Case Name: Harry Lightcap and Lela Lightcap, W. I. Cutter, Fern Ellen Maupin, Richard M. Stewart, Harold Parker and Fannie M. Flower, Appellees, v. Mobil Oil Corporation, formerly known as Socony Mobil Oil Corporation, Inc., Appellant
Court: Kansas Supreme Court
Jurisdiction: Kansas
Decision Date: 1977-03-05
Citations: 221 Kan. 448
Docket Number: No. 47,991
Parties: Harry Lightcap and Lela Lightcap, W. I. Cutter, Fern Ellen Maupin, Richard M. Stewart, Harold Parker and Fannie M. Flower, Appellees, v. Mobil Oil Corporation, formerly known as Socony Mobil Oil Corporation, Inc., Appellant.
Judges: Prager and Miller, JJ., join in the foregoing concurring and dissenting opinion.
Reporter: Kansas Reports
Volume: 221
Pages: 448–493

Head Matter:
No. 47,991
Harry Lightcap and Lela Lightcap, W. I. Cutter, Fern Ellen Maupin, Richard M. Stewart, Harold Parker and Fannie M. Flower, Appellees, v. Mobil Oil Corporation, formerly known as Socony Mobil Oil Corporation, Inc., Appellant.
(562 P. 2d 1)
Opinion filed March 5, 1977.
Mark H. Adams and Richard Jones, of Wichita, argued the cause, and John E. Robertson, of Denver, Colorado, and Jack D. Sage, of Wichita, were with them on the briefs for the appellant.
Gerrit H. Wormhoudt, of Wichita, argued the cause, and Dale M. Stucky and John T. Conlee, of Wichita, were with him on the brief for the appellees.

Opinion:
The following opinion was prepared by Foth, C., prior to his becoming a member of the Court of Appeals, and is now ordered filed as the opinion of the court:
In these six cases, consolidated for trial, the plaintiff-appellees are royalty owners and lessors under various natural gas leases in the Hugoton field now held by the defendant-appel'ant, Mobil Oil Corporation, as lessee. We are told that there are nearly three hundred similar cases pending in the district court whose outcome will be largely determined by the decision here.
Plaintiffs sought and received judgments for additional royalties on gas produced by defendant and its predecessor from late 1958 through June 30, 1963. The increase was based on the difference between the claimed 'higher "market value" of the gas produced by Mobil, and the amounts actually received by it from its sales to its pipeline customer on which it paid royalties. Mobil counterclaimed (by way of setoff) for alleged overpayments of royalties for the period January 1, 1954, through January 31, 1958; its counterclaim was denied. Mobil has appealed from the judgments for additional royalties and the denial of its counterclaim. In addition, the trial court allowed prejudgment interest on part of plaintiffs' claims but denied it as to the balance. Mobil appeals from the allowance of interest, and plaintiffs have cross-appealed from the partial denial.
I. Background; The Primary Issue
This case is closely parallel to Waechter v. Amoco Production Co., 217 Kan. 489, 537 P. 2d 228 (June 14, 1975), adhered to after rehearing, 219 Kan. 41, 546 P. 2d 1320 (March 6, 1976). In each case the basic claim of the plaintiff royalty owners was that under their leases they were entitled to have their royalties computed on the "market value" at the wellhead of the gas taken by the producer. That "market value," they asserted, was to be determined by the traditional "free market, willing buyer-willing seller" test, without regard to any governmental regulation of the producer's sales price.
The producers, on the other hand (Amoco there, Mobil here) relied on the fact that their sales at the wellhead were for resale in interstate commerce, and their sales prices were thus subject to Federal Power Commission regulation under the Natural Gas Act of 1938, 15 U. S. C. § 717 et seq. (That principle was established June 7, 1954, by Phillips Petroleum Co. v. Wisconsin, 347 U. S. 672, 98 L. Ed. 1035, 74 S. Ct. 794.) The result, they claimed, was that the "market value" of the gas they sold was the ceiling price fixed by the FPC.
The determination of the primary issue in both cases was delayed for several years by a federal injunction staying the state cases while the producers, along with other producers, conducted the litigation resulting in Mobil Oil Corporation v. Federal Power Commission, 463 F. 2d 256 (D. C. Cir. 1972), cert. den. 406 U. S. 976, 32 L. Ed. 2d 676, 92 S. Ct. 2409. That case held that a royalty owner is not a "natural gas company" as defined in the Natural Gas Act because he does not engage in the "sale" of gas in interstate commerce. Hence the FPC has no jurisdiction over a royalty owner or over a dispute between a royalty owner and his producer as to the amount of royalties payable under a gas lease.
Once Mobil had been decided and review by the United States Supreme Court had been denied, the state litigation was allowed to proceed. The district courts in both Waechter and this case concluded that the plaintiff royalty owners were entitled to be paid on the basis of an unregulated "market value."
The producers in each case had committed their entire production to the interstate market under long term contracts. In Waechter the 1950 contract between the producer Amoco (then called Pan American Petroleum Corp.) and the purchaser Cities Service called for a fixed price until June 23, 1961, and thereafter for a "fair and reasonable" price for each successive five year period, based on the going price in the field. When the parties were unable to agree the price was settled by a declaratory judgment action, affirmed in Pan American Petroleum Corporation v. Cities Service Gas Co., 191 Kan. 511, 382 P. 2d 645. The amount fixed in that case was employed by the district court in Waechter as the "market value" of the gas. In this case there were two contracts between the predecessor of the producer Mobil and its pipeline purchaser, Northern Natural Gas Company, called the "A" and "B" contracts. Both called for fixed prices until July 1,1958, and for each five year period thereafter the "fair, just and reasonable" price for gas produced in the field. These contracts called for arbitration in the event of disagreement, and as a result arbitrators fixed a "fair, just and reasonable" price for the gas sold under the contracts for the five year period here in issue. Neither the royalty owners nor Mobil offered any independent evidence on the issue of market value, as they might have. (See Lippert v. Angle, 211 Kan. 695, 508 P. 2d 920.) As a result the district court in this case employed the arbitrated prices as the "market value" under the leases in the same way the judicially fixed price was employed in Waechter.
