Articles Posted in Recent Cases

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Residents of DISH, Texas were awarded a victory by the Amarillo Court of Appeals in their long-running fight with pipeline companies. Sciscoe et al. v. Enbridge Gathering (North Texas), L.P., et al., No. 07-13-00391-CV. In an opinion issued on June 1, the court held that the plaintiffs are entitled to a trial on their claims that the pipelines’ gathering and compression facilities caused damages to their properties from noise and emissions that constituted trespass and nuisance.

DISH residents have fought the pipeline companies for years. The companies constructed several compressors and a metering station just outside the town between 2005 and 2009. Residents began to complain of excessive noise and offensive odors and said they suffered adverse health effects. In 2008, the residents complained to the Texas Commission on Environmental Quality, which conducted monitoring in 2009 and 2010 and concluded that emissions from the compressors “would not be expected to cause short-term adverse health effects, adverse vegetative effects, or odors.” The Texas Department of State Health Services performed medical tests on 28 DISH residents for exposure to chemicals, and tested tap water; it found no evidence of exposure to chemicals. Those findings were contradicted by tests conducted by Plaintiffs’ expert, Wolf Eagle Environmental, which found that Plaintiffs were exposed to harmful emissions of benzene, xylene, ethyl benzene, toluene and other harmful chemicals.

Finally, 18  DISH residents sued the pipelines in 2001 for damages, alleging nuisance and trespass. The town of DISH also filed suit, seeking damages for the loss of tax revenue resulting from reduced property values caused by the compressor station.

The Plaintiffs’ suits were consolidated into one suit and the case was transferred from Denton to Fort Worth. The trial court then granted the pipelines’ motions for summary judgment and dismissed all claims. The Plaintiffs’ appeal was transferred to the Amarillo Court of Appeals.

The court of appeals held that the Plaintiffs had properly pleaded claims for nuisance and trespass and remanded the case to the trial court for trial.

The pipelines first argued that the migration of airborne chemicals from their facilities across Plaintiffs’ properties cannot constitute a nuisance, because nothing was “deposited” on Plaintiffs’ properties. The court of appeals disagreed: “the migration of airborne particulates can constitute an actionable trespass.” At trial, Plaintiffs “must establish causation, i.e., that the particulates emanated from the activities of Appellees and that Appellants sustained some compensable injury as a result thereof.”

The pipelines argued that their activities cannot constitute trespass or nuisance because they were conducted within governmental regulations, and imposing liability for lawful activities would allow judicial regulation of activities sanctioned by statute and regulation. The court disagreed. Plaintiffs are not seeking to alter or change emission standards, or to prohibit the plaintiffs’ conduct, but only damages caused by that conduct. “Just because Appellees are operating their natural gas compression facilities within the applicable regulatory guidelines does not mean that Appellants have not suffered compensable injuries as a result of those operations.” The court held, however, that Plaintiffs’ efforts to recover damages for any future diminution in the value of their properties or “damages” of $1,000 per day for trespass would be barred, because those claims “look more like a penalty than a claim for recovery of existing actual damages.

Finally, the pipelines argued that Plaintiffs’ claims were barred by limitations, because they knew or should have known of their claims more than two years prior to filing suit. Without any real analysis, the court held that the pipelines had failed to carry their burden of showing that Plaintiffs’ claims were barred by limitations.

Last year, two juries awarded damages against two operators based on nuisance claims. With more drilling and producing activities in populated areas, such claims are bound to continue.

Calvin Tillman, former mayor of DISH, has since set up his own environmental company, ShaleTest, www.shaletest.org, described on its website as “the only organization that provides free and certified environmental testing to those negatively impacted by natural gas development.” Tillman lists Josh Fox as one of the company’s “advisors.” Fox is infamous for his film Gasland, a much-criticized anti-industry documentary.

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The Texas Supreme Court has ruled 5 to 4 that Chesapeake cannot deduct post-production costs from the Hyder family’s gas royalties.

The case in the Supreme Court actually addresses only the Hyders’ overriding royalty. As part of the Hyders’ oil and gas lease, the Hyders agreed that Chesapeake could use their land to drill horizontal wells producing from their neighbors’ land — the surface location on the Hyders’ land, but all of the productive lateral of the well under the neighbor’s property. In exchange, Chesapeake agreed to pay the Hyders a 5% royalty on production from such wells. Because the Hyders have no mineral interest in the lands from which these wells produce, the parties referred to this royalty as an overriding royalty.

The Hyders’ lease contains very specific provisions prohibiting Chesapeake from deducting post-production costs from the Hyders’ royalty on production from their lands. But the lease provision granting the overriding royalty on production from wells bottomed under their neighbors’ property is not so clear. Although Chesapeake originally fought to deduct post-production costs from both the royalties and the overriding royalties, the trial court and court of appeals ruled for the Hyders on all claims, and Chesapeake elected to appeal to the Texas Supreme Court only on the issue of deductibility of post-production costs from the Hyders’ overriding royalty.

