Source: http://wallbulling.com/jointoilandgasops.php
Timestamp: 2019-04-20 17:08:41+00:00

Document:
Article: Joint Oil and Gas Operations in Louisiana.
Joint Oil and Gas Operations in Louisiana.
Professor Harrell has suggested that where two co-owners of land lease their lands to two different persons, each lessee is free to conduct operations without anyone's consent. n44 He reaches this conclusion by arguing that when the co-owner of land creates the lease he consents to a general devotion of the land to mineral purposes. Furthermore, the argument goes, neither lessee can object because the right to explore for the minerals does not carry with it the right to prevent anyone else from doing the same. This analysis is suspect for two reasons. First, consent to one type of operation, or any activities by one party, does not imply consent to all operations by any party. Second, inherent in the right to explore for and produce minerals is the right to determine the fashion in which the exploration and production takes place. Professor Harrell is correct in stating that a co-owner of land who has leased his interest has no right to object to the operations conducted by a lessee of another co-owner; however, the lessee of the aforementioned co-owner, who has derivatively acquired the landowner's rights, may veto the other lessee's operations in order to protect his right to determine the fashion in which the property is developed.
The Commissioner of Conservation has statutory authority to require "owners," defined as persons with the right to drill, produce and appropriate production, n50 to pool their interests in a drilling unit to prevent waste or to avoid drilling unnecessary wells. n51 The Commissioner also has broad power to regulate oil and gas exploration and production. n52 However, the unitization statutes do not explicitly grant any greater rights to conduct operations than those granted by the Mineral Code, which would deny the operator of the unit the right to conduct operations on a unit tract unless he had a real right in it, such as ownership, a servitude or a lease. Thus, the unit operator would theoretically have no right to drill a well on or under a unit tract without the owner's consent.
[*88] In the landmark case of Nunez v. Wainoco Oil & Gas Co., n53 the Louisiana Supreme Court, noting that the unitization statutes superseded the concept of private ownership of the subsurface, held that the operator had not committed trespass when the unit well unintentionally strayed from vertical and traversed the invisible subsurface boundary onto the plaintiff's property. The court rejected the plaintiff's demand for an injunction ordering the operator to remove the well. n54 In so ruling, the court observed that the Commissioner has "the general authority to establish whatever rules, regulations, and orders are necessary to prevent [waste] and to enforce the conservation laws," n55 and further, that "[u]nitization . . . creates rights and interests in a pool of hydrocarbons beyond the traditional property lines [and] effectively amends . . . private property laws. . . ." n56 In Exxon Corp. v. Thompson, n57 the court, relying upon Nunez, affirmed the Commissioner's authority to abrogate the rule of capture n58 by requiring that production which occurs prior to the formation of a unit, but after the commencement of proceedings to create one, should be shared on the basis of the subsequently created unit. It remains to be seen how far rights of private ownership will be superseded by the conservation laws.
No statute or case law defines the obligations of the unit operator to the other owners in the unit or the rights of the other owners in the unit well. The other owners in the unit generally are considered to have no control over the operator's conduct of operations, although it has been suggested that the operator's freedom to act may be restricted by a broad fiduciary duty. n59 However, upon application of a nonoperating owner, the Commissioner of Conservation presumably could issue orders regarding the operation of the unit well.
The court's attempt to distinguish Humble is unpersuasive and seems more an effort to reach a result than sound legal reasoning. The Davis Oil court sanctioned the nonoperator's "defensive" effort to prevent drainage that might possibly occur in the future by proposing a counterplan without incurring any financial obligation. However, in Humble, where drainage was actually occurring, the nonoperator owed a duty to his lessor to seek unitization. By fulfilling this duty, he incurred a [*90] financial liability for his pro rata share of well costs. This distinction between provoking the proceedings and proposing a counterplan is superficial. The Davis Oil court avoided the critical question -- whether the exercise of a conservation right, regardless of the nonoperator's financial wherewithal, carries with it the obligation to share costs. The better ruling would have been that it does; an acceptable ruling, overruling Humble, would be that it does not. Davis Oil accomplished neither.