In both cases the producers submitted the proposed new rates (the one determined by suit, the other by arbitration) to the FPC for approval. Neither rate was approved as filed, but both were ultimately adjusted downward. In both cases the royalty owners sought the difference between the royalties paid on the rates ultimately approved, received and lawfully retained by the producers from their purchasers, and the royalties they would have received if the FPC had approved the new rates based on the "market value" of the gas.
In both cases the district courts construed the royalty clauses in the leases to require royalties based on an unregulated market value, found no constitutional impediment to requiring payment on that basis, and rendered judgment for the plaintiff royalty owners accordingly.
In Waechter we reversed on this issue, based on a contrary construction of the prototype royalty clause by which all members of the plaintiff class had agreed to be bound. We found that it called for royalties based on the "proceeds" received by the producer, and not on the "market value" of the gas. We observed that ."Proceeds ordinarily refer to the money obtained by an actual sale." (217 Kan. at 512.) Since royalties had been paid on the "proceeds" of all of Amoco's sales to Cities, the royalty owners were not entitled to any additional royalties.
Under that reasoning the court was not called upon in Waechter to construe the term "market value," or to determine how it might be affected by FPC regulation. In this case, however, we are confronted with several different forms of lease, some of which indisputably call for royalties based on "market price" or "market value." (The majority, and the trial court, make no distinction between those terms but use them interchangeably. Both are construed to mean what the product will bring in the marketplace, without regard to any element of "inherent" value.) It is therefore necessary in this case to determine whether "market value" (or "market price") means value in a hypothetical free market, or value in the interstate market as limited by FPC regulation.
II. Jurisdiction and FPC Regulation
Before doing so, however, it is appropriate to examine the jurisdiction of the courts to order royalties to be paid on any other basis than the FPC approved sales price to the producer. Obviously if such jurisdiction is lacking, no further inquiry into the terms of the leases is required. We are cited to no case where this question has been squarely determined, but we think the fair implication from the federal decisions in the area is that such jurisdiction does exist.
We begin with the companion cases of Weymouth v. Colorado Interstate Gas Company, 367 F. 2d 84 (5th Cir. 1966), and J. M. Huber Corporation v. Denman, 367 F. 2d 104 (5th Cir. 1966). In each the court looked at gas leases with royalty clauses requiring payments based on "market value," and carefully distinguished them from "proceeds" leases. The result, it concluded, was that the "market value" of the gas for royalty payments was not necessarily the same as the actual proceeds from the sale of the gas under the FPC ceiling. The lessee-producer in Huber argued, however, that by committing the gas to the interstate market and thus subjecting its price to FPC regulation the parties had determined the "market" in which "market value" was to be determined. The court responded to this argument:
"We do not minimize the beguiling appeal of the Lessee-Producer's theory. Without a doubt, with the Lessors' full approval, this committed until the exhaustion of the reserves all of the gas to this contract and hence to this 'market.' But the 'market' as the descriptive of the buyer or the outlet for the sale is not synonymous with its larger meaning in fixing price or value. For in that situation the law looks not to the particular transaction but the theoretical one between the supposed free seller vis-a-vis the contemporary free buyer dealing freely at arm's length supposedly in relation to property which neither will ever own, buy or sell. It was not, as this theory would make it read, an agreement to pay l/4th of the price received from the market on which this gas is sold. Rather, it was to pay l/4th of the 'market price' or 'market value' as the case might be." (367 F. 2d at 109-10.)
Huber thus stands for the proposition that a "market value" lease on its face calls for payment at the theoretical free market value. Having decided that much, however, the court encountered the fact that if the market value of the gas were proven to be the amount claimed by the lessors there would be a substantial impact on the lessee's regulated operation. It went on to say,"there is a serious question whether a Court, state or federal, either initially or ultimately, may allow any amounts fixed by jury, court, or both as increased royalty payments without express prior approval of the Federal Power Commission if, as would these, the price thus fixed would exceed levels prescribed by the FPC." (Id. at 110-11.) The court therefore directed that trial proceedings to determine the free market price of the gas be held in abeyance until a ruling could be obtained from the FPC on whether that agency had jurisdiction over royalty rates.
The result was Mobil Oil Corporation v. Federal Power Commission, supra, in which the District of Columbia Circuit reversed the FPC's assertion of jurisdiction over royalty rates. Various producers there argued for FPC jurisdiction on the basis of the potential impact on interstate commerce and the burden on consumers which might result from royalties based on "market values" in excess of the producers' rates fixed by the FPC. On the first issue it found the record insufficient to stretch the act beyond its terms "on the score of necessity." As to the second ground it observed:
". . . [T]he FPC's opinion gives no concrete indication of whether, in what circumstances, or to what extent, there may be an economically mean ingful problem of market prices' in excess of ceilings. In the Huber case the judgment entitling the royalty owners to pursue their claim made no determination of amounts of recovery. Apparently such litigation may come to involve substantial sums even if pursued so as to recover royalties based on ceilings higher than filed rates. This we infer from the fact that Mobil Oil and other producers have appealed from the ruling of the FPC that although the royalty owners' filing obligations are met by virtue of the filings made by the producers, a royalty owner is not limited to the rate filed by the producer and may enforce his contract as calling for a higher rate if permitted by the Act. The record simply does not focus on what may be involved in the possibility of recovery of royalty calculated on the basis of 'market prices' higher than ceilings." (Id. at 264.)