The lease provision granting the overriding royalty calls for “a perpetual, cost-free (except only its portion of production taxes) overriding royalty of five percent (5%) of gross production obtained” from wells bottomed under neighbors’ land.” The lease also provided that “Lessors and Lessee agree that the holding in the case of Heritage Resources, Inc. v. NationsBank, 939 S.W.2d 118 (Tex. 1996) shall have no application to the terms and provisions of this Lease.”

Justice Hecht wrote the majority opinion, joined by Justices Green, Johnson, Boyd and Devine. The parties’ arguments in their briefs and at oral argument focused on what was meant by “cost-free (except only its portion of production taxes).” Chesapeake argued that “cost-free” refers only to production costs. The Hyders argued that an overriding royalty is by definition free of production costs, so “cost-free” must refer to post-production costs. Justice Hecht said that “We disagree with the Hyders that ‘cost-free’ … cannot refer to production costs. … But Chesapeake must show that while the general term ‘cost-free’ does not distinguish between production and post-production costs and thus literally refers to all costs, it nevertheless cannot refer to post-production costs.”

Chesapeake made another argument, based on the requirement that the overriding royalty be based on “gross production.” It reasoned that “gross production” meant all gas, measured at the well when produced, so the value of that production must be measured at the wellhead, and any costs incurred thereafter must be shared by the royalty owner. The overriding royalty is expressed as a fraction of “gross production,” a royalty payable in-kind. Chesapeake argued that, if the Hyders elected to separately market their share of the gas, they would have to incur those post-production costs to get the gas to market, so the parties intended that the Hyders should bear those costs if Chesapeake sold the gas and paid the Hyders their 5% share of proceeds.  Hecht disagreed. “The fact that the Hyders might or might not be subject to post-production costs by taking the gas in kind does not suggest that they must be subject to those costs when the royalty is paid in cash.” Hecht concluded that “‘cost-free’ in the overriding royalty provision includes post-production costs.”

Four justices dissented. Justice Brown wrote the dissenting opinion, joined by Justices Willett, Guzman and Lehrmann. The dissenters agreed with Chesapeake that, because the overriding royalty was on “gross production,” the Hyders had to bear post-production costs. They concluded that “Though the overriding royalty may not have been expressed using the familiar market-value-at-the-well language, I read its value as being just that. Cf. Heritage, 939 S.W.2d at 131 (Owen, J., concurring).” Further discussing Heritage, Justice Brown said:

As recognized in Heritage, royalty clauses that purport to modify a royalty valued at the well are inherently problematic. 939 S.W.2d at 130 ((Owen, J., concurring)(“The concept of ‘deductions’ of marketing costs from the value of the gas is meaningless when gas is valued at the well.”). Here, no post-production costs have been incurred at the time of production, and it means nothing to say that the overriding royalty is free of those yet-to-be incurred costs.

In short, Justice Brown gave controlling effect to the “gross production” language, while Justice Hecht gave controlling effect to the “cost-free” language.

Justice Hecht’s opinion is interesting in its discussion of two other lease provisions. Although the case before the court did not encompass whether Chesapeake could deduct post-production costs from the Hyders’ royalty, Justice Hecht discussed the royalty clause. One of the provisions in the royalty clause states that the Hyders’ royalty shall be

free and clear of all production and post-production costs and expenses, including but not limited to, production, gathering, separating, storing, dehydrating, compression, transporting, processing, treating, marketing, delivering, or any other costs and expenses incurred between the wellhead and Lessee’s point of delivery or sale of such share to a third party.

Remarkably, Justice Hecht considered this language “surplusage”:

The gas royalty in the lease does not bear post-production costs because it is based on the price Chesapeake actually receives for the gas through its affiliate … after post-production costs have been paid. Often referred to as a ‘proceeds lease’, the price-received basis for payment is sufficient in itself to excuse the lessors from bearing post-production costs. And of course, like any other royalty, the gas royalty does not share in production costs. But the royalty provision expressly adds that the gas royalty is ‘free and clear of all production and post-production costs and expenses,’ and then goes further by listing them. This addition has no effect on the meaning of the provision. It might be regarded as emphasizing the cost-free nature of the gas royalty, or as surplusage.

Another provision in the Hyders’ lease disclaimed the holding in Heritage v. NationsBank:

Lessors and Lessee agree that the holding in the case of Heritage Resources, Inc. v. NationsBank, 939 S.W.2d 118 (Tex. 1996) shall have no application to the terms and provisions of this Lease.