Although any owner, including a landowner, servitude owner or lessee, may propose a well under the statute, and thereby potentially collect a risk charge, the risk charge may only be collected out of a lessee's interest in the unit. n73 The lessor's royalty and any overriding royalty attributable to a nonparticipating lease must be paid while the risk charge is being recouped. While the statute does not specify whether the nonparticipating lessee or the drilling owner must pay the royalties, an argument can be made that the drilling owner must pay them because the statute states that the royalty owner shall receive that portion of the "production," not proceeds, due them under the lease.
The legislature probably did not intend for Act 595 to address the problem of allocating the costs of the well to the owners of the various [*93] pools encountered by the well. However, the act's literal language seems to address the problem by allowing the operator to recover well costs each time a new horizon in the well is unitized to include owners who have not previously contributed to the costs of the well. n84 A fairer solution would be to allocate costs based upon the relationship between the reserves in the unitized pool and all recoverable reserves in the well.
Yet another question arises -- must all lease co-owners participate in the well in order to avoid the risk charge? The statute does not specify whether each co-owner of a mineral lease has an independent right to participate, nor whether the risk charge will be reduced to the nonparticipating co-owners' percentage interest in the tract. The statute literally provides that the owner drilling the well may recover, out of production allocable to the tract belonging to the nonparticipating owner, a risk charge, defined as one hundred percent of such tract's allocated share of the cost of drilling, testing, and completing the unit well. n88 The fact that the risk charge was defined as the tract's allocated share of costs, instead of the owner's allocated share of costs, indicates that the risk charge was intended to be imposed on a tract by tract, as opposed to a lessee by lessee, basis. n89 On the other hand, an argument can be made that a lessee of a tract who has no independent right to drill (either a lease co-owner or a lessee of less than eighty percent of the minerals) has the right to elect to participate in a well because incurring the risk charge constitutes waste. n90 Under these circumstances, the lessee would have to put up all costs allocable to the entire tract but could recover only costs, n91 unless, by such an election, that lessee could be considered a drilling owner with the right to obtain a risk fee. n92 These questions are but a few that might give rise to future litigation.
An agreement to share the risk and expense of oil and gas exploration and production is referred to as a "joint operating agreement," or, simply, an "operating agreement." The property covered by such an [*96] agreement is referred to as the "contract area." Operating agreements typically designate one party, known as the "operator," to conduct the day to day operations and then charge the other parties, known as nonoperators, for their share of the operating costs. An operating agreement differs from a passive investment, such as a limited partnership, because the nonoperators have rights to influence the operations. n99 Operating agreements usually address in some fashion one or both of the following questions: (1) what property rights are affected by the agreement? and (2) what are the parties' rights and obligations with respect to the conduct of, and accounting for, drilling and production operations?
The essential element of the relationship is that the principal has the right to control the conduct of the agent. n116 This element may be lacking in some areas, such as nonconsent operations, where the operator may pursue its own self interest even though that interest is opposite the interests of a nonoperator. However, this right to control may be present in other areas, such as the handling of lawsuits, where, depending upon the terms of the agreement, the nonoperator may have effective control over the operator's conduct.
In the absence of a stipulation pour autri, the rights and obligations created by an operating agreement should extend only to the parties thereto. However, in Huggs, Inc. v. LPC Energy, Inc., n128 the court held that an operator, who acquired its interest in a mineral lease subject to an overriding royalty, was liable in damages to the owner of the overriding royalty even though the latter was not a party to the operating agreement. The court rejected the operator's lack of privity argument and, employing a tort analysis, held that the operator's duty under the operating agreement to maintain the lease extended to the overriding royalty owner because such owner was at risk should the lease be negligently lost. The court's reasoning is flawed, however, because, without agreement, the operator had no duty to maintain the lease, and the operator agreed only to protect the nonoperators' interest, not that of third parties. n129 The notion that the duties imposed in an operating agreement can extend to nonparties is a considerable expansion of the law that could create numerous unforeseen liabilities. Therefore, Huggs should be overruled or limited to its facts.
