Source: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-caDC-00-05405/USCOURTS-caDC-00-05405-0/pdf.json

Nature of Suit Code: 890
Nature of Suit: Other Statutory Actions
Cause of Action: 

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United States Court of Appeals

FOR THE DISTRICT OF COLUMBIA CIRCUIT

Argued December 5, 2001 Decided February 8, 2002

No. 00-5404

Independent Petroleum Association of America,

Appellee

v.

Wallace P. DeWitt,

Acting Assistant Secretary,

for Land and Minerals Management, DOI and

United States Department of the Interior,

Appellants

Consolidated with

00-5405

Appeals from the United States District Court

for the District of Columbia

(No. 98cv00531)

(No. 98cv00631)

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Sean H. Donahue, Attorney, U.S. Department of Justice,

argued the cause for appellants. With him on the brief were

John C. Cruden, Acting Assistant Attorney General, William

B. Lazarus and John A. Bryson, Attorneys.

Jill Elise Grant, Harry R. Sachse, and James E. Glaze

were on the brief for amici curiae Southern Ute Indian Tribe

and Jicarilla Apache Nation.

Lee Ellen Helfrich was on the brief for amicus curiae

California State Controller.

L. Poe Leggette argued the cause for appellee Independent

Petroleum Association of America. With him on the brief

was Nancy L. Pell.

Thomas J. Eastment argued the cause for appellee American Petroleum Institute. With him on the brief was David T.

Deal.

John K. McDonald and Harold P. Quinn Jr. were on the

brief for amicus curiae National Mining Association.

Before: Sentelle and Rogers, Circuit Judges, and

Williams, Senior Circuit Judge.

Opinion for the Court filed by Senior Circuit Judge

Williams.

Concurring opinion filed by Circuit Judge Sentelle.

Williams, Senior Circuit Judge: Producers of natural gas

typically lease the mineral rights and compensate the owner

by means of a royalty calculated as some fraction (such as 1/8

or 1/6) of the value of the gas produced. In exchange, lessees

agree to bear the costs and risks of exploration and production. Federal and Indian gas leases are no exception.

But the federal government is not your standard oil-andgas lessor. For the detailed ascertainment of the parties'

rights, its leases give controlling effect not merely to extant

Department of Interior regulations but also to ones "hereafter promulgated." See, e.g., Department of Interior, Form

3100-11, at p. 1 (1992). The regulations have historically

called for calculation of royalty on the basis of "gross proceeds." See, e.g., 30 C.F.R. ss 206.152(h) (federal unprocessed gas), 206.153(h) (federal processed gas). But to abide

by the statutory mandate to base royalty on the "value of the

production removed or sold from the lease," 30 U.S.C.

s 226(b)(1)(A), Interior has allowed two deductions from

gross proceeds when calculating value for royalty purposes.

One deduction relates to certain processing costs and is

irrelevant here; the other is for transportation costs when

production is sold at a market away from the lease. 30

C.F.R. ss 206.157, 206.177; see also Final Rule, Revision of

Oil Product Valuation Regulations and Related Topics, 53

Fed. Reg. 1184, 1186 (1988). These are evidently the only

deductions from gross proceeds. Walter Oil & Gas Corp.,

111 IBLA 260, 265 (1989). Marketing costs have therefore

not been deductible. See, e.g., Arco Oil & Gas Co., 112 IBLA

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8, 10-11 (1989).

In the mid-1980s a series of rulemakings by the Federal

Energy Regulatory Commission somewhat changed the circumstances to which these principles applied. Previously,

producers most commonly sold gas at the wellhead to natural

gas pipeline companies, which then transported it and sold it

to local distribution companies; less commonly, they made

direct sales from producer to an end user or distributor, with

the pipeline providing only transportation. See, e.g., FPC v.

Transcontinental Gas Pipeline Corp., 365 U.S. 1, 4 (1961).

But FERC, starting with Order No. 436 and culminating in

Order No. 636, in effect transformed the pipelines into "openaccess" transporters and required them to separate sales

from transportation services, Final Rule, Pipeline Service

Obligations and Revisions to Regulations Governing SelfImplementing Transportation, and Regulation of Natural

Gas Pipelines After Partial Wellhead Decontrol, 57 Fed. Reg.

13,267, 13,279/1 (1992) ("Order 636"), to charge unbundled

rates for services such as transmission and storage, id. at

13,288-89, and to assign their merchant services to functionally independent market affiliates, id. at 13,298; see also 18

C.F.R. s 161 (1988) (restricting pipelines from favoring such

affiliates). In effect, the pipelines as such became almost

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exclusively transporters of gas, and direct sales by producers

to end users, distributors, or merchants became the norm.