The royalty clause in Heritage  provided that Lessor’s royalty is

1/5 of the market value at the well of the gas so sold or used, provided, however, that there shall be no deductions from the value of the Lessor’s royalty by reason of any required processing, cost of dehydration, compression, transportation or other matter to market such gas.

The court in Heritage held that the lessee could deduct transportation costs from the royalty, and that the “no-deductions” proviso was “mere surplusage.”

The Hyders argued that the “Heritage disclaimer” clause in their lease showed the parties’ intent that their overriding royalty should be free of post-production costs. Justice Hecht disagreed:

Heritage Resources does not suggest, much less hold, that a royalty cannot be made free of post-production costs. Heritage Resources holds only that the effect of a lease is governed by a fair reading of its text. A disclaimer of that holding, like the one in this case, cannot free a royalty of post-production costs when the text of the lease itself does not do so. Here, the lease text clearly frees the gas royalty of post-production costs, and reasonably interpreted, we conclude, does the same for the overriding royalty. The disclaimer of Heritage Resources’ holding does not influence our conclusion.

The dissent also discussed Heritage.  Justice Brown notes that, unlike the gas royalty clause, the oil royalty clause in the Hyder lease provides for payment based on the “market value at the well” of the oil, just as in Heritage.  Justice Brown questions Justice Hecht’s conclusion that the “Heritage disclaimer” in the Hyders’ lease should have no effect even as applied to the oil royalty clause: “The disclaimer could be interpreted as a belt-and-suspenders attempt to ensure the ‘free and clear’ language is given effect despite its conflict with the oil royalty’s market-value-at-the-well definition.” In other words, the Heritage disclaimer might not be “surplusage.” But the four dissenting justices would nevertheless in effect follow Heritage. They would give effect to the “gross production” language in the overriding royalty clause, and would hold that this term is equivalent to the “at the well” clause in the Heritage royalty provision; and they would then hold that, because the overriding royalty is to be valued “at the well,” the language making the overriding royalty “cost-free” is, under Heritage, surplusage.

So, what should royalty owners and their counsel take from these opinions?

This firm filed an amicus brief in Hyder on behalf of the Texas Land and Mineral Owners’ Association and the National Association of Royalty Owners-Texas, in which we urged the court to clarify how royalty clauses should be construed in relation to post-production costs, and how much, if at all, the court’s prior decision in Heritage v. NationsBank should be relied on as precedent. Unfortunately, this case does not provide much guidance. Justice Hecht does note in a footnote that, on rehearing in Heritage, the court re-aligned itself, and one justice recused himself. The result, not mentioned in the footnote, is that the court was evenly divided on whether the Court’s original opinion was correct. And Justice Hecht’s opinion does say that “Heritage Resources holds only that the effect of a lease is governed by a fair reading of its text.” Perhaps this is Justice Hecht’s way of saying that Heritage has little precedential value where the text of the royalty clause differs from that in Heritage. But the continued power of Heritage is reflected in the fact that four justices dissented and would hold that Heritage requires a reading of the Hyder overriding royalty clause that would allow Chesapeake to deduct post-production costs, despite its “cost-free” language.

One lesson royalty owners and their lawyers should take away from Hyder: a “Heritage disclaimer” clause in a lease, without more, will not insulate the royalty owner from post-production costs.

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Last November, the Texas General Land Office lost its appeal in Commissioner v. SandRidge Energy, Inc., in the El Paso Court of Appeals. For the first time, a court has ruled that a lessee can deduct post-production costs under the Texas General Land Office’s Relinquishment Act lease form, citing Heritage Resources v. NationsBank, 939 S.W.2d 118 (Tex. 1996).

The case actually involves several oil and gas leases owned by SandRidge in Pecos County, some covering lands owned by private parties, some covering Relinquishment Act lands. (The State owns the minerals under Relinquishment Act land; the surface owner is agent for the state in granting oil and gas leases, for which the surface owner receives ½ of bonuses and royalties. The lease must be approved by the GLO and be on the approved GLO lease form.) The most interesting part of the case is the court’s interpretation of the GLO’s Relinquishment Act lease form. There are somewhere between 6.4 million and 7.4 million acres of Relinquishment Act lands in Texas, principally in West Texas, in and around the Permian Basin.

SandRidge’s wells on the leases in dispute produce mostly carbon dioxide, mixed with some natural gas. Originally, SandRidge paid the GLO royalties on its sales of natural gas and carbon dioxide. More recently, SandRidge made an agreement with Oxy USA; SandRidge built a plant, the Century Plant, to extract the CO2 from SandRidge’s gas. Oxy owns and operates the plant and gets the CO2 extracted; SandRidge gets the natural gas. Oxy doesn’t charge SandRidge for separating the gas from the CO2. Oxy uses the CO2 in secondary recovery projects. The plant reportedly cost a billion dollars.