The court then went on to observe:
". . . To avoid any misunderstanding we interject that we have not been made uneasy by the contentions the producers have presented to us, for we see no theoretical impediment to producers' being held on the basis of a contract to a royalty payment related to a base higher than the producers' filed rate. United Gas Pipe Line Co. v. Mobile Gas Service Corp., 350 U. S. 332, 76 S. Ct. 373, 100 L. Ed. 373 (1956)." (Id. at 264-5. Emphasis added.)
The end result was that Mobil left it open to the courts, either state or federal, to determine lease controversies between royalty owners or lessees. It noted, but only and expressly by way of dictum: "We can certainly visualize the possibility that a court confronted with a contention of entitlement to a market price basis higher than the producer's ceiling would consider it to run counter to the intention of the parties, unless there is something to rebut the fair presumption that they contemplated interstate movement and market prices compatible therewith." (Id. at 265.) It also suggested public policy considerations, and problems under the supremacy clause, both of which might be obviated by a reference to the FPC. All such factors have been considered by the court in its decision here.
In a southern Louisiana area rate case the Fifth Circuit affirmed rates fixed by the FPC despite claims by Mobil that they failed to take into account the possibility that under the Mobil decision royalty obligations might be based on a rate higher than the FPC ceiling. (Placid Oil Company v. Federal Power Commission, 483 F. 2d 880 [5th Cir. 1973].) The court held that this possibility was no basis for disturbing the FPC rate, saying:
"Of course the royalty obligations of the producers are cost components of the rate structure. Any alteration of this component would necessarily alter the departure point of the rate calculations. And under the holding of the D. C. Circuit in Mobil, this would be an Erie determination of the contract stating the royalty percentage based upon the applicable principles of state law— totally beyond the control of the federal regulatory agency charged with the responsibility of regulating natural gas rates.
"But we are not willing to alter or stay the implementation of area wide rates for the entire industry merely on the basis of what might happen to some producers' costs if this statement of the law prevails.
"If, as subsequent events develop, the producers are put in a bind by their royalty obligations, they may certainly petition FPC for individualized relief." (483 F. 2d at 911.)
The closest the United States Supreme Court has come to ruling on the question was in affirming the Placid decision, sub nom., Mobil Oil Corp. v. FPC, 417 U. S. 283, 41 L. Ed. 2d 72, 94 S. Ct. 2328 (1974). Of the same contention by Mobil which had been rejected below, the court said:
"Mobil also complains that the Commission failed to provide automatic adjustments in area rates to compensate for anticipated higher royalty costs. It relies on Mobil Oil Corp. v. FPC, 149 U. S. App. D. C. 310, 463 F. 2d 256 (1972), where the Court of Appeals for the District of Columbia Circuit reversed a Commission holding that subjected royalties to FPC administrative ceilings. Mobil argues that under that decision the 1971 rate schedules must take into account the possibility of higher royalty obligations. We agree with the Court of Appeals that Mobil's argument is hypothetical at this stage and that in any event an affected producer is entitled to seek individualized relief." (417 U. S. .at 328. Emphasis added.)
The Court then quoted with approval the last two paragraphs of the Fifth Circuit opinion quoted above. Thus the possibility that a royalty base might exceed the FPC ceiling was clearly recognized. And cf., FPC Texaco Inc., 417 U. S. 380, 395, 397-8, 41 L. Ed. 2d 141, 94 S. Ct. 2315, where the court emphasizes that the "market value" of gas and "just and reasonable" rates for gas utility regulation are two separate and distinct things. (Approaching the problem from the other end, the court in that case held that the FPC would be abdicating its statutory rate setting function if it permitted the market value of gas sold to fix the rates to be charged by any producers under its jurisdiction.)
We think this concept furnishes the answer to Mobil's argument that the public interest and the supremacy clause require that the FPC ceiling be accepted as fixing the "market value" of the gas for royalty purposes. The FPC fixes the rates which the producer (Mobil) may charge its pipeline purchaser (Northern) as a matter of utility rate setting. That is, it fixes a rate basically designed to allow the producer its reasonable costs of production plus a reasonable return on its investment. (See, e.g., Placid Oil Company v. Federal Power Commission, supra; Forest Oil Corporation v. F. P. C., 263 F. 2d 622 [5th Cir. 1959]; City of Detroit, Michigan v. Federal Power Com'n, 230 F. 2d 810 [D. C. Cir. 1955].)
One of the complaints against area rate setting was that it failed to account for variances in the costs of individual producers. This argument was first rejected in the Permian Basin Area Rate Cases, 390 U. S. 747, 20 L. Ed. 2d 312, 88 S. Ct. 1344 (1968). One basis for the rejection, as recognized by the Supreme Court in the southern Louisiana area rate cases (Mobil Oil Corp. v. FPC, supra) was the availability of individualized relief to a producer whose costs, including royalties, were unusually high. A producer required to pay royalties in excess of those contemplated by the FPC in establishing its original rates may seek rate relief from the FPC.
The fact that such relief cannot be retroactive is immaterial. An argument based on similar grounds was made in FPC v. Texaco Inc., supra, where the court was considering an FPC order which had the eifect of removing the rates charged by small producers from direct FPC regulation. Large producers and pipelines, who bought from the small producers, wiere to make their own bargains and thus to pay market value. The costs thereby incurred could be initially passed on to the consumer, subject to refund if it were later determined that such costs were excessive. Although the FPC order was found deficient, it was not because of the economic hazards it imposed on the regulated companies. The Court said:
"This leads to the contention of the pipelines and the large producers that the scheme of indirect regulation envisioned by Order No. 428 unfairly subjects them to the risk of later determination that their gas costs are unjust and unreasonable and to the obligation to make refunds which they cannot in turn recover from the small producers whose rates have been found too high. But those whose rates are regulated characteristically bear the burden and the risk of justifying their rates and their costs. Rate regulation unavoidably limits profits as well as income. . . . All that is protected against, in a constitutional sense, is that the rates fixed by the Commission be higher than a confiscatory level." (417 U. S. at 391-2.)