In response to these changes, the Department of Interior

in 1997 amended its gas royalty regulations "to clarify [its]

existing policies" and to prevent lessees from claiming "improper deductions on their royalty reports and payments."

Final Rule, Amendments to Transportation Allowance Regulations for Federal and Indian Leases to Specify Allowable

Costs and Related Amendments to Gas Valuation Regulations, 62 Fed. Reg. 65,753/3-65,754/1 (1997) ("Final Rule").

Two trade associations representing the gas producers

(American Petroleum Institute for the "majors," Independent

Petroleum Association of America for the "independents")

brought suits challenging these regulations as arbitrary and

capricious. Their primary contention was that Interior had

impermissibly refused to permit deductions for costs incurred

in marketing gas to markets "downstream" of the wellhead.

Dispute focused especially on Interior's denial of deductions

for (1) fees incurred in aggregating and marketing gas with

respect to downstream sales; (2) "intra-hub transfer fees"

charged by pipelines for assuring correct attribution of quantities to particular transactions (not for the physical transfers

themselves); and (3) any "unused" pipeline demand charge

(i.e., the portion of a demand charge paid to secure firm

service but relating to quantities in excess of a producer's

actual shipments).

The district court granted summary judgment for the

producers in broad terms, Independent Petroleum Association of America v. Armstrong, 91 F. Supp. 2d 117, 130

(D.D.C. 2000) ("IPAA"), but then granted Interior's Rule

59(e) motion for clarification, Independent Petroleum Association of America v. Armstrong, No. 98-00531(RCL) (D.D.C.

Sept. 1, 2000) ("Amended Order") (unpublished opinion).

When the dust had settled, the upshot was to declare that the

relevant regulations were unlawful "to the extent that they

impose a duty on lessees to market gas downstream ... and

disallow the deduction of downstream marketing costs," including the intra-hub transfer fees, and to the extent that

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ble rate multiplied by the "actual volumes transported."

Amended Order, slip op. at 2. The modified order also

specified that a producer that sold unused pipeline capacity

must credit the United States with the resulting revenue. Id.

Interior now appeals.

We review the district court's ruling de novo, "as if the

[agency's] decision had been appealed to this court directly."

Kosanke v. Dep't of Interior, 144 F.3d 873, 876 (D.C. Cir.

1998) (quoting Dr. Pepper/Seven-Up Cos. v. FTC, 991 F.2d

859, 862 (D.C. Cir. 1993)). On the deductibility of marketing

costs we find no legal error in Interior's rule and therefore

reverse the district court; on the "unused" demand charge

issue, we affirm the district court.

* * *

The producers argue that we owe no deference to Interior's

judgments here, saying that the case involves interpretation

of contracts, not of a statute. Thus they call for "interpretation under neutral principles of contract law, not the deferential principles of regulatory interpretation." Mesa Air

Group, Inc. v. Department of Transportation, 87 F.3d 498,

503 (D.C. Cir. 1996). But see National Fuel Gas Supply

Corp. v. FERC, 811 F.2d 1563, 1570-71 (D.C. Cir. 1987)

(applying a Chevron framework to agency interpretation of

contracts, though expressing concern where the agency is

self-interested). Thus the producers' briefs point (rather

summarily) to state court decisions, implicitly asking us to

treat the matter as would a state court interpreting private

leases. But here the contracts themselves lead us back to the

agency. As we said, they incorporate the regulations and

recognize Interior's authority to modify them. E.g., Form

3100-11, at p. 1 ("Rights granted are subject ... to regulations and formal orders hereafter promulgated when not

inconsistent with lease rights granted or specific provisions of

this lease."); id. at s 2 (reserving to Interior "the right to

establish reasonable minimum values on products"); see also,

e.g., Department of Interior, Form MMS-2005, s 6(b) (1986);

Department of Interior, Form BAO-436A, s 3 (1993).

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Of course the application of new rules to pre-existing leases

may involve "secondary retroactivity": a new rule that legally

has only "future effect," and is therefore not subject to

doctrines limiting retroactive effect, may still have a serious

impact on pre-existing transactions. See, e.g., Bowen v.