When the Century Plant was up and running, SandRidge stopped paying royalties on CO2 under its Relinquishment Act leases. The State sued, and the parties filed motions for partial summary judgment. The trial court ruled in favor of SandRidge.

The GLO relied on the following provisions of the Relinquishment Act leases:

4(B).  NON PROCESSED GAS. Royalty on any gas (including flared gas), which is defined as all hydrocarbons and gaseous substances not defined as oil in subparagraph (A) above, produced from any well on said land (except as provided herein with respect to gas processed in a plant for the extraction of gasoline, liquid hydrocarbons or other products) shall be 25% part of the gross production or the market value thereof, at the option of the owner of the soil or the Commissioner of the General Land Office, such value to be based on the highest market price paid or offered for gas of comparable quality in the general area where produced and when run, or the gross price paid or offered to the producer, whichever is the greater ….

 7.  NO DEDUCTIONS. Lessee agrees that all royalties accruing under this lease (including those paid in kind) shall be without deduction for the cost of producing, gathering, storing, separating, treating, dehydrating, compressing, processing, transporting, and otherwise making the oil, gas and other products hereunder ready for sale or use. Lessee agrees to compute and pay royalties on the gross value received, including any reimbursements for severance taxes and production related costs.

 The State argued that SandRidge was paying for the cost of treating the natural gas by giving the CO2 to Oxy, and that this cost is not deductible under the Relinquishment Act lease form. SandRidge argued that the cost of treating the gas is deductible, based on Heritage v. NationsBank.  In Heritage, the Texas Supreme Court held that, where a lease provides for royalties based on “market value at the well,” a lessee may deduct post-production costs even if the lease prohibits such deductions. According to the Court, “from SandRidge’s perspective, Heritage stands for the principle that a market value at the well clause trumps any other provision that conflicts with it.” SandRidge argued that the paragraph 4(B) of the Relinquishment Act lease is in effect a market-value-at-the-well royalty provision. The El Paso Court of Appeals agreed. It said that the clause provides for royalties based on the wellhead measurement of gas volume. “The royalty is therefore owed on the substance so measured: raw gas, including all of its components. ‘When there is a wellhead measurement, payment is due for gas in its natural state, not on the liquid hydrocarbons which are later extracted.’ ConocoPhillips Co. v. Incline Energy, Inc., 198 S.W.3d 377, 381 (Tex.App.–Eastland 2006, pet denied)(citing Carter v. Exxon Corp., 842 S.W.2d 393 (Tex.App.–Eastland 1992, writ denied)).”

To my knowledge, this is the first appellate decision applying the Heritage rationale to a royalty clause that does not contain “market-value-at-the-well” language.

The GLO intends to appeal to the Texas Supreme Court. The Supreme Court has already agreed to hear Chesapeake’s appeal in the Hyder case, which also implicates Heritage.

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Betty Lou Bradshaw’s parents owned 1773 acres in Hood County. In 1960, they sold the land and reserved 1/2 of the royalty on oil, gas and other minerals. Betty Lou inherited her parents’ royalty interest.

In 2005, Steadfast Financial (subsequently renamed KCM Financial) acquired the right to purchase the land. In 2006, KCM made a deal with Range Resources by which it simultaneously (1) exercised its right to purchase the land, (2) sold the land to Range, reserving all minerals, and (3) leased the mineral estate to Range. The lease provided for 1/8th royalty, and the bonus was $7,505 per acre.

Betty Lou sued KCM and Range. She alleged that they conspired to limit her royalty on production from the lease to 1/16 (1/2 of 1/8), whereas it should have been 1/8 (1/2 of 1/4), since the going rate for lease royalties in Hood County at the time was 1/4. She alleged that Steadfast had agreed to a lower royalty in order to receive an above-market bonus.

The trial court dismissed Betty Lou’s claims, holding that KCM and Range had not breached any obligation to Betty Lou.

The Supreme Court remanded Betty Lou’s case against KCM for trial, but it dismissed her case against Range.

It has long been known in Texas that the owner of minerals whose mineral estate is subject to a royalty interest owned by another has a duty of “utmost good faith” to the royalty owner. The Supreme Court held that Betty Lou had presented sufficient evidence that KCM had breached its duty to her to entitle her to a jury trial on the issue.

The Court said that the holder of the “executive right” – the right to grant oil and gas leases – has a duty “to acquire for the non-executive [the royalty owner] every benefit that he exacts for himself,” but that “the executive is not required to grant priority to the non-executive’s interest.” Evidence that the holder of the executive right is guilty of self-dealing “can be pivotal.” “Self-dealing has most commonly been observed in situations where the executive employs a legal contrivance to benefit himself, a close familial relation, or both.” “The controlling inquiry is whether the executive engaged in acts of self-dealing that unfairly diminished the value of the non-executive interest.”