The parol evidence rule conclusively prohibits proof of ownership of immovable property by testimony, n130 except where the vendor admits the sale under oath at trial and the item has been delivered. n131 Therefore, an operating agreement must be in writing to affect title to a real right such as land, a mineral servitude, or a mineral lease. n132 The writing must clearly declare the parties' intent to be bound and the basic terms of the agreement, n133 but the writing need not be in a particular form. n134 For example, in Chevron U.S.A., Inc. v. Martin Exploration Co., n135 the court held that an exchange of telexes constituted a writing sufficient to establish a lease forfeiture penalty for failure to participate in operations.
The execution of an agreement containing cost and profit sharing provisions does not ordinarily constitute an assignment of real rights. n151 Nonetheless, in Crow Drilling & Producing Co. v. Hunt, n152 the parties executed a letter agreement specifying their respective shares of the costs and revenues of wells on the same day that an operating agreement was executed. The court held that, in view of the separate letter agreement, the failure of one party's title to mineral leases did not diminish his share of production even though the operating agreement provided for reducing his interest in the event of title loss.
A number of cases have held that an agreement between lease owners fixing the distribution of production from wells is not altered or abrogated [*104] by the creation of a commissioner's unit. n153 However, in Kaiser Aluminum Exploration Co. v. Celeron Oil & Gas Co., n154 the court held that whether an agreement fixing the parties' share of costs and revenues was altered by a commissioner's unit raised a question of fact regarding the parties' intent.
As previously discussed, a party who has taken less than its share of gas may make up the difference, or balance, by taking more than its share of gas until its takes have become ratable with the other party. n155 Where this in-kind method of balancing will not permit the underproduced party to recover his just or equitable share, then that party may make up by cash balancing, i.e., requiring the overproduced party to pay him for his share of the gas that he did not receive. n156 In Pogo Producing Co. v. Shell Offshore, Inc., n157 the court rejected a claim for cash balancing where the operating agreement did not provide for balancing and the well had not depleted. In Chevron U.S.A., Inc. v. Belco Petroleum Corp., n158 the court rejected Chevron's claim for cash balancing after the well had depleted because the balancing agreement, which Chevron proposed, provided only for in kind balancing. At a minimum, Belco establishes that where the parties have agreed there will be no cash balancing, that agreement will be given effect even if it deprives a party of its pro rata share of the gas. However, a fair interpretation of Belco is that a failure to mention cash balancing in a balancing agreement will preclude that remedy even if the well depletes.
An area of mutual interest provision provides that any party who acquires a mineral interest in a certain area must offer it to the other parties on a pro rata basis. n160 An acreage or cash contribution clause provides that a party receiving a contribution of cash, or acreage lying outside of the contract area, toward the drilling of a well on the contract area must share it with the other parties. n161 The area of mutual interest clause serves to maintain the parties' participation percentages in an area; the acreage contribution clause serves to maintain those percentages with respect to individual wells.
In Lyle Cashon Co. v. McKendrick, n163 the court held that while the defendant had not explicitly exercised his option to participate in the plaintiffs' acquisition of a lease in an area of mutual interest, his intent to exercise that option was evidenced by the parties' actions. The court further noted that the plaintiff was estopped to deny defendant's interest because plaintiff had accepted the benefits of defendant's activities in furtherance of the development of the acreage. However, in J-O'B Operating Co. v. Newmont Oil Co., n164 the court held that the plaintiff had not properly exercised its option to participate in the acquisition because, although it notified defendant of its intent to participate, it refused to pay certain costs which it contended were not necessary for the acquisition. The court concluded that the area of mutual interest provision did not allow the electing party to contest the necessity for, or the extent of, any consideration paid by the acquirer for the interest.