Georgetown University Hospital, 488 U.S. 204, 219-20 (1988)

(Scalia, J., concurring). Interior's own rules recognize the

possibility, explicitly repudiating any authority to alter the

royalty rate except downwards (i.e., in the lessee's favor). 30

C.F.R. s 202.52(a). The legal effect of such secondary retroactivity is to add a nuance to ordinary review for whether the

agency has been arbitrary or capricious: we review to see

whether disputed rules are "reasonable, both in substance

and in being made retroactive." U.S. Airwaves, Inc. v. FCC,

232 F.3d 227, 233 (D.C. Cir. 2000). But this added nuance is

quite different from a general denial of deference.

In a related argument, producers urge that deference to

Interior's interpretation of the statute under Chevron U.S.A.,

Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837

(1984), is inappropriate for regulations that affect contracts in

which Interior has financial interests.

But in the mineral leasing statutes Congress has granted

rather sweeping authority "to prescribe necessary and proper

rules and regulations and to do any and all things necessary

to carry out and accomplish the purposes of [the leasing

statutes]." 30 U.S.C. s 189 (federal lands); see also 25

U.S.C. ss 396, 396d (tribal lands); 43 U.S.C. s 1334(a) (outer

Continental shelf). These "purposes," of course, include the

administration of federal leases, which involves collecting

royalties and determining the methods by which they are

calculated. See California Co. v. Udall, 296 F.2d 384, 387-88

(D.C. Cir. 1961); see also Independent Petroleum Association

v. Babbitt, 92 F.3d 1248, 1262 n.6 (D.C. Cir. 1996) (Rogers, J.,

dissenting) (recognizing that Congress authorized Interior "to

prescribe regulations governing mineral leases").

It is thus not surprising that the cases do not support

producers' theory. Though no circuit appears ever to have

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interested agencies, courts have regularly applied Chevron in

royalty cases. In California Co., we deferred to Interior's

interpretation of the word "production" for purposes of calculating royalty, noting the Department's duties both to protect

the public interest in royalties and to assure "incentive[s] for

development." 296 F.2d at 388. Similarly, in Mesa Operating Limited Partnership v. Department of Interior, 931 F.2d

318 (5th Cir. 1991), the Fifth Circuit applied Chevron in

determining whether certain reimbursements were subject to

royalty. Id. at 322; see also Enron Oil & Gas Co. v. Lujan,

978 F.2d 212, 215 (5th Cir. 1992) (applying Chevron to issue of

whether state tax reimbursements are subject to royalty);

Marathon Oil Co. v. United States, 807 F.2d 759, 765-66 (9th

Cir. 1986) (applying Chevron to Interior's use of a "net-back"

method for calculating value for royalty purposes). Our

reference in California Co. to Interior's necessary concern for

producer incentives in effect invoked Interior's role as a

repeat player, which would cause Interior to pay severely if it

acquired a reputation for pulling the rug out from under the

generally accepted meaning of existing leases.

In support of their position, producers principally rely on

language from Transohio Savings Bank v. Office of Thrift

Supervision, 967 F.2d 598 (D.C. Cir. 1992), where we expressed reluctance to apply Chevron "to an agency interpretation of a statute that will affect agreements to which the

agency is party." Id. at 614. But we ultimately found that

Congress's intent was clear and thus had no occasion to grant

(or withhold) deference. See id. at 614-15. In the end, of

course, the availability of Chevron deference depends on

congressional intent, but our application of such deference in

the face of a recognized risk of agency self-aggrandizement,

such as interpretations of their own jurisdictional limits,

Oklahoma Natural Gas Co. v. FERC, 28 F.3d 1281, 1283-84

(D.C. Cir. 1994), necessarily means that self-interest alone

gives rise to no automatic rebuttal of deference. Indeed,

given the ubiquity of some form of agency self-interest, see

generally Dennis C. Mueller, Public Choice 156-70 (1979);

William A. Niskanen, Jr., Bureaucracy and Representative

Government (1971), a general withdrawal of deference on the

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basis of agency self-interest might come close to overruling

Chevron, a decision far beyond our authority. We see no

indication here of a special intent to withhold deference.

* * *

"Downstream" marketing costs and intra-hub transfer

fees. We find nothing unreasonable in Interior's refusal to

allow deductions for so-called "downstream" marketing costs.

See Final Rule, 62 Fed. Reg. at 65,756. Both the producer

groups acknowledge that marketing costs for sales at the

lease have historically been nondeductible. API Br. at 30;

IPAA Br. at 22. Yet at no point do they offer a persuasive

reason for introducing a distinction between marketing for

leasehold sales and for "downstream" sales. Indeed, marketing does not even appear readily divisible between the two, as

it would be if lessees stood on their lease boundaries and

operated the equivalent of a lemonade stand for leasehold

sales, but traveled to distant cities for "downstream" ones.

