Bar Texas Oil & Gas

Front 1

rule of capture--general rule of non-liability

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Back 1

Pursuant to the rule of capture, owner's prop right extends to wells produced on his land, even though some oil and gas might have migrated (drained) from other lands

Under the rule of capture, therefore, a person is not liable:
for drainage of oil he has that has migrated from adjoining land

Front 2

rule of capture--exceptions

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Back 2

DOES NOT APPLY TO:
oil and gas that has been reinjected into the land for storage, BECAUSE once extracted from the ground, oil and gas become personal property, stays his until he abandons it

Front 3

slantwell drilling

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Back 3

A landowner cannot drill a well on the surface of his tract and then “slant” it so that the well is bottomed underneath another person’s tract and the production comes from underneath the neighbor’s land.
(2) Slantwell drilling is a trespass! illegal and violates the rule of capture

Front 4

correlative rights doctrine

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Back 4

The correlative rights doctrine recognizes that every owner of oil and gas in a common reservoir to produce the gas on his oil and land
EXAMPLE: The owner of Tract A negligently drills a well overlying a common reservoir. The well catches fire and blows out. Large quantities of oil and gas from the neighboring Tract B migrate to the low-pressure area created by the blowout next door and are destroyed by the fire. The owner of Tract A argues that he owes no damages to the owner of Tract B because the rule of capture applies to this drainage. However, the Tract B owner is entitled to damages for the value of the oil and gas that was drained from beneath his land by the blowout because the owner of Tract A was negligent.

Front 5

Texas Railroad Commission--authority and duties

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Back 5

The rule of capture is subject to regulation by the Texas Railroad Commission. The Commission has the authority and the duty to:
(a) prevent waste
(b) protect correlative rights
(c) protect environment

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types of owners

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Back 6

(1) landowners
(2) surface estate owners
(3) mineral interest owners (MIO's)
(4) lessees
(5) nonparticipating royalty interest owners (NPRI's)

Front 7

MIO rights

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Back 7

(1) right to develop the minerals--paying all costs, reaping all profits (few do, most lease)
(2) executive right--right to lease
(3) right to economic benefits from the lease

Front 8

types of economic benefits

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Back 8

(1) bonus payments (one-time payment made when lease is signed)
(2) delay rentals (compensation to defer drilling the well)
(3) royalty payments (share of production free of the cost of production)

Front 9

oil and gas lease--mix of legal theory

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Back 9

The lessor who owns the fee simple in the minerals typically grants:
a leasehold interest called FSD in the minerals (a freehold estate, NOT a leasehold estate!); oil and gas MIXES THESE CONCEPTS
``
mplication--lessee ACTUALLY OWNS the corporeal estate AND the right to develop the minerals for a certain period of time; may extend indefinitely, “as long as oil and gas is produced

Front 10

lessor's FI in the mineral estate that is leased to the lessor

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Back 10

The lessor retains:
PoR in mineral estate; PoR always follows FSD—becomes possessory automatically

Front 11

IMPORTANT NOTE

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Back 11

Don’t forget the other law you know or will be learning from your bar review lectures and outlines in other subjects, like family law. That law could also be helpful in answering an oil and gas question on the bar exam.
EXAMPLE:
Can Husband unilaterally lease the homestead to Tex Oil for oil and gas exploration and development without Wife’s permission (this issue will be reviewed further in your family law lecture)?
NO—family code requires both spouses lease out the homestead!!!

Front 12

royalty interest--definition

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Back 12

right to a share of production free of the costs of production

Front 13

royalty interest--types

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Back 13

(1) lessor’s (landowner’s) royalty interest
Paid under the terms of the lease
(2) nonpariticpaitng royalty interest owners (NPRI’s)
(3) overriding royalty (RARE on bar)

Front 14

nonparticipating royalty interest--definition

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Back 14

right to royalty ONLY, not have right to lease—so no delay rentals or bonus; NO EXECUTIVE RIGHT

Front 15

NPRI--restraints

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The NPRI may be limited in time or perpetual, depending on the terms of the conveyance.

Oz conveys to Roy, “1/2 of any royalties for 15 years from this date.” Or, “1/2 of any royalties for 15 years from this date and as long as oil and gas are produced from this land.” These NPRI interests are not perpetual, like that in the Example above the Hypothetical.