It boils down to this: Mobil contends that the rate it is permitted to charge puts a ceiling on the royalty costs it may incur. As the court reads the cases cited above, the process begins at the other end. The royalties to be paid are first to be determined under state law, based on the terms of the lease. The royalties so determined then become a component cost, to be considered by the FPC in determining the rates it will permit Mobil to charge. In this respect royalties paid are costs to a gas producer in the same way as fuel bills are costs to an electric utility. Neither cost is directly under the jurisdiction of the utility's regulatory agency, but both are considered in the agency's rate making function.
On this issue Mobil also points to a clause appearing in most if not all of the leases involved here:
"All express or implied covenants of this lease shall be subject to all Federal and State Laws, Executive Orders, Rules or Regulations, and this lease shall not be terminated, in whole or in part, nor lessee held liable in damages, for failure to comply therewith, if compliance is prevented by, or if such failure is the result of, any such Law, Order, Rule or Regulation."
It argues that this language subjects all terms of the leases to federal regulation, and thereby subjects the royalty clause to FPC rate setting. The argument reads too much into a fairly standard lease clause. If FPC rate setting were applicable to royalties, then of course the royalty clause in the lease would perforce yield to the federal regulation. The clause relied on makes that clear. But, as the D. C. Circuit opinion in Mobil says, FPC regulation does not reach the royalties to be paid under a lease. Hence compliance with the royalty clause is not prevented by any federal regulation, and the clause relied on so heavily by Mobil never comes into play. The clause subordinates the lease only to applicable rules and regulations, and FPC rules and regulations are not applicable.
We hold, therefore, that the existence of federal regulation over the rates which a gas producer may receive is no obstacle to the fixing of a higher rate as the "market value" of the gas it sells for the purpose of computing royalties.
III. The Leases
We turn, then, to a consideration of what royalties are called for by the leases under litigation. There are two commonly recognized types of leases employed in the gas industry, "proceeds" leases and "market value" leases. See generally, Matzen v. Hugoton Production Co., 182 Kan. 456, 463-4, 321 P. 2d 576, 73 A. L. R. 2d 1045; J. M. Huber Corporation v. Denman, supra. In Waechter the primary issue determined by this court was which category covered the royalty clause of the lease there:
"Lessee shall pay lessor monthly as royalty on gas marketed from each well one-eighth (?a) of the proceeds if sold at the well, or, if marketed by lessee off the leased premises, then one-eighth 01) of the market value thereof at the well." (217 Kan. at 522.)
The clause mentions, it will be seen, both "proceeds" and "market value." The majority in Waechter concluded that since all sales by the producer were made at the wellhead (as they are in this case) the "proceeds" part of the clause was applicable.
The dissenters there pointed to the fact that there were actually a variety of leases involved in addition to the prototype, and that many of these other leases made reference in their royalty clauses to "the prevailing market rate" or to "the market value at the well." They applied the well recognized doctrine that ambiguous instruments are to be construed strictly against their draftsmen. Smith v. Russ, 184 Kan. 773, 779, 339 P. 2d 286; First National Bank of Lawrence v. Methodist Home for the Aged, 181 Kan. 100, 309 P. 2d 389; Green v. Royal Neighbors of America, 146 Kan. 571, 73 P. 2d 1. In the case of an oil or gas lease, this normally means a strict construction against the lessee-producer and in favor of the lessor-royalty owner. Gilmore v. Superior Oil Co., 192 Kan. 388, 388 P. 2d 602. Taking a broad look at the entire clause in context with the clauses in other leases, and construing it strictly against the lessee-producer, the dissenters in Waechter concluded:
". . . The entire provision discloses an intention by the parties to the lease that one-eighth of the 'proceeds' from the sale of gas at the well are to be measured by the market value of the gas produced." (217 Kan. at 523.)
There are in the six cases at bar leases which may be said to fall into not just two but three categories. Some seem clearly to call for royalties based on the "proceeds" of a sale, some clearly for royalties on the "market value" of the gas sold, and some which follow the Waechter pattern and which, for want of a better term, we shall refer to as "Waechter" leases.
Production from each had been committed by Mobil's predecessor to one of the two separate contracts with Northern (the "A" and "B" contracts). These called for different prices, presumably because of different qualities of the gas. The price differential was maintained by the arbitrators when they fixed the "fair, just and reasonable" price for the five-year period in litigation.
The trial court examined all three types of royalty clause (although, without the benefit of Waechter it recognized only two) and concluded:
"The leases herein provide for both a 'market' price or value and 'proceeds' basis for the one-eighth value to be paid gas royalty. Thus the question is presented as to the difference, if any, that should be drawn from these royalty provisions. The defendant strongly urges that 'proceeds' means precisely that and that for the periods in question it translates to FPC approved prices which have been paid. The history of the leases show that in both the 'A' and 'B' contracts the defendant and its predecessors have paid the same prices to lessors under each contract without distinction as to proceeds or market value leases. The minimum price and ceiling prices are asserted as the reason for this. However, prior to the existence of either regulated price base no distinction was made in royalty payments. This court finds that the relationship of the lessee with its duty to market at the best market price for its lessor, based on implied covenants in the lease, result in the same obligations on the lessee under both the market value and proceeds basis. Thus the intentions of the parties has been recognized by the history of identical payments by the lessee and its predecessors and the distinction now sought is an afterthought based on subsequent regulation that neither lessors nor lessees anticipated when the leases were executed.