In Betty Lou’s case, “the allegation is that the executive [KCM] has misappropriated what would have been a shared benefit ( market-rate royalty interest) and converted it into a benefit reserved only unto itself (an enhanced bonus), with the intent to diminish the value of Bradshaw’s royalty interest. If proved, such conduct is the essence of self-dealing.”

As part of KCM’s agreements with Range, KCM promised “to honor and uphold any interest Betty Lou Bradshaw is determined to be entitled to in” the leased property. It is evident that Range knew that Steadfast was bargaining for a below-market royalty in order to get a higher bonus, and it was concerned that it might have some liability to Betty Lou. But the Supreme Court held that Range had no duty to protect Betty Lou’s interest. “Evidence that Range knew the [mineral] estate was burdened with Bradshaw’s non-participating royalty interest, may have known about tensions between Bradshaw’s and Steadfast’s interests, and agreed to a one-eighth royalty and an eight-figure bonus payment to Steadfast are simply insufficient to impute Steadfast’s liability, if any, to Range.” “[I]n negotiating with the executive, a lessee should not fear liability for doing nothing more than getting a good deal closed.”

After KCM granted its lease to Range, it transferred its reserved lease royalty to third parties. Betty Lou included those third parties in the suit and asked for a “constructive trust” on those royalty interests, on the theory that she should have received a 1/8 royalty, and since the lease provides for only 1/8 royalty, all of the royalty should go to her. A constructive trust is a remedy courts will grant where (1) there has been a breach of a special trust or fiduciary relationship or fraud, (2) the wrongdoer has been unjustly enriched, and (3) as a result the injured party has lost identifiable property that can be returned. The remedy is that the wrongdoer is found to be holding the property in “constructive trust” for the injured party.

The Court refused to accept Betty Lou’s constructive trust remedy. It said she had failed to show that she had lost “identifiable property” that could be returned to her. The Court’s logic was: Betty Lou owned an interest equal to 1/2 of the royalty. Her parents had sold the other 1/2 of the royalty when they sold the land. The royalty interest Steadfast had transferred to the other defendants was the royalty Betty Lou’s parents had sold, not part of the royalty she owned. “The royalty payments on which Bradshaw seeks a constructive trust emanate from [the mineral interest her parents had sold], which Steadfast retained when it conveyed [leased] the mineral rights to Range, and not from the one-half of royalty interest reserved by [Betty Lou’s parents] in the 1960 deeds.”

What if KCM had not transferred it reserved royalty interest to third parties, but still owns it? Would the Supreme Court say that Betty Lou could not claim that royalty interest? I think another way to analyze the case is that KCM traded its royalty interest to Range for an increased bonus, so, to make Betty Lou whole, she should receive the royalty reserved in the lease.

If Betty Lou wins her case before the jury, she can get a judgment against KCM but not against Range or the persons to whom KCM transferred its royalty interest. It is not clear to me what the measure of damages for Steadfast’s breach of duty should be. One way to approach the problem: suppose that a market bonus rate for the lease would be $3,000/acre. Steadfast got $7,505/acre. For 1773 acres, the part of the bonus above the market rate would be $7,996,375. That is the additional bonus Steadfast received for lowering its royalty from 1/4 to 1/8. Another way to look at it is that the additional 1/8 royalty was worth $8 million to Range. Betty Lou should have received 1/2 of that additional 1/8 royalty, so she should get 1/2 of that $8 million.

To my knowledge, the question of the lessee’s potential liability to a royalty owner like Betty Lou has not previously been addressed by the Supreme Court. This case seems to shut the door on that issue. But suppose a slightly different set of facts. Suppose that, instead of paying KCM a higher bonus, Range had agreed to assign to KCM’s sole shareholder a 1/8 overriding royalty on lease production, as part of the lease deal. If the additional 1/8 royalty is worth $8 million, the result is the same economically to Range. But under these facts, it seems to me that Range might have some liability. It looks more like Range  is conspiring with KCM to deprive Betty Lou of her rights.  Not Betty Lou’s facts, but a case can be made that, under some circumstances the lessee could be held liable for conspiring with its lessor.

The Court’s opinion can be found here.

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A team of lawyers in Pennsylvania has filed an anti-trust suit against Chesapeake and Williams Partners (Formerly Access Midstream Partners) alleging that they conspired to restrain trade in the market for gas gathering services in and around Bradford County, Pennsylvania. The plaintiffs also sued Anadarko, Statoil, and Mitsui, all of whom own interests in Chesapeake’s leases. The suit alleges violation of the oil and gas leases granted by the plaintiffs, violations of ant-trust law, and violation of the Racketeer Influenced and Corrupt Organizations Act (RICO). A copy of the complaint, filed in federal court in Pennsylvania, can be found here.

