Royalty Litigation: Here We Go Again

Oklahoma Oil and Gas Interest Owners:

Berlin believes it is about time to start chipping away at the giant iceberg of issues surrounding post-production deducts and the litigation that follows. This will be one of multiple posts that address the lessor / lessee relationship, the implied duty of the lessee to market the lessor’s share of production, and the responsibilities of each party to pay for their shares of post-production expenses. As you are well aware, Berlin is merely a mineral schlepping landman and her opinion should not replace the counsel of a well schooled (and likely well paid) oil and gas attorney.

The most important issue that complicates this discussion is that Oklahoma law does not define marketability and in what state produced gas is marketable. Unless the oil and gas lease addresses the lessee’s duty to market or negates the implied duty to market, Oklahoma oil and gas lessees are subject to an implied covenant to market produced hydrocarbons. In Mittelstaedt v. Sante Fe Minerals, Inc., the Oklahoma Supreme Court stated that the lessee has a duty to provide a marketable product available to market at the wellhead or leased premises. But, they did not go so far as to define marketability.

The next question is then, under what circumstances can a lessor be charged costs against their royalties if the production is sold off-lease? The Court writes:

We conclude that the lessor must bear a proportionate share of such costs (transportation, compression, dehydration, blending) if the lessee can show

(1) that the costs enhanced the value of an already marketable product

(2) that such costs are reasonable, and

(3) the actual royalty revenues increased in proportion with the costs assessed against the non-working interest.

Recently, an Oklahoma court took one step towards defining marketability in its decision in Pummill v. Hancock Exploration, LLC when it wrote that:

…gas does not become marketable until it is capable of being sold in the commercial interstate market.

This would imply that if costs were incurred to gather, compress, dehydrate, and process the gas in order for it to be in a condition to be sold in the commercial interstate market, that none of those charges could be proportionally borne by the lessor unless the oil and gas lease stated that the lessor would be responsible for its share of costs. However, any costs incurred after the gas is marketable could be charged to the lessor if they complied with the Mittelstaedt decision and were not expressly forbidden in the oil and gas lease.

As you can see, once an ambiguously worded royalty clause and an attorney drafted post-production clause are thrown into the mix, the outcomes can become exponentially more complex.

Some important questions regarding deductions include:

Whitesnake loves Oklahoma royalty disputes and the fees they generate for plaintiffs’ attorneys…

1. Does the oil and gas lease royalty clause expressly allow or prohibit the deduction of costs?

2. Is there an provision in the exhibit that conflicts with the royalty clause in the lease?

3. Does the implied covenant to market apply?

4. At what point did the gas become marketable?

5. If costs were incurred after the gas became marketable, do they comply with the conditions of the Mittelstaedt decision?

6. Is an affiliate of the operator marketing the gas or is it an arm’s length transaction?

7. Where is the gas actually being sold and who is buying the gas?

Berlin is working on a flow chart / process to assist lessees and Oklahoma lessors in determining appropriate deduction actions. If this would be of interest to you / your company or if you would like a consultation regarding a royalty issue, please contact Berlin. Thanks for reading.

More to follow,

Berlin

Occupational Licensing and the Landman. Are there rules?

All,

Occupational licensing in the United States is on the rise. It has been estimated that up to 25% of jobs now require a license.[1] There are a number of reasons why occupational licensing is detrimental to economic growth. Licensing requirements protect incumbents by preventing new entrants in the industry through the cost to acquire and maintain a license and discourages movement from areas of lower opportunity to high opportunity as requirements are often state-specific and do not transfer easily to new jurisdictions. Now landmen may be required to become licensed.

Badges to purchase Oklahoma mineral rights? It could be a thing…

Historically, landmen have not had to maintain a license. It would place a large burden on both company and independent landmen if they had to maintain some type of license in every state where they worked. As the headwinds in the basins shift and new prospect lines are drawn, a landman could spend a great deal of time and resources complying with licensing and continuing education requirements.

Recently, an Ohio court ruled in Dundics v. Eric Petroleum Corp, Slip Opinion No. 2018-Ohio-3826, that an oil and gas lease falls within the definition of real estate according to the Ohio law and the negotiation of which requires a real estate broker’s license. If it can be interpreted that the assignment of oil and gas leases fall within the definition of real estate, then one can assume that almost any oil and gas trade of any size will have to be negotiated through licensed brokers.

Most proponents of the occupational licensing claim that it protects consumers. Which party is the consumer in this case? A consumer is usually defined as a buyer or user of goods or services. In oil and gas transactions, the buyer or user or lessee or assignee is usually a professional in the business. Do they need protecting? This is weird.

Fortunately the Oklahoma Real Estate License code explicitly excludes oil and gas from its definition of real estate by clarifying that “real estate shall not include oil, gas or other mineral interests, or oil, gas or other mineral leases; and provided further, that the provisions of this Code shall not apply to any oil, gas, or mineral interest or lease or the sale, purchase or exchange thereof.” [2] While this would currently exclude landmen from having to obtain a real estate license, there is nothing to prevent the state from creating a new occupational license exclusively for landmen.

Occupational licensing is an important issue and should be monitored and advocated against in the event that other states want to copy Ohio’s regulatory overreach. Berlin would be interested to hear your thoughts on the matter in the comments section below.

More to follow,

Berlin

[1] Rodrigue, Edward. “Four Ways Occupational Licensing Damages Social Mobility.” Brookings. February 24, 2016. Accessed December 2018.

[2] The Oklahoma Real Estate Commission. “Oklahoma Real Estate License Code and Rules.” OREC. November 1, 2016. Accessed December 2018.

a version of this post originally appeared by the same author on www.oklahomaminerals.com

Hall v. Galmor (we waited two years for this?)

All,

Berlin isn't an attorney and she hesitates to provide legal advice to her readers, but she must opine on the plaintiff's answer to maybe the biggest softball of a question ever slow-pitched in the District Court of Beckham County, State of Oklahoma...

Attorney: ...now in your opinion, do you believe that you could produce seven wells in question here today in--in paying quantities?

All Hall has to say here is "no." He sued to have title quieted to his new top leases as he believed the older set of leases, not released of record, were no longer held by production. Why he topped a unit just so he could produce the wells is almost beyond belief, but stick with Berlin here. All he needs to say to this question is....

Hall: It would pay to me.

Homer often confuses the words "yes" and "no" too.

Not that Hall! Anything but that. You just agreed with the defendants' case (that the leases were commercial when the wells were shut in). And when you agree with the defendants' argument and then you lose the case in district court and then appeal the case to the Supreme Court of the State of Oklahoma and the Supreme Court of the State of Oklahoma takes the case and then issues its opinion, it's going to use that fouled off slow-pitch softball in its decision to uphold the judgement of the district court. By quoting, "but perhaps the most convincing testimony was the following exchange between Hall and his attorney" (see above for that exchange)...and, "the judge seemingly relied upon this admission in reaching his judgement." "Seemingly" seems a bit gentle, but nonetheless, Hall lost (on most of the issues).

Berlin was hoping that Hall v. Galmor would carry a bit more water in helping craft the future of these lease cancellation suits. The courts are still waffling around "capability" language, but in an interesting twist in this case, they opined that a well only has to be capable at the time the well is shut-in and that the operator (or its successors) do not have a duty to maintain the shut-in well. This is a bit odd in Berlin's view as it penalizes mineral owners which Oklahoma courts tend to not do. Either way, Berlin is certain there are many out there who will claim that Berlin is incorrect and it is in fact a landmark decision and Berlin would welcome your comments and debate below.

More to follow,

Berlin

-.pdf and link of the Supreme Court's decision