Rather, so far as it appears, marketing proceeds by means of

the standard modern devices--face-to-face meeting, phone

call, internet posting. See, e.g., Order 636, 57 Fed. Reg. at

13,282/2 (describing electronic bulletin boards, then precursors to the Internet, as having become "standard industrywide practice"). Unlike the sale itself, which will presumably

involve shifts of title and possession at specified points,

marketing has no locus--certainly none that ineluctably

tracks the point where title shifts.

To be sure, transaction costs may be higher for sales in the

current market; sales to a single (perhaps monopsonistic)

pipeline may have been painfully simple. But a change in the

dimension of a cost is hardly an argument for its reclassification, as the Interior Board of Land Appeals has observed.

Arco, 112 IBLA at 11. And because the producers are under

no duty to market "downstream" and may opt to sell at the

leasehold, see IPAA, 91 F. Supp. 2d at 123 ("Interior concedes that plaintiffs are free to sell or beneficially consume

gas at the wellhead only, rather than pursue downstream

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sales."), a complaint based on the cost change is especially

weak.

Producers further argue that downstream marketing adds

to the value of the gas at the leasehold, and thus that the

royalty owner should share the costs. In support, they

propose what amounts to an elegant theory suggesting that

the sale of "marketable condition" gas at the leasehold represents a baseline, and that the costs of all further value-adding

activities should be deductible. Under this view, producers

explicitly condemn any distinction between marketing and

transportation. But the argument in the end seems almost

metaphysical; it is a claim that when the maximum value of

gas can be realized by a downstream sale, then not only

transportation costs but also the cost of efforts undertaken to

identify and realize that value must somehow be more like

transportation itself than they are like on-lease marketing.

Assuming arguendo that producers' metaphysical point is

correct, we think it falls far short of compelling the Department to give up its usual distinction between marketing and

transporting costs. Not only is the distinction traditional,

Walter Oil, 111 IBLA at 265, but Interior has historically

applied it to downstream sales, denying deductibility for a

lessee's costs in hiring a marketing agent to arrange transportation downstream, to aggregate customers, and to deal

with a local distribution company. Arco, 112 IBLA at 9-12.

Given the difficulty in slicing up marketing costs on the basis

of the point of sale, and given that Interior must take

administrability into account, compare Owen L. Anderson,

"Royalty Valuation: Should Royalty Obligations Be Determined Intrinsically, Theoretically, or Realistically? (Part 2),"

37 Nat. Resources J. 611, 678 (1997) (discussing monitoring

problems), we find nothing unreasonable in its hewing to the

old line between marketing and transportation.

The producers' attack on Interior's denial of deductibility

for aggregator/marketer fees, 30 C.F.R. ss 206.157(g)(2),

206.177(g)(2), rests on the same foundations as the more

general attack on "downstream" marketing costs and therefore fails for the same reasons. Intra-hub transfer fees, id.

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at ss 206.157(g)(4), 206.177(g)(4), are slightly different. As

IPAA recognizes, intra-hub transfer fees are charged "when

[a] lessee sells the gas at [the] pipeline's junction at the hub."

IPAA Br. at 30 (emphasis added). Interior distinguishes

these fees, which are part of a "sales transaction," from socalled intra-hub wheeling fees, which are charged for the

actual transportation of gas through a hub. See Final Rule,

62 Fed. Reg. at 65758. Producers contend that Interior

allowed deduction for these costs in the past and failed to

justify its change in policy. Before FERC Order No. 636,

costs of this sort, even though reasonably classifiable as

marketing, would have been bundled with transportation

costs, making precise separation administratively troublesome, if not impossible. Once Order No. 636 unbundled rates

and enabled Interior to identify "nonallowable costs of marketing," Final Rule, 62 Fed. Reg. at 65755/1, it was reasonable for Interior to rigorously apply its conventional distinction between marketing and transportation.

Producers make two additional arguments regarding intrahub transfer fees. First, they seem to claim that Interior had

the ability to "look behind" the bundled rates prior to 1997.

But their citations to regulations governing deductions in the

non-arms-length bargaining context, see 30 C.F.R.

s 206.157(b)(2)(i) & (iii), offer little support. Indeed, they

seem only to further demonstrate Interior's historical reluctance to separate actual transportation costs from "nonallowable costs of marketing" when such separation is administratively difficult. Second, they argue that intra-hub transfer

fees are similar to other administrative costs, such as Gas

Supply Realignment, Annual Charge Adjustment, and Gas

Research Institute fees, which are deductible. Producers fail

to note, however, that these are mandatory surcharges imposed by FERC on gas transportation, and thus, unlike intrahub transfer fees, can be considered part of the actual cost of

transporting gas. See Final Rule, 62 Fed. Reg. at 65758.