The team of lawyers who filed this suit have their own website, “Marcellus Royalty Action.” They say that their approach differs from other suits against Chesapeake in that they will not seek class action status, they intend to pursue discovery before negotiating settlements, and they will sue all working interest owners responsible for royalty payments.

Royalty owner suits against Chesapeake have become a growth industry for attorneys. Recently, Chesapeake requested that multiple royalty owner suits against it in the Barnett Shale region of Texas be assigned to a pretrial court for consolidated and coordinated pretrial proceedings.  (Defendants Joint Motion for Transfer and Request for Stay) The request says that more than 3,200 landowners have filed 97 separate suits in Johnson, Tarrant and Dallas Counties alleging that Chesapeake and Total E&P, USA, Inc. (Chesapeake’s working interest partner in the Barnett Shale) have charged excessive post-production costs. This request results primarily from multiple suits filed by the McDonald Law Firm. See http://royaltyripoff.com/.  McDonald has said he does not oppose Chesapeake’s request.

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On February 6, 2015, The Supreme Court of Texas released its second opinion in FPL Farming Ltd. (“FPL”) v. Environmental Processing Systems, L.C. (“EPS”).  The Beaumont court of appeals had held that injected fluids that migrate beyond the boundary of the land owned by the surface owner constitute a trespass on a neighbor’s property.  The Supreme Court declined to address whether or not subsurface wastewater migration is actionable as a common law trespass in Texas, and instead focused on consent as a general element of a trespass cause of action.

Until recently, subsurface wastewater migration had never been addressed by a Texas appellate court, and the assumption in the disposal industry was that such incursion was not actionable. But the Beaumont Court of Appeals, in FPL v. EPS, concluded that the neighbor does have a trespass claim.  The Beaumont Court issued two opinions in the case; the first was appealed to the Supreme Court which reversed and remanded to the Court of Appeals, and the second resulted in the opinion released February 6.

The facts in FPL are these: EPS operates an injection well for non-hazardous waste on land adjacent to the land owned by FPL. FPL had previously objected to an amendment of EPS’s permit that increased the rate and volumes allowed to be injected. The Austin Court of Appeals affirmed the permit amendment over FPL’s objections, ruling that “the amended permits do not impair FPL’s existing or intended use of the deep subsurface.” FPL Farming Ltd. v. Tex. Natural Res. Conservation Comm’n, 2003 WL 247183 (Austin 2003, pet. denied). FPL then sued EPS for trespass and negligence, alleging that injected substances had migrated under FPL’s tract causing damage. FPL lost a jury trial and appealed. The Beaumont Court affirmed, holding that because EPS held a valid permit for its well, “no trespass occurs when fluids that were injected at deep levels are then alleged to have later migrated at those deep levels into the deep subsurface of nearby tracts.” FPL Farming Ltd. v. Environmental Processing Systems, L.C., 305 S.W.3d 739, 744-745 (Tex.App.-Beaumont). The Supreme Court reversed, holding that Texas laws governing injection well permits “do not shield permit holders from civil tort liability that may result from actions governed by the permit.” FPL Farming Ltd. v. Environmental Processing Systems, L.C., 351 S.W.3d 306, 314 (Tex. 2011). But the court was careful to say it was not deciding that owners of injection wells could be guilty of trespass if their injected fluids migrated onto other lands. “We do not decide today whether subsurface wastewater migration can constitute a trespass, or whether it did so in this case.” The court remanded to the court of appeals for it to consider the other issues raised by the appeal. Continue reading →

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On January 30, the Supreme Court issued its opinion in Hooks v. Samson Lone Star, Limited Partnership, No. 12-0920. In doing so, it kept alive a $21 million verdict against Samson and limited its prior holdings barring suits by mineral owners based on the statute of limitations.

The principal claim the Hooks made against Samson alleged breach of a lease provision intended to protect the Hooks’ lease against drainage from wells on adjacent lands. The lease provided that, if a gas well is drilled within 1,320 feet of the lease, Samson must either drill an offset well, release sufficient acreage for an offset well to be drilled, or pay “compensatory royalty” – the amount of royalty the Hooks would be entitled to if the well on adjacent lands had been drilled on their lease.

In 2000, Samson permitted a well on lands adjacent to the Hooks lease, and it approached the Hooks asking permission to pool portions of the Hooks land with that well. Mr. Hooks asked Samson how close the well would be to the Hooks lease boundary. Samson sent him a plat showing that the location of the well would be 1,400 feet from the lease. Based on this, the Hooks agreed to the pooling.