Historically, a contribution was regarded as a conveyance of cash or mineral rights by one party to another party to induce the latter to drill a well. It has been suggested, however, that the word "contribution" refers to the fact that the acreage will be included in, and, therefore, "contribute" to, a unit for the well in question. In Superior Oil Co. v. Cox, n165 the operator acquired a farmout of acreage outside the contract area from another party to the operating agreement. The farmout agreement provided that if the operator drilled a well, he would receive an assignment of that portion of the farmout acreage included in a unit for the well. The plaintiff, also a party to the operating agreement, claimed that since the earning well was located on the contract area, and the farmout acreage was subsequently included in the unit for said well, the contribution clause obligated the operator to offer the farmout acreage to plaintiff because it "contributed to" the well. The Louisiana Supreme Court rejected this claim, stating that the acreage earned under the farmout agreement was not a contribution because it was not earned solely by the drilling of a well; the acreage earned also depended upon the Commissioner of Conservation's subsequent determination that the acreage should be included in the unit. The court also explained that the contribution clause only applied to acreage obtained from persons who were not parties to the operating agreement. Interestingly, in Harper Oil Co. v. Yates Petroleum Corp., n166 the New Mexico Supreme Court relied upon Superior to hold that the acreage contribution clause did not apply to assignments or contributions between parties to the operating agreement. The Harper court held that a nonoperator's farmout to the operator in order to avoid a nonconsent penalty did not constitute an acreage contribution.
Probably the simplest form of operating agreement is the agreement to share the costs of drilling and operating a well. n180 Although some common law cases suggest that the nonoperators' agreement to share in the costs must be in writing, n181 in Louisiana such an agreement may [*109] be oral or implied from the parties' conduct. n182 In Connette v. Wright, n183 the Louisiana Supreme Court implied a promise to pay, despite an explicit refusal to participate, based upon a co-owner's acceptance of production and opposition to a partition. n184 While the court's reasoning in implying consent in the face of an explicit refusal to participate is suspect, the result reflects a frequently encountered judicial reluctance in Louisiana to permit one party to benefit from another party's efforts.
Thus, the operator's standard of care should be reasonable skill and diligence. As long as the operator is not guilty of bad faith, fraud, or culpable negligence, the nonoperators must share in the losses resulting from the operator's bad judgment and good faith errors. However, the parties are free to contractually limit the operator's liability.
The Bankruptcy Code does not affect the right provided by state law for either an operator or nonoperator to set-off amounts owed to the debtor against the amounts owed by the debtor. n222 The automatic stay does not defeat the set-off but simply stays it pending an examination of the debtor's and the creditor's rights. n223 In In re Wilson, n224 the court held that: (a) an operator could exercise its lien rights by applying the nonoperator's pre-bankruptcy production proceeds to satisfy its pre-bankruptcy operating expenses; (b) the operator could not use post-petition production to offset the debtors' pre-petition obligations; (c) while set-off could take place post-petition, its applicability would be determined by the state law of co-tenancy until the operating agreement, an executory contract, is accepted; and (d) the portion of the proceeds that were royalty revenues, as distinguished from working interest revenues, could not be set off against expenses.
n22 In Ree Corp. v. Shaffer, 246 So. 2d 313 (La. App. 1st Cir. 1971), aff'd, 261 La. 502, 260 So. 2d 307 (1972), the court suggested that United Gas was based upon principles of equity rather than any legal right of a co-owner to utilize the common property.
n31 The concept of nonexclusive mineral servitudes creates an interesting theoretical paradox: when a landowner who granted a nonexclusive mineral servitude sells the property and reserves all or part of the minerals, does he thereby acquire a nonexclusive servitude? Immediately prior to the sale, two persons had the right to explore and produce: the landowner and the servitude owner. If the landowner's sale with a reservation of the minerals is viewed as a reservation of what he already owns, then after the sale he also has a nonexclusive mineral servitude. On the other hand, if the sale with a mineral reservation is viewed as the vendee's grant of a mineral servitude, then the vendor does not have a nonexclusive mineral servitude nor an independent right to explore for or produce oil and gas. Since a landowner cannot create a mineral servitude on his property in his own favor, the servitude reserved in an act of sale does not come into existence until after title passes. Accordingly, the vendor in the foregoing hypothetical who reserved the minerals would not acquire a nonexclusive servitude and would have no right to operate without the consent of the owner of the nonexclusive servitude, who, ironically, could operate without the former's consent.