"The court therefore concludes that 'proceeds' 'market value' 'market price' and 'gross proceeds at the prevailing market rate' all impose the same burden on lessee to market and pay royalty on the same bases, i. e., the best market value obtainable. The court further finds that the lessee has in good faith negotiated for the best prices available during all periods of time to date.
"4. The court finds that the intentions of the parties hereto were to pay lessors on the basis of the prevailing market rates as reflected by the gas purchase contracts negotiated by defendants predecessors with Northern. The contract resulted in arbitration with prices-,set at 16.75 cents per mcf for the 'A' contract and 15 cents per mcf for the 'B' contract, both at a pressure base of 14.65 p s i a. Plaintiffs are therefore entitled to judgment for royalty prices based on these applicable rates for a period beginning five years prior to the filing of their respective cases to date hereof." (Emphasis added.)
On the correctness of this holding the members of the court take four separate positions:
Position 1. Two members agree with the trial court's finding that the lessee's duty is the same under a "proceeds" lease and a "market value" lease, and that is to secure the best price obtainable in a free market. They make no distinction, therefore, between any of the three varieties, and regard the lessee's obligation to pay royalties as being measured by "market value." They rely on the fact that the leases were made long before federal regulation came into play, and are convinced by the Fifth Circuit's arguments in Huber, quoted above, and the dissent in Waechter, that "market value" means value in the free market (here the arbitrated price). They agree with the trial court that the royalty owners are entitled to be paid on that basis under all leases, and would affirm across the board. (The other five members believe there is a distinction between "proceeds" and "market value" leases, but they differ as to the treatment of the two categories.)
Position 2. One member of the court agrees with the previous two insofar as true "market value" leases are concerned. He, however, believes Waechter was correctly decided both as to categorizing the lease there as a "proceeds" lease and as to basing the royalties under a proceeds lease on actual moneys received by the producer.
Position 3. One member of the court also agrees that a "market value" lease calls for royalties on a free market (the price arbitrated). He also believes that Waechter dictates the proper disposition of a true "proceeds" lease, but for the reasons set out in the dissent (relating to the ambiguity of the royalty clause) he believes a Waechter lease is a "market value" lease.
Position 4. Three members are of the opinion that Waechter correctly covers the lease in question there, and all other "proceeds" leases as well. They, however, believe that the "market value" of the gas means the greatest amount obtainable in the market as it actually exists, i. e., for an interstate sale, in the regulated market.
With that division in mind we can proceed to categorize the royalty provisions involved in these six cases and dispose of the trial court's ruling on each. We refer to each case by the plaintiffs name, and emphasize the controlling portion of each royalty clause:
(a) Lightcap case:
"The lessee shall monthly pay lessor as royalty on gas marketed from each well where gas only is found, one-eighth (%) of the proceeds if sold at the well, or if marketed by lessee off the leased premises, then one-eighth (%) of its market value at the well."
This is a 'Waechter" lease. The three justices taking Position 4 are joined by the justice taking Position 2 in holding that this lease is a "proceeds" lease. Royalties are to be calculated on the actual proceeds received, as held in the Waechter decision, and the trial court erred in holding otherwise.
(b) Cutter case:
"The lessee shall monthly pay lessor as royalty on gas marketed from each well where gas only is found, one-eighth (%) of the proceeds if sold at the well, or if marketed by lessee off the leased premises, then one-eighth (Vs) of its market value at the well. . . ."
This is also a "Waechter" lease and is governed by (a) above.
(c) Maupincase:
"To pay the lessor one-eighth, at the market price at the well for the gas so used, for the gas from each well where gas only is found, while the same is being used off the premises. . . ."
This is a "market value" lease. Those four members of the court adopting Positions 1, 2 and 3, above, agree with the trial court that royalties on this lease should be paid on the arbitrated market value of the gas.
(d) Stewart case:
"The lessee shall pay lessor, as royalty, one-eighth of the proceeds from the sale of the gas as such, for gas from wells where gas only is found, and where not sold shall pay fifty ($50.00) Dollars per annum as royalty from each such well, and while such royalty is so paid such well shall be held to be a producing well under paragraph numbered two hereof. . . ."
This is a "proceeds" lease. The five members of the court adopting Positions 2, 3 and 4 agree that royalties under this lease are to be paid on amounts actually received and lawfully retained by the producer. The judgment below is reversed as to this lease.
(e) Parker case:
The royalty clause in the original lease in this case was replaced by a clause making royalties dependent on production from a quarter section known as the "Parent Tract":
"Lessee shall pay Lessor for gas from each well where gas only is found (a) that is located on Parent Tract, the equal fifteen one-hundredth of one-eighth (Wioo of %) of the gross proceeds at the prevailing market rate, for all gas used off said tract."
The four members of the court taking Positions 1, 2 or 3 consider this a "market value" lease, with royalties to be paid on the arbitrated market value.
(f) Flower case:
Three leases are involved in this case each covering a quarter-section. They were made subject to a unitization agreement (together with the fourth quarter of the section) which didn't directly affect the royalty clauses, but gave to each lessor a "percentage of Royalty" (25% of Vs) from production anywhere in the section. The royalty clauses are:
"The lessee shall monthly pay lessor as royalty on gas marketed from each well where gas only is found, one-eighth (%) of the proceeds if sold at the well, or if marketed by lessee off the leased premises, then one-eighth (is) of its market value at the well."
"The lessee shall pay lessor, as royalty, one-eighth of the proceeds from the sale of the gas, as such, for gas from wells where gas only is found, and where not sold shall pay Fifty ($50.00) Dollars per annum as royalty from each such well. . . ."