Front 16

MIO's duty to the NPRI holder

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An NPRI owner must rely on the mineral interest owner to sign a lease because the NPRI has no corporeal interest in the minerals. The MIO, as the executive right owner:
Owes a duty of good faith and fair dealing to NPRI owner; is helpless! Is totally dependent on MIO owner to sign a lease

Front 17

NPRI--royalty shares

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An NPRI owner may own a fixed, unchanging share of production as royalty, such as a “1/16 royalty from (out of) production [means SUBTRACT] on Blackacre.”

Alternatively, the NPRI owner may own a fractional share of whatever royalty has been or will be negotiated in an oil and gas lease by the mineral interest owner, such as one-half of the royalty [means MULTIPLY] from production on Blackacre

Front 18

overriding royalty interest

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RARELY TESTED ON BAR

Back 18

Carved out of the working interest (i.e., the lessee’s interest)

Front 19

executive right

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Back 19

the power to lease!

Front 20

MIO's executive right

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The MIO has the executive right to lease his own tract, as a fundamental part of his ownership rights, unless he has severed the executive right and conveyed it to someone else

Front 21

Texas Supreme Court on duty of utmost good faith

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In 1984, the Texas Supreme Court found that this duty of “utmost good faith” could rise to level of FIDUCIARY DUY,which allows for exemplary or punitive damages in an extreme case (like out-of-control self-dealing); HOWEVER, the executive rights owner is not a true fiduciary because the court recognized that the executive rights owner does not have a duty to manage and develop for the sole benefit of the nonexecutive owner

Front 22

executive right owner as trustee?

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The executive rights owner is not a true trustee unless the lease specifically creates this relationship or the very nature of the relationship between the two parties is one of trust and confidence.
If there is a breach of a fiduciary duty (in the example above, the breach is egregious), the court may allow the award of exemplary (or punitive) damages or imposition of a constructive trust (on revenue from the well drilled right after the deadline). The court may also cancel any contracts entered into by the executive right owner that breached his duty to the NPRI

Front 23

hybrid interests

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IMPORTANT FOR BAR

Back 23

All the different types of interests described above can be bundled and unbundled into “hybrid” interests—e.g., an NPMI is a hybrid interest: a mineral owner who does not have the right to lease, which usually attaches to mineral ownership.

Front 24

mineral estate as dominant estate

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This means that the surface estate is burdened by the mineral estate because the mineral owner may:
command right on ingress or egress, or to use surface as is reasonably necessary to use the minerals; the effect of this common law is that the owner of the mineral estate:
does not have to pay to use the surface, OR restore the surface!

Front 25

limitations on the dominance of the mineral estate

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(1) accommodation doctrine
(2) ch. 92 of TX nat’l resource code

Front 26

accommodation doctrine

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The dominant mineral estate owner’s right to use the surface is limited to uses that are reasonably necessary to develop the underlying minerals, having due regard for the rights of the owner of the surface

Front 27

accommodation doctrine--obligations

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The owner of the mineral rights (usually the lessee) has the obligation to accommodate the uses of the surface owner if:
(1) its use of the surface will substantially impair existing surface uses
(2) the mineral owner has at least one reasonable alternative available
(3) the alternative is available on the leased tract.

Front 28

Ch. 92 of Natural Resource Code (limitation on dominant estate)

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Under Chapter 92 of the Natural Resources Code, the surface owners of a “qualified subdivision” of land (limited to 640 acres in size) lying in certain populated suburban counties approval from the RR Comm of a platt designating where future OG development can take place

Front 29

cotenancy of a mineral interest

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BIG ON BAR

Back 29

A co-tenant of a mineral interest (or his lessee) has the right to extract minerals from common prop WITHOUT consent of the other-cotenants! True NO MATTER HOW SMALL the ownership interest is

Front 30

developing cotenant's accounting to nondeveloping cotenant

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BIG ON BAR

Back 30

The co-tenant who extracts (the developing co-tenant) must account to his co-tenant (nonconsenting co-tenant) Value of cotenant’s proportionate share of the profits; OG gas produced MINUS cost

