit, and production allocated to each unit will be treated for lease and royalty payment purposes as if produced from the unit. Devon was a big proponent of these agreements. From the royalty owner's point of view, the agreements have advantages and disadvantages. The advantage is that the royalty owner will get royalties on production from a new well that might not be drilled unless a production sharing agreement is signed to allow drilling across lease or unit boundaries. The disadvantage is that production from one well serves to keep all of the leases in both units in effect for as long as it produces.

A well drilled across lease or unit boundaries pursuant to a production sharing agreement is referred to at the RRC as a "PSA" well, because the permit is granted based on the operator's assertion that it has production sharing agreements with royalty owners for allocation of production between or among tracts; or as an "allocation well," because production from the well is allocated to two or more separate leases or units. When operators began applying for drilling permits for these wells, there was discussion at the RRC about how to handle them, because they did not fit the standard model of pooled units. Eventually, the RRC staff adopted an informal, unwritten policy that, if the operator would represent in its permit application that it had production sharing agreements from at least 65% of the royalty owners in both units, the RRC would grant the permit. The RRC has created a new form, the "PSA-12" form, to replace the Form P-12 that operators must file to represent that they have the right to create a pooled unit. If the operator submits the PSA-12 form, the RRC grants a PSA well permit, based on its informal 65% joinder policy.

I have now learned that recently operators have asked the RRC to grant permits for allocation wells even if they don't have PSAs from 65% of the royalty owners - or even if they have no agreements from royalty owners. The RRC has granted some 40 such permits without requiring the operators to have PSAs with any of the royalty owners. Some of the permits granted for such "non-PSA" allocation wells contain the following disclaimer:

Commission Staff expresses no opinion as to whether a 100% ownership interest in each of the leases alone or in combination with a "production sharing agreement" confers the right to drill across lease/unit lines or whether a pooling agreement is also required. However, until that issue is directly addressed and ruled upon by a Texas court of competent jurisdiction it appears that a 100% interest in each of the leases and a production sharing agreement constitute a sufficient colorable claim to the right to drill a horizontal well as proposed to authorize the removal of the regulatory bar and the issuance of a drilling permit by the Commission, assuming the proposed well is in compliance with all other relevant Commission requirements. Issuance of the permit is not an endorsement or approval of the applicant's stated method of allocating production proceeds among component leases or units. All production must be reported to the Commission as production from the lease or pooled unit on which the wellhead is located and reported production volume must be determined by actual measurement of hydrocarbon volumes prior to leaving that tract and may not be based on allocation or estimation. Payment of royalties is a contractual matter between the lessor and lessee. Interpreting the leases and determining whether the proposed proceeds allocation comports with the relevant leases is not a matter within Commission jurisdiction but a matter for the parties to the lease and, if necessary, a Texas court of competent jurisdiction. The foregoing statements are not, and should not be construed as, a final opinion or decision of the Railroad Commission.

With this background, we now come to the most recent developments: EOG Resources filed an application to drill the Klotzman (Allocation) Well 1-H, in the Eagleville (Eagle Ford 2) Field, in DeWitt County. The proposed well would cross over two different oil and gas leases, neither of which authorizes the lessee to pool the leased premises with any other tract. The owners of the royalty in these two leases filed a protest to EOG's permit application. The protest stirred a discussion at the RRC and caused its staff to call an informal conference on the matter.  After that conference, the director of the Hearings Division of the RRC, Collin Lineberry, wrote a letter to the parties, which can be viewed here: Lineberry letter.pdf. Mr. Lineberry said that the royalty owners' assertions "cast sufficient doubt on the applicant's assertion of a good faith claim to preclude the administrative approval of the requested permit at this juncture." He concluded that, if either party wanted to request a hearing on the matter, he would "set an evidentiary hearing to allow both parties to present evidence and argument regarding whether, on the specific facts of this case, EOG has a sufficient good faith claim to authorize issuance of an RRC drilling permit for the proposed allocation well." A hearing has now been set for December 3.