In 2007, in connection with related litigation, the Hooks discovered that the adjacent well in fact was located within 1,320 feet of the Hooks lease, and the Hooks sued Samson for misrepresenting the well’s location and inducing them to agree to the pooling. They sought damages under the lease compensatory royalty clause – the royalty they would have received had the offending well been located on the Hooks’ lease. They argued that the four-year statute of limitations applicable to their claim should not apply because Samson had fraudulently induced them to believe that the well was 1,400 feet from their lease. The jury found that the Hooks should not have discovered the true facts until less than four years before bringing suit. It awarded more than $20 million damages to the Hooks. Continue reading →

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As I have written, Chesapeake has asked the Texas Supreme Court to reverse the San Antonio Court of Appeals’ decision in Chesapeake v. Hyder. The court of appeals ruled that Chesapeake could not deduct post-production costs from the Hyders’ royalty.

The Texas Land & Mineral Owners’ Association and the National Association of Royalty Owners – Texas have filed an amicus brief in Hyder supporting the Hyders’ case. The brief can be viewed here. Final Amicus_Brief_Chesapeake_v__Hyder.pdf It was authored by my firm and by Raul Gonzalez, who was a member of the Texas Supreme Court when the court decided Heritage v. NationsBank, the case relied on by Chesapeake as authority for its deduction of post-production costs.

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Last week the San Antonio Court of Appeals decided Lightning Oil Company v. Anadarko, No. 04-14-001152-CV, a case involving “mineral trespass.”  What is interesting about the case is what the court did not decide.

Lightning Oil Company owns two oil and gas leases covering 3,250 acres within the Briscoe Ranch in Dimmit County. The Briscoe Ranch owns the surface but not the minerals in this 3,250 acres. To the south of Lightning’s leases is the Chaparral Wildlife Management Area, a wildlife sanctuary managed by Texas Parks and Wildlife Department. TPWD owns the surface and 1/6 mineral interest in the Chaparral WMA. The Light family (some of whom own Lightning Oil) own the other 5/6 mineral interest. Anadarko holds oil and gas leases on the Chaparral WMA.

The TPWD lease to Anadarko prevents use of the surface of the Chaparral WMA for oil and gas wells except with TPWD consent, and says that Anadarko must use off-site drilling locations “when prudent and feasible.” Anadarko made an agreement with Briscoe Ranch to use the surface of the Ranch to drill horizontal wells under the Chaparral WMA. The first location Anadarko chose is located on the land covered by the Lightning Oil Company leases. So Anadarko proposed to drill a horizontal well from a surface location on Lightning’s lease; the well would penetrate the Eagle Ford formation on Lightning’s lease, but no perforations, or “take points,” in the well would be located on Lightning’s lease.

Lightning sued Anadarko to prevent it from drilling its well, and it sought a temporary injunction to stop the well while the case was pending. After a hearing on Lightning’s application for temporary injunction, the trial court refused to grant the injunction, and Lightning appealed.

The opinion of the San Antonio Court of Appeals (Lightning Oil Co v. Anadarko.pdf ) affirmed the trial court, holding that Lightning had failed to prove a probable, imminent and irreparable injury if Anadarko is allowed to drill its well.

To obtain a temporary injunction, the plaintiff must prove that it can probably prevail when a trial on the merits of its case is held, and that it probably will suffer irreparable injury if the temporary injunction is not granted to maintain the status quo until trial on the merits.

Lightning alleged that Anadarko’s well would trespass on Lightning’s mineral estate. Anadarko argued that its well would not result in a trespass.  The Court of Appeals decided not to address that question. Instead, it focused on whether Lightning’s evidence showed that it would probably suffer irreparable harm if the well were drilled. After reviewing the parties’ testimony, the Court held that Lightning’s evidence failed to show probable irreparable harm. The testimony, said the Court, only showed a “potential” for injury, and Lightning failed to show that the potential injury would not be “susceptible to quantification and compensation.”

The more interesting question in this case is the one the Court of Appeals elected not to address — whether the drilling of Anadarko’s well would constitute a trespass.  In my experience, operators routinely obtain permission from the surface owner to locate well pads off-lease, but do not consider it necessary to obtain consent of the mineral owner. The general theory is that the owner of the surface estate owns the land from the surface to the center of the earth; the owner of the mineral estate owns only the oil, gas and other minerals under the land. Under this theory, a mineral trespass can occur only if a well actually produces (or perhaps harms) the oil, gas or other mineral under the land. Following this line of reasoning, drilling a well through a formation capable of producing oil or gas would not constitute a mineral trespass. And the right to grant permission to use the surface estate for an off-lease location, under this theory, belongs to the surface owner.