"To pay the lessor one-eighth, at the market price at the well for the gas so used, for the gas from each well where gas only is found, while the same is being used off the premises. . .
The first of these is a Waechter lease, and is deemed a "proceeds" lease under the decision in the Lightcap case, (a) above. The second is clearly a "proceeds" lease, and is controlled by the decision in the Stewart case, (d) above. The third is a "market value" lease, and is controlled by the Maupin case, (c) above.
IV. Mobil's Counterclaim
In its answers Mobil counterclaimed for alleged overpayments of royalties to plaintiffs from January 1, 1954, through January 31, 1958. During that period royalties were paid on a sales price of 11# per Mcf under both contracts between Mobil's predecessor and Northern; that price was fixed by a minimum price order of the Kansas corporation commission entered December 2, 1953. A decision of this court upholding the KCC order was reversed in Cities Service v. State Comm'n., 355 U. S. 391, 2 L. Ed. 2d 355, 78 S. Ct. 381, decided January 20, 1958. The prices called for in the contracts, which would have governed but for the invalidated minimum price order, were 8.74# per Mcf under the "A" contract and 7.15# per Mcf under the "B" contract (adjusted in each case for the standardized pressure of 14.65 psia).
When the KCC minimum price order was first promulgated Northern advised Mobil's predecessor that it would comply only under protest, and would expect a refund if the KCC order were found to be invalid. Mobil's predecessor in ton advised its royalty owners that the validity of the order was subject to litigation, and advised each that acceptance of royalty checks based on the 11^ order constituted an agreement to refund any part which was later determined to be excessive. Plaintiffs accepted and negotiated the checks.
After the KCC order was invalidated by the Supreme Court Northern sued Mobil's predecessor in Delaware to recover over-payments made by it under the order. That litigation was eventually settled, with FPC approval, by Mobil's refund to Northern of $2,517,522.92, or about 73% of the total paid in excess of the amount which would have been paid under the two contracts in the absence of the 11^ order. It is the plaintiffs' "royalty share" of this 73% refund that Mobil seeks to recover through its counterclaim.
The trial court denied the claim because the payments to the royalty owners was voluntary, because the settlement with Northern was voluntary, and because the claim was barred by the statute of limitations.
The first ground was specifically rejected in Waechter, where there had also been overpayments under the KCC order. We said:
". . . Nor can the payments of the 114 price be said to be voluntary. Appellant was under compulsion of a business hazard in making them. The KCC order compelled it to pay the 114 minimum price 'as a condition precedent for withdrawal from the common source of supply'. If it failed to comply with the commission order it was subject to criminal penalty under K. S. A. 55-708 and civil penalty under 55-710." (217 Kan. at 514-15.)
Neither does the fact that the settlement with Northern was "voluntary" cut off Mobil's right of reimbursement. The settlement here was reached on January 4, 1963. The dispute between Amoco, the producer in Waechter, and its purchaser Cities Service, had gone to judgment in favor of the purchaser on November 19, 1962. (See Finding No. 22, Waechter v. Amoco Production Co., supra, 217 Kan. at 495.) Mobil could at that point readily foresee the outcome of its own case. If we analogize Mobil's right to reimbursement from its royalty holders to a right of indemnity, we find the general rule to be:
"Indemnity against losses does not cover losses for which the indemnitee is not liable to a third person, and which he improperly pays. But a person legally liable for damages who is entitled to indemnity may settle the claim and recover over against the indemnitor, even though he has not been compelled by judgment to pay the loss. The fact of voluntary payment does not negative the right to indemnity, since a person confronted with an obligation that he cannot legally resist is not obligated to wait to be sued and to lose a reasonable opportunity for compromise." (41 Am. Jur. 2d, Indemnity, § 33.)
See also, Cason v. Geis Irrigation Co., 211 Kan. 406, 507 P. 2d 295; Fenly v. Revell, 170 Kan. 705, 228 P. 2d 905.
There is no contention here that Mobil had any defense to Northern's suit, or that the settlement was in any way imprudent. Plaintiffs say only that the Delaware litigation did not go to judgment, hence Mobil's liability was not "determined." Under the general principle quoted above, this is not sufficient to deny to Mobil the reimbursement to which it is otherwise entitled. It simply paid what it was legally obligated to pay.
As to the statute of limitations, it had no doubt run before the counterclaim was asserted. The cause of action accrued on January 20, 1958, when the Supreme Court invalidated the KCC order. See Cities Service Gas Co. v. United Producing Co., 212 F. Supp. 116 (N. D. Okla. 1960); Panhandle Eastern Pipe Line Company v. Brecheisen, 323 F. 2d 79 (10th Cir. 1963). Applying the statute relating to unjust enrichment (K. S. A. 60-512) the claim became barred on January 20, 1961. (See Waechter, 217 Kan. at 516-17.)
This did not, however, prevent the assertion of the claim as a setoff. K. S. A. (now 1975 Supp.) 60-213 (d) provides:
"When cross demands have existed between persons under such circumstances that, if one had brought an action against the other, a counterclaim or cross-claim could have been set up, neither can be deprived of the benefit thereof by the assignment or death of the other or by reason of the statute of limitations if arising out of the contract or transaction set forth in the peitition as the foundation of plaintiiFs claim or connected with the subject of the action; but the two demands must be deemed compensated so far as they equal each other."
Thus, even an outlawed claim may be used as a setoff if it (a) coexisted with the plaintiffs' claim and (b) arises out of the "contract or transaction" on which the plaintiffs' claim is based.
Here, plaintiffs' claims began accruing July 1, 1958, when the new, arbitrated market value came into play, and as actions on written contracts continued as viable claims for the next five years. (K. S. A. 1975 Supp. 60-511.) Plaintiffs' claims were thus "alive" from July, 1958, through July, 1963; Mobil's claim was "alive" from January, 1958, through January, 1961. They thus coexisted for at least some two and one-half years, and thereby met the first requirement of 60-213 (d). See, Tobin Construction Co. v. Holtzman, 207 Kan. 525, 485 P. 2d 1276.