To me, the RRC's issuance of permits for "allocation wells" without requiring the operator to obtain production sharing agreements or pooling agreements from royalty owners in the tracts crossed by the wellbore is in effect allowing operators to force-pool tracts.  Forced pooling in Texas is allowed only under limited circumstances and requires an application, notice to affected parties, and a hearing. Texas - unlike other producing states - has never given its regulatory body broad authority to force-pool tracts into drilling units. The RRC staff's "policy" of allowing such permits appears to have been adopted without any hearing and without consideration by the Commissioners themselves.  As evidenced by the comments quoted above from one of the allocation permits, the applicants appear to have convinced the Commission staff that the proper allocation of production between tracts on which an allocation well is drilled is a matter of private contract between the parties over which the RRC has no jurisdiction and does not affect its decision whether to grant the permit. This appears to me to be contrary to prior RRC policy and existing RRC rules regarding pooled units, which require the operator to assert in the permit that it has authority to pool the tracts included in the proposed drilling unit.

I expect that there will be further developments on this issue in the near future.


November 3, 2012

Keystone Construction, Shale Jobs and the Election, Wind Energy Credits, Shale Technology, and Range Resources' Battles

Recent news of interest:

Keystone Pipeline in East Texas - Fuelfix has published a series of articles on construction of the Keystone Pipeline in East Texas, providing some great photos, including this one:


Not a small operation. And this one, of protesters who camped in trees, causing the company to re-route a segment of the line:


TransCanada has 4,000 workers installing this 36-inch line through 500 miles of Texas and connecting to Cushing, Oklahoma. It will be capable of moving 700,000 barrels of Canadian tar sand crude to the Texas Gulf Coast.

Shale Jobs Could Affect Voting in Swing States - Forbes says that development of the Utica Shale in Ohio is leading a job recovery there, with estimates of 200,000 jobs by 2015, $12 billion in new wages and $22 billion in increased economic output. Five of the states that stand to gain the most from the shale boom are political swing states. "Or measured another way: the number of new workers that will come from hydrocarbon expansion equals one-fifth to three-fourths of all those people counted as unemployed or underemployed in at least 20 states, including those in Wisconsin, Colorado, Iowa, Ohio and Pennsylvania."

Wind Energy Tax Credits - Also on the political front, a little-mentioned issue in the presidential campaign is the tax credit for wind energy, which expires at the end of this year. Obama wants it extended, Romney does not. Some swing states are among the nation's leaders in new wind power projects. Navigant Consulting produced a study saying that loss of the tax credit could cost 37,000 jobs. Texas Governor Rick Perry opposes extending the credit, although Texas leads the nation in wind energy, and companies are now spending huge sums erecting transmission lines into North and West Texas to distribute electricity from wind projects already constructed or on the drawing board. But Sam Brownback, Republican governor of Kansas, and the two Kansas senators, want it extended. The Kansas City Star has a good article on the issue.

Improving Technology Could Extend Shale Boom - Here is a good article from Reuters on the potential for improved shale technology to further extend the shale boom.  According to reporter Robert Campbell,

The prospect for technological advances in shale oil and gas extraction is one of the major reasons why some opponents of peak oil theories, like Nansen Saleri, a former Saudi Aramco executive who now heads upstream technology consultancy Quantum Reservoir Impact, are optimistic about the prospect for liquid fuels production. 'In a few years the techniques used today for fracking will be viewed as primitive,' Saleri said in an interview this summer.

Range Resources Continues its Cutting-Edge Battles - David Poole, General Counsel for Range Resources, was honored by the Dallas-Fort Worth Chapter of the Association of Corporate Counsel and D CEO magazine for his work in leading the legal fight against the EPA's allegations that Range had contaminated groundwater in Parker County, Texas. Partly as a result of Range's success in that case, Al Amendariz, then regional EPA adminstrator, resigned, after EPA dropped its suit. Meanwhile, Range battles a separate suit in Washington County, Pennsylvania alleging that its frac'ing operations there have contaminated groundwater.