The Texas Supreme Court has recently refused to hear Friddle v. Fisher, 378 S.W.3d 475 (Tex.App.-Texarkana 2012). The court of appeals’ opinion has an interesting discussion of the duties of a mineral owner to owners of non-participating royalty interests burdening the mineral estate and of the application of the discovery rule to claims that such duties were breached.
These are the facts of the case: In 1949, M.L. Friddle conveyed 84.7 acres in Hopkins County to Barney Martin, reserving 1/4 of the royalty. The reserved royalty interest later came to be owned by M.L. Friddle’s son Marvin. In 1995, Barney Martin conveyed 1/4 of the royalty in the 84.7 acres to Mable Robinson, and 1/4 of the royalty to Helen Warde. The following day, Martin conveyed the land to Fred and Ruth Fisher. Later, Marvin Friddle acquired from Mable Robinson and Helen Warde the royalty interests that were conveyed to them. So, at the time this controversy arose, the Fishers owned the land and minerals, subject to a NPRI owned by Marvin equal to 3/4 of the royalty.
In 1998, the Fishers signed an oil and gas lease on the 84.7 acres, reserving a 1/8 royalty. Valence Operating Company formed a pooled unit, the Ames-Antrim Gas Unit, and pooled the 84.7 acres into the unit. Valence drilled a well on the unit, but the well was not located on the 84.7 acres. Neither Valence nor the Fishers notified Marvin of the granting of the lease, the formation of the pooled unit, or the drilling of the well. Valence paid all of the royalty attributable to the 84.7 acres to the Fishers.
Marvin did not find out about the Ames-Antrim Gas Unit until 2008, shortly before he filed suit against the Fishers and Valence. In his suit, Marvin contended that the Fishers and Valence had a duty to notify him of the lease and the unit and give him the opportunity to ratify the lease and/or the unit so that he would share in unit production and get his 3/4 of the royalty on the portion of unit production allocated to the 84.7 acres. Marvin also claimed that the Fishers had a duty to hold his share of the royalty in trust for him until it could be paid to him.
Marvin’s suit against Valence was severed into a separate suit. The trial court granted the Fishers’ motion for summary judgment and ruled that Marvin should take nothing by his suit. Marvin appealed.
The court of appeals reversed and remanded the case for trial. The court held that the Fishers, as holders of the leasing rights in lands in which Marvin has a royalty, had a duty — the court calls it a fiduciary duty — to notify Marvin of the lease and to “hold the portion of the funds which would be payable to the holder of the NPRI as constructive trustees for the use and benefit of the holder of the NPRI.” The court relied as precedent on Andretta v. West, 415 S.W.2d 638 (Tex. 1967).
The facts in Andretta are similar to Marvin’s case. In Andretta, the Wests signed an oil and gas lease on lands in which Andretta had a royalty interest. Superior Oil Company held the Wests’ lease and an adjacent lease. Superior drilled a well on the adjacent lease, and the Wests claimed that Superior had a duty to drill an offsetting well on their property. In a settlement of that claim, Superior agreed to pay the Wests a compensatory royalty, as if the Wests had a 1/8th royalty in production from the adjacent tract. When Andretta found out about this settlement, he sued the Wests claiming 1/4th of the compensatory royalty payments being made to the Wests. The Texas Supreme Court held that Andretta was entitled to his 1/4th of that compensatory royalty. It said that, if the Wests knew the name and whereabouts of the royalty owner, “it was their duty to notify him of the [settlement] and account to him for his share of the payment as received.”
The court of appeals in Friddle v. Fisher also had to address the Fishers’ claim that Friddle had waited too long to file his suit. Under Texas law, a claim like Friddle’s – a suit for breach of a fiduciary duty — must be brought within four years of the date when the plaintiff discovered or should have discovered the breach of fiduciary duty. The court of appeals held that there was conflicting evidence in the record as to when Friddle discovered or should, in the exercise of reasonable diligence, have discovered the facts that gave rise to his claim, and that a jury should be asked to determine when Friddle should have discovered his claim.
The Fishers’ attorneys argued strenuously that the discovery rule – the rule that the four-year limitation period for bringing suit does not begin until Friddle discovered or should have discovered his claim – should not apply to his claim, based on three recent Texas Supreme Cout cases, HECI Exploration Co. v. Neel, 982 S.W.2d 881 (Tex. 1998), Shell Oil Co. v. Ross, 35 S.W.3d 924 (Tex. 2011), and BP America Production Co. v. Marshall, 342 S.W.3d 49 (Tex. 2011). In those cases, the Texas Supreme Court has held that the discovery rule does not apply to royalty owners’ claims against their lessee for additional royalties, and that the royalty owners have a duty to look after their interests and investigate whether they should be entitled to royalty payments. The court of appeals distinguished those cases on the ground that an oil and gas lessee does not owe a “fiduciary” duty to its lessor, but only a duty to act in good faith and as a prudent operator. A person owed a fiduciary duty is relieved of the obligation to diligently inquire into the fiduciary’s conduct. He is entitled to assume that the fiduciary is looking after his interest until facts to the contrary are brought to his attention. So Friddle was relieved of any duty to “diligently inquire” into the Fishers’ conduct, and the discovery rule applies to determine when he is barred by limitations from pursuing his claim.
I have previously written critically about the Texas Supreme Court’s opinions in Shell v. Ross and BP v. Marshall. I believe that the court has placed an unreasonable burden on royalty owners to “diligently inquire” into their lessee’s conduct to discover errors or misdeeds. The court is being asked to revisit this issue in another case now pending on petition for review, Hooks v. Samson Lone Star, L.P., on appeal from the First District Court of Appeals in Houston.
Many properties in Texas are burdened by non-participating royalty interests. In the early days of the oil business it was common for landowners to buy and sell NPRI’s as a way to speculate on possible future oil and gas development. In some tracts there are dozens or even hundreds of royalty owners. The standard industry practice when tracts subject to NPRI’s are leased is for the lessee to seek out the NPRI owners and request that they sign ratifications of the lease. The lessee wants the ratifications because they give the lessee the right to pool the NPRI interests in accordance with the pooling clause in the lease. Most mineral owners who sign leases on lands burdened by NPRI’s assume that their lessee will obtain those ratifications and properly account to the NPRI owners for their share of production. Even identifying and tracking down the NPRI owners is sometimes a large task, one that most mineral owners would not wish to assume. While Friddle v. Fisher does not impose that burden on the mineral owner, the case does impose some amount of obligation on the mineral owner to see that the NPRI owner is dealt with fairly.
It may be prudent for mineral owners whose interests are burdened by NPRI’s to include provisions in their leases affirmatively obligating their lessee to seek out and account to the NPRI owners, and to provide that information to the lessor so that he can assure that his obligations are satisfied.