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Last week the Texas Supreme Court heard oral arguments in Steadfast Financial v. Bradshaw, No. 13-0199. The case presents the court with another opportunity to grapple with an issue that Texas courts have struggled with since the court first addressed it in 1937 – what duty does the owner of the mineral estate owe to a non-participating royalty owner?

The term “non-participating royalty owner” is the name commonly given to a royalty interest in minerals created by a grant or reservation in a deed.  “Non-participating” is really redundant; it means that the holder of the royalty estate has no right to lease the mineral estate or to receive any bonus for a lease.  In fact, that is true of all royalty interests. A better name for this type of royalty interest might be “fee royalty interest,” to distinguish it from a royalty interest reserved by the mineral owner in an oil and gas lease.

The owner of a fee royalty interest, having no right to lease or to drill wells, is dependent on the owner of the mineral estate out of which his/her royalty interest must be paid; the royalty interest has no value unless the mineral interest is leased and wells are drilled. In recognition of this fact, court decisions have imposed a duty on the mineral owner to protect the royalty owner’s interest. How this duty is defined, and in what situations the duty is imposed, have been issues Texas courts have struggled with for many years. The cases that have addressed this issue over the years show how the common law develops — very slowly, and with varied results for the litigants involved.

In Steadfast, Steadfast Financial owned the surface and mineral estates in 1,800 acres of land in Hood County. In 2006, Steadfast entered into a transaction with Range Resources: it sold the surface estate to Range for $8,976,600, and it granted an oil and gas lease to Range providing for a 1/8th royalty. At the time, Betty Lou Bradshaw owned a royalty interest in the 1,800 acres that she had inherited from her parents. When her parents sold the land in 1960, they reserved a royalty interest of 1/2 of the royalty; in other words they were entitled to 1/2 of any royalty reserved by the mineral owner in any oil and gas lease covering the 1,800 acres. 

When Ms. Bradshaw learned about the Steadfast-Range transaction, she sued Steadfast and Range. She claimed that the going royalty rate for oil and gas leases in Hood County in 2006 was 1/4th, and that Steadfast had a duty to her to get the best royalty it could obtain. She alleged that Steadfast and Range had conspired to breach Steadfast’s duty to her, and that Range should be liable for its participation in Steadfast’s scheme. She argued that Steadfast got a much better deal on its sale of the land to Range by agreeing to reduce the royalty rate in its lease to Range from 1/8 to 1/4.

The trial court threw out all of Ms. Bradshaw’s claims, but the Fort Worth Court of Appeals held that she was entitled to a trial and remanded the case to the trial court.  Bradshaw v. Steadfast Financial, 395 S.W.3d 348 (Tex.App.-Fort Worth 2013). Steadfast appealed to the Texas Supreme Court, which agreed to hear the case. You can view the oral arguments in the Supreme Court here.

The Texas Supreme Court first considered the mineral owner’s duty to a royalty interest owner in Schlittler v. Smith, 101 S.W.2d 543 (Tex. 1937), where it described the mineral owner’s duty as one of “utmost fair dealing.”  One of the most important Supreme Court cases on the topic is Manges v. Guerra, 673 S.W.2d 180 (Tex. 1984), involving the infamous Clinton Manges. Manges leased the minerals under his ranch in Duval County to himself for 1/8th royalty, and then sold the lease, reserving an additional 1/8th royalty for himself. The Court held that in doing so he breached his duty to the Guerras, who owned a royalty interest in the ranch. The Court held that Manges breached his “duty of utmost good faith” to the Guerras.

More recently, the Supreme Court has grappled with the mineral owner’s duty to royalty owners in In re Bass, 113 S.W.3d 735 (Tex. 2003) and Lesley v. Veterans Land Board, 352 S.W.3d 479 (Tex. 2011). In Bass the Court held that a mineral owner has no duty to the royalty owner to grant an oil and gas lease. In Lesley the Court appeared to backtrack on what it had held in Bass, holding that a mineral owner does have a duty to a royalty owner to lease under some circumstances.

The lawyers arguing for Steadfast and Range said that Steadfast had no duty to Ms. Bradshaw to obtain the highest royalty rate it could, and that Steadfast should have the right to enter into a lease with 1/8th royalty and the highest bonus it could negotiate, even though the result would be to lessen Ms. Bradshaw’s share of production. Bradshaw’s attorney said that such a rule would be contrary to the substantial body of case law that had recognized a duty of “utmost good faith” owed by the mineral owner to its royalty owner. Questions from some members of the Court indicated that they were reluctant to require Steadfast to negotiate the best royalty it could obtain. If the Court decides to rule against Ms. Bradshaw, it could show an increasing reluctance by this Court to impose implied covenants or higher standards of conduct in the relationship between mineral and royalty owners in Texas.

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