Court Opinion

ID: 9682133
Source: CourtListenerOpinion
Date Created: 2023-08-24 08:05:47.796315+00
Date Added: 2024-06-11T18:17:37.593508
License: Public Domain

ON MOTION FOR REHEARING
KILGARLIN, Justice,
dissenting.
I respectfully dissent. Contrary to the premise stated in its opinion, the court, in order to resolve this case on the basis of division orders, must address the interstate versus intrastate character of the Kelln gas. If the gas was not dedicated to interstate commerce, then royalties paid pursuant to the division orders were clearly erroneous, for those royalties were calculated based upon the FPC-determined interstate rate. Conversely, if the gas had been dedicated to interstate commerce, then the division orders were not erroneous, for the parties have stipulated that the FPC ceiling rate is the market value in the interstate market. When a party prepares erroneous division orders and retains the benefits, executed division orders do not bind underpaid royalty owners. Gavenda v. Strata Energy, Inc., 705 S.W.2d 690 (Tex.1986). Thus, Gavenda would afford relief to Brown if, but only if, the division orders are erroneous.
*109For gas to be dedicated to interstate commerce, there must be a sale for resale in interstate commerce. 15 U.S.C. § 717(b) (1982). It is undisputed that Transwestem sold some of the exchange gas in interstate commerce. Thus, the question is whether the exchange between Cabot and Tran-swestem was a sale under the federal regulatory scheme. The FPC has ruled, on similar facts, that an exchange of gas constituted a sale and brought the transaction within the jurisdiction of the FPC. Shell Oil Co., 25 F.P.C. 1316 (1961); Oklahoma Natural Gas Co., 23 F.P.C. 291, reh’g denied, 23 F.P.C. 531 (1960) (citing with approval Deep South Oil Co. v. F.P.C., 247 F.2d 882, 888 (5th Cir.1957)). Brown relies upon Public Service Electric & Gas Co. v. F.P.C., 371 F.2d 1 (3rd Cir.1967), to argue that the exchange constituted no more than the bailment of a fungible commodity. The exchange agreement between Cabot and Transwestem, in contradistinction to the agreement at issue in Public Service, provided that Cabot and Transwestem each acquired title to the exchanged gas at the respective delivery points. Further, the FPC’s reasoning in Shell Oil and Oklahoma Natural is consistent with the Supreme Court’s decision in California v. Lo-Vaca Gathering Co., 379 U.S. 366, 369, 85 S.Ct. 486, 488, 13 L.Ed.2d 357 (1965), wherein the Court stated: “The result of our decisions is to make the sale of gas which crosses a state line at any stage of its movement from wellhead to ultimate consumption ‘in interstate commerce’ within the meaning of the Act.”1
The Kelln gas, therefore, had been dedicated to interstate commerce. Thus, the division orders are not erroneous and Ga-venda affords no relief to Brown.
Obviously, it is not because I question the court reaching the result it did absent a determination of interstate dedication that I dissent. The court of appeals was absolutely correct when it stated “division orders do not alleviate [Cabot Corporation] from its implied duty to act in good faith in marketing the gas of its royalty owners.” 716 S.W.2d at 660. Texas law recognizes an implied duty, arising from the lease, on the part of the lessee to reasonably market the oil and gas produced from the premises. Amoco Production Co. v. Alexander, 622 S.W.2d 563, 567 (Tex.1981); Amoco Production Co. v. First Baptist Church of Pyote, 579 S.W.2d 280 (Tex.Civ.App.-El Paso 1979), writ refd n.r.e. per curiam, 611 S.W.2d 610 (Tex.1980); Le Cuno Oil Co. v. Smith, 306 S.W.2d 190 (Tex.Civ.App. —Texarkana 1957, writ ref’d n.r.e.), cert, denied, 356 U.S. 974, 78 S.Ct. 1137, 2 L.Ed. 2d 1147 (1958). Under a gas royalty clause providing for royalties based on market value, the lessee has an obligation to obtain the best current market price reasonably available. See R. Hemingway, Law of Oil and Gas § 8.9(C) (2d ed. 1983).
The court, however, agrees with Cabot that the executed division orders relieve Cabot of its implied duty to reasonably market the gas. The court distinguishes Amoco Production Co. v. First Baptist Church of Pyote, 579 S.W.2d 280 (Tex.Civ. App. — El Paso 1979), writ refd n.r.e. per curiam, 611 S.W.2d 610 (Tex.1980). First Baptist Church of Pyote involved a proceeds lease royalty clause. The court of appeals recognized an implied duty to reasonably market. After holding that the lessee had breached this obligation, the court addressed the effect of the execution of division orders also referring to proceeds. The court observed that the division orders neither changed the basis for calculating royalty payments from the terms of the lease nor purported to relieve the lessee from its implied duty to market reasonably. The court held that the division orders did not dimmish the duty owed to royalty owners. Thus, recovery on the implied covenant to market reasonably was *110upheld despite the execution of division orders.
First Baptist Church of Pyote, to be sure, does not compel recovery for Brown in this case. The Cabot division orders do arguably modify or clarify the lease royalty provision: in effect, the FPC-ceiling price is recognized as market value. Neither, however, should Exxon Corp. v. Middleton, 613 S.W.2d 240 (Tex.1981), be read to preclude recovery for Brown. Middleton did not involve an action for breach of an implied covenant.
Division orders have engendered much confusion in the courts. Division orders provide a procedure for distributing the proceeds from the sale of oil and gas. They authorize and direct to whom and in what proportion to distribute funds from the sale of oil and gas. They do not rewrite or supplant leases or deeds. See Gavenda, 705 S.W.2d at 691 (and commentary cited therein).
One commentator, Earl A. Brown, discusses the purpose of division orders as follows:
