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Supreme Court Considers Two Cases on Retained Acreage Clauses

The Texas Supreme Court has reconsidered its decision not to hear two appeals involving retained acreage clauses: XOG Operating, LLC v. Chesapeake Exploration Limited Partnership, No. 15-0935, and Endeavor Energy Resources, L.P. v. Discovery Operating, Inc., No. 16-0155. The Court initially refused to consider the cases, after ordering briefs on the merits in both, but on September 1 the Court reversed itself. It reinstated XOG’s petition for review in XOG v. Chesapeake, and it granted the petition for review and set Endeavor v. Discovery for oral argument on January 9, 2018.TexasBarToday_TopTen_Badge_Small

In XOG v. Chesapeake, the retained acreage clause is included not in an oil and gas lease, but in an assignment of lease from XOG. The assignment provided that, once the continuous development period in the assignment expires:

Said lease shall revert to Assignor, save and except that portion of said lease included within the proration or pooled unit of each well drilled under this Assignment and producing or capable of producing oil and/or gass in paying quantities. The term “proration unit” as used herein, shall mean the area within the surface boundaries of the proration unit then established or prescribed by field rules or special order of the appropriate regulatory authority for the reservoir in which each well is completed. In the absence of such field rules or special order, each proration unit shall be deemed to be 320 acres of land in the form of a square as near as practicable surrounding a well completed as a gas well producing or capable of production in paying quantities.

Chesapeake completed six wells on the lease. Five of those wells were in the Allison-Britt (12350) Field in Wheeler County. The field rules for that field provided that “no proration unit shall consist of more than three hundred twenty (320) acres,” and that proration units of less than 320 acres would be “fractional proration units.” The sixth well (a gas well) was completed in a formation with no special field rules.

Chesapeake initially designated proration units for four of the wells in the Allison-Britt Field, by filing Form P-15’s for each well. It designated 160 acres around three of the wells and 320 acres around one of the wells. The fifth well was located on the 320-acre proration unit designated for another well. After expiration of the continuous drilling period, Chesapeake designated proration units for the other two wells.

Before the Amarillo Court of Appeals, XOG argued that Chesapeake could hold only the acreage for which it had designated proration units prior to the expiration of the continuous drilling program. Chesapeake argued that it was entitled to hold 320 acres for each of the five wells in the Allison-Britt Field and 320 acres for the one gas well completed in the formation with no field rules. Because the lease contained 1,625 acres, Chesapeake argued that it had earned all of the acreage in the lease by drilling the six wells.

The Amarillo Court of Appeals sided with Chesapeake, with one justice dissenting. It was persuaded that the language in the assignment relied on by Chesapeake – “The term “proration unit” as used herein, shall mean the area within the surface boundaries of the proration unit then established or prescribed by field rules” – controlled. The field rules provided for 320-acre proration units, so Chesapeake earned 320 acres for each well.

Before the Supreme Court, XOG has argued that the Court of Appeals’ opinion conflicts with the Eastland Court of Appeals’ decision in Endeavor v. Discovery.

The leases at issue in the Endeavor case covered the N/2 of Section 9 and the S/2 of Section 4, Block 35, T-1-N, T&P Ry Co. Survey, in Martin County. The leases contained the following provision:

At the end of the Primary Term or upon the cessation of the continuous development of the Leased Premises required above, whichever is later, this lease shall automatically terminate as to all lands and depths covered herein, save and except those lands and depths located within a governmental proration unit assigned to a well producing oil or gas in paying quantities and the depths down to and including one hundred feed belo0w the deepest productive perforation(s), within each such governmental proration unit to contain the number of acres required to comply with the applicable field rules and regulations of the Railroad Commission of Texas for obtaining the maximum producing allowable for the particular well.

Endeavor completed four wells, all in the Spraberry (Trend Area) Field: two located in the NE/4 of Section 9, and two located in the SE/4 of Section 4. No wells were drilled on the NW/4 of Section 9 or the SW/4 of Section 4. It filed proration unit plats assigning 80 acres to each well. The proration unit plats did not include any part of the NW/4 of Section 9 or the SW/4 of Section 4. And the proration unit plats were not filed until after the automatic termination date in the leases.

The Spraberry (Trend Area) Field Rules provide that “the standard drilling and proration units are established hereby to be eighty acres,” but that “operators may elect to assign a tolerance of not more than eighty acres of additional unassigned lease acreage to a well on an eighty acre unit and shall in such event receive allowable credit for not more than one hundred sixty acres.”

The mineral owners signed new leases to Discovery covering the NW/4 of Section 9 and the SW/4 of Section 4. Discovery then drilled wells on each of the disputed quarter sections. Endeavor contended its earlier leases still covered those sections. Discovery filed suit to resolve the dispute.

The Court of Appeals held that Endeavor could retain only the lands within proration units “assigned to a well.” The Court also held that Endeavor was required by the leases to file proration unit plats before the automatic termination date. Because it did not do so, “the quantity of acreage that terminated under the lease includes the acreage in the disputed quarter sections.” Because Discovery was not claiming any lands other than the disputed quarter sections, the Court did not decide what interest Endeavor had in the quarter sections on which it had drilled wells.

Many oil and gas leases contain retained acreage clauses that refer to field rules for purposes of determining the amount of acreage held by a well, and disputes like these will continue to arise. Field rules for some unconventional fields now do away with the requirement for filing proration plats and require only that the operator file a Form P-16 setting out the amount (but not the location) of acreage assigned to each well on a lease. This will create additional controversy – good for lawyers, not for the parties.

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