n32 A co-owner acting to prevent waste cannot intentionally interfere with another co-owner's operations. Auster Oil & Gas, Inc. v. Stream, 764 F.2d 381 (5th Cir. 1985).
n39 La. R.S. 31:166, 31:175 (1989). An argument can be made that Mineral Code articles 164, 166 and 175 permit operations with less than eighty percent interest consenting. These articles literally require only that the servitude owner or lessee has made every effort to contact such co-owners, which, arguably, is a reference to "co-owners owning at least an undivided eighty percent interest in the land." Reading the word "provided" to mean "unless," the act then takes on an entirely different meaning: the co-owner of a mineral servitude, or one who acquires a servitude or lease from a co-owner of land, may exercise that right as long as he has made every effort to contact the owners of eighty percent of the land or servitude and has offered to contract with them on substantially the same basis.
n66 Presumably, the Mineral Code still governs when a co-owner of a drillsite has the right to drill and, therefore, may be considered an "owner" under the Risk Fee Statute. La. R.S. 30:3(8) (1989). A co-owner of land or the owner of a servitude or lease derived therefrom, or a co-owner of a mineral servitude or the owner of a lease derived therefrom, would have no right to drill, and thus could not be considered an "owner," unless those with an interest in the real right totalling eighty percent consented, or the operation was necessary to prevent waste. See supra text accompanying notes 32-40.
The owner of the nonexclusive servitude or lease has the right to drill and produce and would constitute an "owner." See supra text accompanying notes 29-30 and 36.
n78 La. Comm'r of Conservation Order No. 125A-1-a (1955). See Jorden, supra note 76, at 18.
n80 La. Comm'r of Conservation Order No. 860-1 (1990).
n81 La. Comm'r of Conservation Order No. 860-1 Supplement (1990).
n86 But see General Gas Corp. v. Continental Oil Co., 230 So. 2d 906 (La. App. 1st Cir. 1970) (mere ownership in unit does not entitle owner to participate in operator's recoupment of drilling costs).
n87 Cf. J-O'B Operating Co. v. Newmont Oil Co., 560 So. 2d 852 (La. App. 3d Cir.), writ denied, 565 So. 2d 449 (1990) (party electing to participate in area of mutual interest acquisition not allowed to contest consideration paid by the acquirer).
n101 See Howard L. Boigon, The Joint Operating Agreement in a Hostile Environment, 38 Inst. on Oil & Gas L. & Tax'n 5-1, 5-4 to 5-6 (1987); Christopher Lane & Catherine J. Boggs, Duties of Operator or Manager to Its Joint Venturers, 29 Rocky Mtn. Min. L. Inst. 1992, 201-09 (1983); Ernest E. Smith, Duties and Obligations Owed by an Operator to Nonoperators, Investors, and Other Interest Owners, 32 Rocky Mtn. Min. L. Inst. 12-1, 12-5 to 12-12 (1986).
n122 Caddo Oil Co., Inc. v. O'Brien, 908 F.2d 13 (5th Cir. 1990) (no fiduciary duty to provide accounting of expenditures).
n143 But see Grace-Cajun Oil Co. No. 3 v. FDIC, 882 F.2d 1008 (5th Cir. 1989) (one who acquires "subject to" incurs no personal liability).
n160 See J-O'B Operating Co. v. Newmont Oil Co., 560 So. 2d 852 (La. App. 3d Cir.), writ denied, 565 So. 2d 449 (1990).
n164 J-O'B, 560 So. 2d 852.
n174 Huggs Inc. v. LPC Energy, Inc., 889 F.2d 649 (5th Cir. 1989). See Estis v. Monte Carlo Exploration, Inc., 558 So. 2d 341 (La. App. 3d Cir.), writ denied, 563 So. 2d 879 (1990) (in action by nonoperator involving loss of lease, operator's conduct measured by due diligence standard).