The second requirement of the statute — that the claim arise out of the same contract or transmission — is likewise met. Both claims appear clearly to arise out of the respective leases, i. e., the "same contract," even though covering different time spans. Although Mobil cannot secure affirmative relief on its outlawed claim it can use it as a matter of pure defense, i. e., as a setoff against any judgment rendered against it. See, Christenson v. Akin, 183 Kan. 207, 326 P. 2d 313. The trial court therefore erred in denying the counterclaim in toto. Mobil is entitled to a setoff for its claim for over-payments, although only against that portion of the plaintiffs claims which coexisted with it (i. e., those claims of plaintiffs accruing before January 20, 1961).
V. Interest
The trial court's allowance and disallowance of prejudgment interest came about in this way: When the arbitrators made their award in 1958 fixing the "fair, just and reasonable" rates for sales to Northern for the next five years, MobiFs predecessor filed those rates with the FPC as its proposed new tariff. The FPC, as it was authorized to do under the Natural Gas Act, suspended the effectiveness of the new rates pending its investigation of their lawfulness.
MobiFs predecessor filed a motion asking that it be permitted to collect the new, higher rates, subject to an obligation to refund to Northern any portion which might later be found by the FPC to be excessive, plus interest at 6%.
This motion was approved, and from December 20, 1958, through the entire period in litigation Mobil and its predecessor collected from Northern at the arbitrated rates of 16.750 per Mcf and 150 per Mcf on the "A" and "B" contracts respectively. At the same time it paid royalties on the basis of the old contract rates of 8.740 and 7.150 per Mcf.
Realizing that it might have to refund at least part of its current receipts from Northern, and would have to pay additional royalties on the excess it would be permitted to retain, Mobil's predecessor established reserves for this purpose. A portion of these reserves were invested in government securities and certificates of deposit. The balance was put into the general corporate treasury and Used for current operations just like any other working capital.
When Mobil bought out its predecessor (Republic Natural Gas Company) as of December 31, 1961, it acquired its assets, its liabilities, and its position in all pending litigation and administrative proceedings. Among the latter was the request for FPC approval of the new, arbitrated rates. In the spring of 1964 Mobil filed with the FPC a rate settlement proposal which included the "A" and "B" contracts with Northern. The settlement was approved by an order which became final on July 26, 1964. It approved rates covering the period in litigation as follows:
Period 'A" Contract "B" Contract
Dec. 20/58-Mar. 31/60 16.750 Mcf 150 Mcf
Apr. 1/60-Dec. 31/61 110 Mcf 110 Mcf
Jan. 1/62-Nov. 30/62 16.750 Mcf 150 Mcf
Dec. 1/62-Apr. 30/64 110 Mcf 110 Mcf
(The 110 rate was continued as to both contracts until July 1, 1967, when it went to 12.50 as a result of FPC area rate setting for the Hugoton-Anadarko field.)
The result was a final determination of how much of its receipts from Northern during the period Mobil would be able to retain. Despite the apparently irrational fluctuations, the amount was, for the entire period, substantially in excess of the 8.740 and 7.150 on which Mobil had been paying royalties.
By pleading, Mobil at various times in 1964 and 1965 tendered into court the difference between the royalties previously paid and the royalties due under the FPC approved rates. (The tender was modified from time to time in ways not now material.) On April 2, 1965, the trial court ordered Mobil to pay in according to its latest tender (in which it deducted its counterclaim and offered no in terest) and the resulting payment was distributed to plaintiffs without prejudice to the claims of the parties — in particular plaintiffs' claims to interest.
It was on this payment that the trial court allowed prejudgment interest:
"Judgment for interest will be granted plaintiffs on the amounts received by defendant set forth in finding of fact number thirty-three herein. These are the rates received by defendant and its predecessor under the arbitration of tire gas purchase agreement and approved by the FPC. Since defendant had full use and control from receipt of the money until the tender into this court equitable considerations compel the court to allow interest at the legal rate for this period plus interest thereon to this date."
The second interest question involves the additional amounts for which judgment was rendered below, based on the excess of "market value" over the FPC approved rate. When it had made good on its tender Mobil had paid all the royalties due on the amounts received from Northern which it was permitted by the FPC to retain. The judgment below, however, which we are affirming in part, for the first time established Mobil's liability for royalties over and above those it had previously paid. As to these amounts the court concluded:
"The unusual delay in concluding the litigation of these cases in which the evidentiary hearing was held in November, 1973, and proposed findings and conclusions and briefs were submitted until July 1, 1974, was the direct result of an injunction issued by the Federal District Court of this state. While directed to the parties to this litigation it effectively enjoined this court. This matter is noted because of plaintiffs' request for pre judgment interest if judgment is granted, as has been, in conclusion number four above. Plaintiffs state the delay was caused by defendant in applying for the injunction. However, the record reveals no appeal from the injunctive order and the interim litigation in the FPC and United States Circuit Court has determined the basic question of FPC jurisdiction of royalty provisions. These facts plus this being a case of initial impression leads this court to conclude that pre judgment interest should not and is not allowed as to the judgment provided in conclusion number four above."
Neither side is content with the trial court's rulings. Mobil relies on the general rule that an "unliquidated" claim for damages does not draw interest until liquidated — usually by judgment. Columbian Fuel Corp. v. Panhandle Eastern Pipe Line Co., 176 Kan. 433, 271 P. 2d 773; Govenius Bros. v. Reagor, 130 Kan. 711, 288 Pac. 537, Syl. 2. The result, it says, is that no interest should be allowed at all, either on the amounts in admittedly owed, tendered and paid, or on the additional amounts adjudged to be due.