"Unused" firm demand charges. Shippers of natural gas

may choose among different degrees of assurance that space

will be available for their shipments, paying (naturally) for

extra security. By paying a firm demand charge (an upfront

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reservation fee), they secure a guaranteed amount of continuously available pipeline capacity; when they actually ship,

they incur a "commodity charge" for the transport itself.

The reservation fee, however, is nonrefundable--the cost of

any reserved capacity that a lessee ultimately cannot use will

be lost unless it is able to resell the capacity. (Recall that the

district court amended the summary judgment order, at the

behest of the government, to provide for a credit to the

government in the event of such resales.) In contrast, with

"interruptible" service, shippers pay no reservation fee, but

their access to pipeline capacity is subject to the changing

needs of other, higher priority customers (i.e., those who pay

for firm demand). Producers claim that the unused firm

demand charges are part of their actual transportation costs,

and thus should be deductible.

In defense of its contrary view, Interior said only that it

does "not consider the amount paid for unused capacity as a

transportation cost," Final Rule, 62 Fed. Reg. at 65757/1, not

revealing to what category such expenses did belong. In its

opening brief, it quotes its prior assertion and declares that

the district court must be reversed because it "offered no

cogent reason for rejecting this distinction." Interior Br. at

43. But Interior has offered no "distinction" at all, only an

unusually raw ipse dixit. On its face, it is hard to see how

money paid for assurance of secure transportation is not "for

transportation"; the cost of freight insurance looks like a

shipping expense, for example, even if the goods arrive

without difficulty and the premium therefore goes "unused."

And Interior makes no suggestion that producers have incurred such fees extravagantly--an extravagance that seems

unlikely, as under the ordinary 1/8 lease the producer would

bear 7/8 of the loss. Further, under the crediting arrangement provided by the district court order, the government

will share in any recovery of the "unused" charge, a recovery

that producers have strong incentives to pursue. While some

reason may lurk behind the government's position, it has

offered none, and we have no basis for sustaining its conclusion. See, e.g., Motor Vehicle Manufacturers Ass'n, Inc. v.

State Farm Mut. Auto. Ins. Co., 463 U.S. 29, 43 (1983).

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* * *

The judgment of the district court is reversed on all issues

except for its ruling on unused firm demand charges, which

we affirm.

So ordered.

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Sentelle, Circuit Judge, concurring: I join without reservation the conclusion of the court, and the reasoning that is

essential to it. I find confusing, and indeed troubling, some

of the discussion of the applicability of Chevron deference to

the interpretation of statutes governing contracts in which

the agency has a financial interest. I of course agree with

the court's fundamental proposition that "the availability of

Chevron deference depends on congressional intent...."

Maj. op. at 7. Chevron itself makes plain that the deference

we afford an agency is created either by Congress "explicitly

[leaving] a gap for the agency to fill," or implicitly delegating

that authority to the agency by the decision of Congress not

to directly address "the precise question at issue" while

charging the agency with the administration and therefore

the interpretation of the "ambiguous" act. Chevron U.S.A.

Inc. v. Natural Resources Defense Council, 467 U.S. 837,

842-44 (1984). As the majority states, I "see no indication

here of a special intent to withhold deference" in the interpretation of this act on a question as to which Congress has not

spoken directly. Maj. op. at 8. I find neither persuasive nor

necessary the court's reliance on interpretation of jurisdictional limitations as in Oklahoma Natural Gas Co. v. FERC,

28 F.3d 1281, 1283-84 (D.C. Cir. 1994). That case involves

the very different question, to me a vexing one, of whether an

ambiguity as to the limitations of agency authority constitutes

the sort of implicit delegation upon which Chevron deference

rests. Further, I do not understand the majority's proposition that "a general withdrawal of deference on the basis of

agency self-interest might come close to overruling Chevron...." Maj. op. at 7-8. We might as well propose that

judges can sit on cases in which they have a financial interest

because we regularly sit on cases on which we might exercise

self-aggrandizement by expansively interpreting our jurisdiction. Nonetheless, because this discussion is no more than

dicta, and not at all essential to the court's conclusion, I

concur in the decision reached and in the balance of the

opinion.

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