n181 See Sonat Exploration Co. v. Mann, 785 F.2d 1232, 1234 n.1 (5th Cir. 1986); see also Huffco Petroleum Corp. v. Massey, 834 F.2d 540 (5th Cir. 1987) (under Mississippi law, in the absence of a written operating agreement, a statement that "payment will be forthcoming" was too ambiguous).
n182 See Caddo Oil Co., Inc. v. O'Brien, 908 F.2d 13 (5th Cir. 1990) (consent not implied); Connette v. Wright, 154 La. 1081, 98 So. 674 (1924) (consent implied); Hobbs v. Central Equip. Rentals, Inc., 382 So. 2d 238 (La. App. 3d Cir.), writ refused, 385 So. 2d 785 (1980) (verbal); Sterling v. McKendrick, 134 So. 2d 655 (La. App. 4th Cir. 1961) (testimony and correspondence); cf. Riddle v. Simmons, 589 So. 2d 89, 93 (La. App. 2d Cir. 1991), writ refused, 592 So. 2d 1316 (1992) (parol evidence admissible to establish profit sharing of co-owned property).
n190 Compare M&T, Inc. v. Fuel Resources Dev. Co., 518 F. Supp. 285 (D. Colo. 1981) (nonoperator's liability not limited by AFE) with Forest Oil Corp. v. Superior Oil Co., 338 So. 2d 758 (La. App. 4th Cir. 1976) (language of operating agreement allowed operator to overrun initial AFE by only fifty percent).
n193 Hamilton v. Texas Oil & Gas Corp., 648 S.W.2d 316 (Tex. Civ. App. El Paso 1982, writ ref'd n.r.e.).
n204 See Huggs, Inc. v. LPC Energy, Inc., 889 F.2d 649 (5th Cir. 1989). See also Grace-Cajun Oil Co. No. Two v. Damson Oil Corp., 897 F.2d 1364 (5th Cir. 1990) (trial court found gross negligence in operator's failure to file for higher priced gas).
n207 See Boigon, supra note 101, at 5-5 (disclaimer of partnership inconsistent with intent to create agency). Cf. Davidson v. Enstar Corp., 860 F.2d 167 (5th Cir. 1988) (disregarding language of operating agreement to find existence of joint venture preventing tort liability for nonoperator). Persons who knowingly deal with agents are under an obligation to inquire as to the extent of an agent's authority and are charged with constructive notice of the limits of that authority. Herbert v. Langhoff, 185 La. 105, 168 So. 508 (1936).
n210 See Caddo Oil Co. v. O'Brien, 908 F.2d 13, 17 (5th Cir. 1990)(prudent operator standard in agreement negated fiduciary duty to render an accounting).
n216 Boisdore v. Bridgeman, 502 So. 2d 1149, 1155 (La. App. 4th Cir. 1987) (knowing participation in fraudulent scheme); Dohm v. O'Keefe, 458 So. 2d 964 (La. App. 4th Cir.), writ denied, 460 So. 2d 1046 (1984).
n220 Reynaud v. His Creditors, 4 Rob 514 (1843) (correctness admitted); Coburn v. Commercial Nat'l Bank, 453 So. 2d 597 (La. App. 2d Cir.), writ denied, 457 So. 2d 681 (La. 1984) (sum certain or capable of ascertainment); Olinde Hardware & Supply Co. v. Ramsey, 98 So. 2d 835 (La. App. 1st Cir. 1957). See also Sims, 521 So. 2d 730 (general discussion of liquidated debt).
n229 In Transworld Drilling Co. v. Texas Gen. Petroleum Co., 524 So. 2d 215 (La. App. 4th Cir. 1988), the court held that the validity of a nonoperator's lien is a mixed question of law and fact.
n232 Caddo Oil Co. Inc. v. O'Brien, 908 F.2d 13, 17 (5th Cir. 1990).
n239 Caddo Oil, Inc. v. O'Brien, 908 F.2d 13 (5th Cir. 1990).

References: v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v.