Plaintiffs, on the other hand, assert that the amount or royalties due on the arbitrated "market value" was readily ascertainable at all times, and was therefore "liquidated" for the purpose of allowing interest, citing Schupbach v. Continental Oil Co., 193 Kan. 401, 408, 394 P. 2d 1.
This court is of the opinion that the trial court was correct on both aspects of the interest problem. As to the amounts which were determined to be due only when judgment was entered below, we believe the general rule as to unliquidated claims should apply. Apart from the question of liability (one of "initial impression" as noted by the trial court), the amount due if there was liability was not determined until judgment. The "market value" of the gas sold was subject to proof at trial by any competent evidence. See Weymouth v. Colorado Interstate Gas Company, supra; Lippert v. Angle, 211 Kan. 695, 508 P. 2d 920. Here plaintiffs chose to rely on the arbitrated value as establishing market value, and that figure was accepted by the trial court in the absence of any other evidence on the issue. Such a result, however, could not have been foretold before this litigation was well under way, and until that time the total claim was unliquidated.
Lippert v. Angle, supra, is instructive on this issue. That was also a suit for gas royalties based on the market value of the gas at the wellhead. There, no royalties had been paid, the lessee having impounded them pending the lessors' execution of an unusual form of division order. No tender was made; even of the amounts admittedly due. "Market value" was litigated and determined, and prejudgment interest was allowed on the resulting judgment. This court affirmed, not on the basis that the claim was liquidated but because of the lessee's "unreasonable and vexatious delay of payment" under K. S. A. 16-201. In the present case the trial court found that the delay was not solely Mobil's fault, but was caused by the federal injunction pending during the time the question of FPC jurisdiction was litigated. Plaintiffs, the trial court noted, did not appeal from the injunction order, as they could have had they not been content to await the outcome of the District of Columbia suit. The clear implication is that Mobil was not guilty of "unreasonable and vexatious delay" which would justify damages by way of interest. We agree.
The money actually received by Mobil and held by it subject to the FPC order, however, stands on a different footing. When it first began receiving this money Mobil's predecessor advised each royalty owner that his royalties on the higher rates would be placed in a "segregated account" and that after the FPC acted royalty owners would be paid out of the "impounded funds." In fact, as indicated above, the money was either invested or used in the business. As the trial court noted, Mobil and its predecessor had "full use and control" of this money.
We find a qualification to the general unliquidated damages rule in this language:
"The general rule followed by some authorities is that interest as damages cannot, in the absence of any statutory provision therefor, be recovered as a matter of right in an action of contract upon an unliquidated claim. In a growing number of jurisdictions, however, the allowance of interest on such unliquidated claim is discretionary with the court, and interest will be allowed where required to give full compensation. Therefore, where necessary in order to arrive at fair compensation, the court, in the exercise of a sound discretion, may include interest or its equivalent as an element of damages." (22 Am. Jur. 2d, Damages, § 185. And see, 25 C. J. S. Damages, § 52a.)
This type of reasoning was employed to award prejudgment interest on an unliquidated claim in Brooklyn Union Gas Co. v. Transcontinental Gas P. L. Corp., 201 F. Supp. 679 (S. D. Tex. 1960), aff'd 299 F. 2d 692 ( 5th Cir. 1962). That was an action by gas distributors for alleged overpayments made to their ultimate suppliers, Mobil and Ohio Oil Company, through their immediate supplier, Transoo. The court treated the matter as one of restitution and found that interest should be allowed under Restatement, Restitution, § 156. It also found that "the district courts are vested with considerable discretion in the awarding of interest damages upon restitutory sums. Considerations of fairness and traditional equitable principles are to guide the exercise of this discretion." (201 F. Supp. at 682.)
The defendants there contended that interest could not start until the dissolution of a previously issued stay order; in the meantime, they said, they were entitled to collect the higher rates. Their duty to repay, they argued, did not arise until the obligation became unconditional. The court's response to this argument was:
"Defendants' argument has considerable logical appeal. Yet, Mobil and Ohio have had the use of this money from the date of its receipt. Similarly, plaintiffs have been deprived of the use of such funds from the time these increased rates were reflected in Transco's charges to them. Equitable considerations compel the conclusion that interest should commence from the respective dates of Transco's overpayments to the defendants." (Id. at 682-3.)
We have enunciated the general principle:
"Interest has been defined as the compensation allowed by law or fixed by the parties for the use, detention, or forbearance of money. In our society today money is a commodity with a legitimate price on the market and loss of its use, whether occasioned by the delay or default of an ordinary corporation, citizen, state or municipality should be compensable." (Shapiro v. Kansas Public Employees Retirement System, 216 Kan. 353, 357, 532 P. 2d 1081.)
Here Mobil and its predecessor made active use of plaintiffs' money, and plaintiffs were deprived of that use. Under the reasoning of the' foregoing cases plaintiffs are entitled to be compensated for their loss. Mobil was obligated by FPC order to pay Northern 6% interest on Northern's share of the "impounded" money; equitable principles require that the royalty owners receive the same treatment as to their share. Accordingly the trial court's orders as to interest are affirmed.
VI. Conclusion
The trial court's judgment is affirmed insofar as it awarded royalties on the free market value (i. e., the arbitrated price) of gas sold under those leases which this court categorizes as "market value" leases, and insofar as it awarded and denied prejudgment interest. It is reversed insofar as it awarded royalties in excess of moneys actually received and retained for gas sold under the "proceeds" leases, and insofar as it denied Mobil's counterclaim. The cases are remanded for further proceedings in accordance with this opinion.
APPROVED BY THE COURT.