[T]he main purpose of the typical division order is to protect the purchaser of products produced on a lease in a division of the proceeds, paid by him, among those entitled to share in such proceeds, namely, the lessee and the royalty owners. It was never intended to afford a lessee the opportunity to amend the lease, relieve himself of lease obligations, and secure advantages over the lessor which he could not have asserted under the provisions of the lease.
E. Brown, The Law of Oil and Gas Leases § 16.02 (2d ed. 1985) (emphasis in original).
Professor Merrill argues that division orders should not be read to alleviate the lessee from its duties arising from covenants implied in the lease.
[T]he purpose for which the [division] order is executed and the type of economic duress which prescribes it repel the implication that it is intended to affect the obligations of the operator to the royalty owner. The better reasoned decisions are in accordance with this view, and hence the mere execution of a division order, or the acceptance of payments in accordance therewith from the purchaser, ought not to preclude the royalty owner from asserting a breach of implied covenant obligation against the operator.
M. Merrill, Covanants Implied in Oil and Gas Leases § 209A (2d ed. Supp.1964).
This reasoning is not at odds with this court’s prior pronouncements on the effect of executed division orders. In Chicago Corp. v. Wall, 156 Tex. 217, 293 S.W.2d 844 (1956), purchasers and operators, following division orders, paid out the correct total amount of proceeds owed but erred in the distribution, overpaying some royalty owners and underpaying others. In Exxon v. Middleton, 613 S.W.2d 240 (Tex.1981), although the leases at issue provided for royalties based on market value, royalties were distributed pursuant to division orders basing royalties on the contract price. We held in both cases that the division orders were binding until revoked. In neither case did the lessees or operators who prepared the division orders benefit from the discrepancies between the leases and division orders.
In Stanolind Oil & Gas Co. v. Terrell, 183 S.W.2d 743 (Tex.Civ.App. — Galveston 1944, writ ref'd), the operator prepared erroneous division orders and retained the benefits. In Gavenda v. Strata Energy, Inc., 705 S.W.2d 690 (Tex.1986), the operator similarly profited, at the royalty owner’s expense, under erroneous division orders. We held in both cases that the division orders were not binding.
Although none of the above division order cases involved claims of breached implied covenants, our reasoning in those cases should be instructive to our debate here. This court has displayed a willingness to recognize as non-binding division orders in cases where the operator or lessee unjustly benefits. Implicit is the notion that division orders should not afford a lessee the opportunity to relieve himself of lease obligations or secure advantages over the lessor which he could not have asserted under the provisions of the lease. This guiding principle leads me to conclude that *111the division orders should not preclude Brown from recovery for breach of the implied covenant to market reasonably.
I can envision no case that would depict as well the inequity of the result reached by the court today. Cabot reaped the benefits of FPC jurisdiction over the exchange with Transwestem, paying out royalties based on the lower interstate market rate. Yet Cabot sold the gas on the higher intrastate market. The Henshaw Amendment to the Natural Gas Act provides that “the provisions of [the Natural Gas Act] shall not apply” if the gas is received at the state boundary; is ultimately consumed within the state; and is subject to regulation by a state commission. 15 U.S.C. § 717(c) (1982). By seeking and obtaining exempt status, Cabot was thus freed from FPC pricing jurisdiction as to the sales to Pioneer and use by Cabot of the gas for its own operations. Brown did not share in the benefits of the higher intrastate prices brought by the gas.
Brown claims that Cabot had a duty as a reasonably prudent operator to seek abandonment. See 15 U.S.C. § 717f (1982). Had the FPC approved such a request, then FPC jurisdiction would not have applied to the transaction between Cabot and Transwestem. The FPC interstate price ceiling would never have been applicable. Brown introduced expert testimony that the abandonment would have been granted by the FPC.2 This court has recognized that the reasonably prudent operator standard may, in certain circumstances, encompass a duty to seek favorable administrative action. Amoco Production Co. v. Alexander, 622 S.W.2d 563, 569-70 (Tex. 1981). The jury found that Cabot had failed to reasonably market the gas. To hold Cabot unaccountable for this breach, saying it was protected by an executed division order, is mere subterfuge.
I am not unmindful of the need for stability in the oil and gas industry. See Gavenda, 705 S.W.2d at 692. However, the standard of care appropriate to the duty to market reasonably is that of the reasonably prudent operator under the same or similar circumstances. Alexander, 622 S.W.2d at 567-68; Shell Oil Co. v. Stansbury, 410 S.W.2d 187,188 (Tex.1966). This standard gives the operator some latitude. Professional discretion is allowed, and properly so. I would not want oil and gas producers subjected to frivolous lawsuits. But where a jury finds that an operator has failed to meet this standard of care, then he should not be protected by the executed division order. To do so would relieve him of lease obligations. The court today ignores our past pronouncements on division orders and reaches a result that is palpably unfair.
MAUZY, J., joins in this dissenting opinion.

. In Lo-Vaca, Lo-Vaca sold gas to El Paso Natural Gas Co. pursuant to an agreement restricting use of the gas to use as fuel for El Paso’s operations (thus avoiding FPC jurisdiction because no sale for resale was contemplated). El Paso commingled the gas with gas intended for resale in interstate commerce. The Court held that the fact that a substantial part of the gas received from Lo-Vaca would be resold invoked federal jurisdiction over the entire transaction. 379 U.S. at 369, 85 S.Ct. at 488.

. Cabot’s no evidence argument as to this issue is unconvincing.