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Cactus Water Services v. COP Operating — Who Owns Produced Water?

Production of oil and gas is often accompanied by production of water from the same formation. In recent years, water has been injected into wells in the process known as hydraulic fracturing, or “fracking.” Much of the frac water returns with oil and gas during the initial production of the fracked well. Fracking of horizontal wells requires huge quantities of water, and when this water—and water native to the formation—returns to the surface, something must be done with the water.

Historically produced water has been treated as waste—a substance that contains not only water but also salts, chlorides, sodium, carbon dioxide, and heavy metals. Produced water has typically been disposed of by injection into underground formations. Well operators may drill their own disposal wells or may contract with third parties to dispose of produced water for a fee.

Water used in fracking has typically been obtained from formations containing fresh groundwater. The huge quantities of fresh water used for fracking have taxed some aquifers, and the practice has been criticized as wasting a precious resource.

More recently, operators have begun treating produced water so it can be re-used for fracking. New companies have sprung up to provide the services of gathering and treating produced water from multiple operators in a field and selling the treated water back to operators for use in fracking. This has led land and mineral owners to consider produced water as a potential source of revenue. It is in this context that the dispute in Cactus Water v. COG has arisen.

The Collier family owns 37,000 acres of land in Reeves County, surface and minerals. Beginning in 2005 it began granting oil and gas leases on the lands; COG acquired those leases and has drilled multiple horizontal Permian Basin wells. Those wells have produced huge quantities of produced water—according to COG, it has disposed of 52 million barrels of produced water from the leases. COG contracts with third parties for these disposal services. The Collier leases, and right-of-way agreements granted by the Colliers. give COG the right to lay pipelines for transport and disposal of produced water.

In 2019 and 2020 the Colliers entered into an agreement with Cactus Water, giving Cactus the rights to own and sell all water “produced from oil and gas wells and formations on or under the” Collier lands. When Cactus notified COG that it owned the produced water, COG sued Cactus claiming that the Collier leases gave it the rights to produced water. The trial court agreed with COG, and Cactus appealed.

The majority opinion in Cactus v. COG affirmed the trial court, holding that the produced water is “waste” and not “water.” One justice dissented.

COG argued that produced water is part of the production stream and that under the leases’ “general intent” all components of that stream belong to the lessee; and that the leases give it the right to dispose of produced water as part of the waste generated by the wells.  Cactus argued that the leases convey to COG only the oil and gas under the property, and that water, whether fresh or saline, belongs to the surface owner, subject only to the right of the mineral lessee to use such water for exploration and production.

The Court said that the parties’ disagreement boils down to the question “whether ‘produced water’ is, as a matter of law, water or if it is waste.”

The Court then looked for guidance in state statutory and regulatory definitions “for relevant context.” The Texas Natural Resources Code defines produced water as “oil and gas waste” and “fluid oil and gas waste”. TNRC section 91.101 and 102. Texas Water Code defines “oil and gas waste” as “waste arising out of or incidental to drilling for or producing of oil, gas or geothermal resources.”  Water  Code Section 27.002(6). Texas Water Code also contains definitions of “fresh water” and “groundwater”. Water Code Sections 27.002(8) and 35.0029(5). The Court concluded that “this framework draws a clear distinction between produced water and groundwater. … because the Legislature defines produced water as oil and gas waste, it cannot also be groundwater. … [P]roduced water is more accurately classified as a waste byproduct of oil and gas production.”

The Court also concluded that treating produced water as waste conforms with industry practice, and that the oil and gas leases should be construed in light of industry practice:

The mineral leases were negotiated against this backdrop—with a legal framework distinguishing oil and gas waste from groundwater, making clear that produced water is categorized within the former, and placing the burden of its safe disposal on operators, and according to years of the common industry practice in which operators have processed, transported, and disposed of oil and gas waste.”

Justice Palafox strongly dissented. She concluded that water, including produced water, is part of the surface estate, and Cactus was granted the right to that water. The oil and gas leases did not, she said, transfer ownership of the “entire product stream,” including produced water, to the lessee, but only the oil and gas. The leases limit the lessee’s use of water “on or under” the leased premises to drilling a water well for use in its operations. “If all of the subsurface water had been granted to COG, there would be no need to include such limiting provision.”

Justice Palafox disagreed with COG’s argument that the “general intent” of the leases was to convey anything that came through the wellbore with the conveyed oil and gas. “Here, specific substances were conveyed—oil and gas—yet another substance—water, which is a substance that must be specifically conveyed—was not likewise included in the operative language.”

She also disagreed with the characterization of produced water as “mere oil and gas waste.” She noted that the Texas Supreme Court, in Robinson v. Robbins Petroleum Corp., 501 S.W.2d 865 (Tex 1973) held that salt water “is an incident of surface ownership in the absence of specific conveyance language to the contrary.”

Justice Palafox was not persuaded by the statutory definitions relied on by the majority. Those statutes only govern the use of produced water, not its ownership.

Finally, Justice Palafox said COG’s argument that it should own the produced water because of the “costs and risks” it assumed in disposing of it was not persuasive. “COG did not voluntarily undertake anything—COG was both contractually and statutorily required to dispose of or otherwise deal with produced water in a manner that would not harm the surface estate or the environment generally.”

With increased demands for water, particularly in the western parts of Texas, produced water may well become a valuable commodity in the near future. This case is undoubtedly on its way to the Supreme Court.

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