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Can a Division Order Modify Lease Provisions?

Section 91.402(h) of the Texas Natural Resources Code, the “division order statute,” provides that

the execution of a division order … shall not change or relieve the lessee’s specific, expressed or implied obligations under an oil and gas lease ….

Section 91.402(g) of the division order statute provides that

Division orders are binding for the time and to the extent that they have been acted on and made the basis of settlements and payments, and from the time that notice is given that settlements will not be made on the basis provided in them, they cease to be binding. Division orders are terminable by either party on 30 days written notice.

But in Ohrt v. Union Gas Corporation, 398 S.W.3d 315 (Tex.App.–Corpus Christi 2012, pet. denied), the court held that, by signing a division order, plaintiffs had ratified a pooled unit that their oil and gas lease did not authorize, and that plaintiffs’ revocation of their division orders did not allow them to challenge the validity or effective date of the pooled unit.

The plaintiffs in Ohrt signed division orders for the Ohrt-Heinold Gas Unit, containing 690 acres. The well on that unit was located on plaintiffs’ tract. Their lease said that the maximum size of a pooled unit for the well would be 352 acres. The well was completed and started producing in September 2000. The unit designation was not filed until January 15, 2001. The division order provided that the division of interest stated thereon would be effective as of the date of first production from the unit. Under the terms of plaintiffs’ leases, a pooled unit does not become effective until the unit designation is filed.

Plaintiffs asserted two claims. First, they said they were entitled to royalties on production from the well from date of first production to January 15, 2001, based on their un-pooled 3/16 lease royalty – an additional $838,000 in royalties. Second, they said the unit was not effective as to them because it violated the terms of their leases by including 690 acres instead of the maximum 352 acres required by the leases. Union Gas argued that, by signing the division orders and accepting royalties, plaintiffs had ratified the pooled unit and were estopped from claiming any additional royalties. The jury agreed with Union Gas, finding that plaintiffs, by signing the division orders and accepting royalties, had ratified the pooled unit and were estopped from claiming that the unit was invalid. The court of appeals affirmed.

This case illustrates the inherent conflict between the two provisions of the division order statute quoted above – 91.402(g) and (h). On the one hand, the statute says that a division order cannot modify the terms of a lease. On the other hand, it says that a division order is binding until revoked–inferring, at least, that a division order can modify lease terms for the time that is in effect, but not after it has been revoked.

The court in Ohrt held that, under the doctrines of ratification and estoppel, by executing the division orders and accepting royalties the plaintiffs were bound by a unit designation they had not agreed to, and could not claim additional royalties prior to the date the unit designation was filed and became effective. The court’s decision appears to ignore the express language of the statute.

The court’s ruling on the first issue – whether plaintiffs were bound by the division orders for the time they were in effect — seems to me more defensible than its second ruling. The statute’s statement that a division order is binding until revoked is a restatement of the case law established before the statute was passed.  Exxon v. Middleton, 613 S.W.2d 240 (Tex. 1981). The court in Middleton reasoned that division orders are executed without consideration and therefore may be revoked at any time, but that the payee is entitled to rely on the division order as long as it is in effect. Because the plaintiffs in Ohrt signed a division order that made their unit interests effective as of date of first production, Union Gas could rely on the division order to pay unit royalties on that basis back to date of first production, and revocation of the division orders would not allow the plaintiffs to claim additional royalties for the time period prior to filing the unit designation. Likewise, even if the unit designation was not authorized by the lease, under Exxon v. Middleton Union Gas could rely on the division orders signed by plaintiffs in paying royalties on a unit basis as long as the division orders remained in effect. But the court in Ohrt went further; it held that, under principles of ratification and estoppel, the plaintiffs could not by revoking the division orders enforce the original terms of their lease limiting unit size to 352 acres. In effect, the court said that common-law principles of ratification and estoppel trumped the express language in the division order statute prohibiting a division order from modifying lease terms.

The lesson for royalty owners:  don’t sign a division order until you know all of the facts – including when the unit designation was filed and the unit became effective and whether it complies with your lease — and are sure that the division order correctly sets forth the interest in production to which you are entitled. Otherwise, you may be giving up significant rights you negotiated in your lease.


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