Front 31

oil and gas cotenancy

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BIG ON BAR

Back 31

EXAMPLE: THIS IS AN IMPORTANT SERIES OF EXAMPLES ON THE BAR EXAM
Mindy and Cindy are co-tenants in the mineral estate of Blackacre, each owning a 1/2 undivided interest. Mindy leases her 1/2 interest to Tex Oil for bonus and a 1/8 royalty in the lease. Cindy opposes all leasing activity on the tract. Tex Oil enters the land to commence a well. Cindy cannot prevent this entry. It is not a trespass against the nonconsenting co-tenant. Oil company has “stepped into the shoes” of the developing co-tenant
EXAMPLE:
Tex Oil then drills a dry hole costing $250,000. Tex Oil cannot charge Cindy with half of these costs.
EXAMPLE:
Tex Oil drills a good well at a cost of $400,000 and produces $1 million of oil in the first year of production. The amounts Tex Oil must pay to Mindy and Cindy are as follows:
As agreed in the lease, Tex Oil pays its Lessor Mindy 1/2 of the 1/8 royalty due under the lease because Mindy only owns 1/2 of the minerals. This amounts to 1/2 of 1/8, or a 1/16 share of the $1 million in production. This royalty share is a cost-free share of the revenues, i.e., the amount of production sold. It is not based on profits (which are cost-bearing: revenues minus costs).

Front 32

cotenancy and ratification

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gives nonconsenting cotenant a second chance to sign the deal!

(3) A custom and practice in the industry developed at an early date to make leasing transactions easier: The lessee takes a lease from all persons who seem to have an interest in the desired tract and treats each person as if they own 100% of the mineral estate, knowing that they undoubtedly do not.

Front 33

ratification--proportionate reduction clause

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The lease may contain a “proportionate reduction clause” that reads: If lessor owns less than he conveys, royalties and rentals will be reduced proportionately! GIVES THE OIL COMPANY time to do its due diligence AFTER the lease is signed BUT BEFORE it’s time to pay!

Front 34

ratification example 1

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BIG ON BAR

Back 34

EXAMPLE:--BAR LIKES TO TEST ON UNLEASED CO-TENANTS W/OPTIONS TO RATIFY!!!!!!
Mindy thinks she owns an undivided 2/3 mineral interest. She has every right to lease her 2/3 interest, but she obviously cannot lease more than she owns. Tex Oil takes a lease from Mindy that grants Tex the right to develop 100% of the minerals under Blackacre. This lease is illegal in that Mindy purports to lease interests that she does not own. However, this is commonly done. After drilling a good well, Tex Oil completes the title work and sends Mindy a royalty check for 2/3 × 1/8 of the production revenues, using the proportionate reduction clause. Cindy owns the other 1/3 mineral interest and has not leased.
As an unleased co-tenant, Cindy has the following two options: (1) wait for her 1/3 of the profits = 1/3 of the revenues minus 1/3 of the costs; or (2) ratify the lease that purported to cover her interest and receive a royalty share equal to 1/3 × 1/8 of the production sold under that lease from the first month of production. She can also receive her share of any bonus money. Once Cindy ratifies the lease, she cannot later request a profit share if that amount is larger.

Front 35

ratification example 2

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BIG ON BAR

Back 35

EXAMPLE:--SHOWS DIFFERENT AMOUNTS FROM RATIFICATION V. WAITING!!!!!!!!!!!!!!!!!!!!!!!!
Assume revenues are $100,000, drilling costs are $60,000 and operating costs are $10,000. If Cindy waits (i.e., DOES NOT CONSENT) for 1/3 of her share in the profits (1/3 of revenues minus 1/3 of the costs), this amount would be ($100,000 - $70,000 = $30,000) × 1/3 = $10,000. If Cindy ratifies, she will receive 1/3 × 1/8 = 1/24 of $100,000 cost-free = $4,167 and she will receive this amount sooner—before payout.

Front 36

cotenancy--right to partition

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Back 36

In Texas, a co-tenant has an absolute right to partition property.

Front 37

partition--by kind or by sale

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Partition in kind is favored by the courts, where:
Parties retain a property interest, rather than money
Partition in kind may not be fair, however, if oil and gas is not distributed evenly underneath the tract.
Partition by sale is where the property is sold, proceeds divided among co-owners

Front 38

successive ownership--life tenants and remaindermen

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NEITHER LT or remaindermen may, w/o joinder of other, commence extraction of minerals or execute valid lease

Front 39

life tenants and remaindermen--dividing royalties, bonus and delay rentals--terms of lease and general common law rule

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Rule 1: Follow the Express Language in the Terms of the Grant—PROBABLY TOO EASY FOR BAR EXAM
Rule 2: General Common Law Rule—Favors Remainderman: FAIR GAME FOR THE ESSAY—MOST COMMON RULE!!!!!!1 (corpus (royalty and bonus) isr eserved for remainderman (put into escrow), interest goes to LT)

Front 40

life tenants and remaindermen--diving royalties, bonus and delay rentals--open mines doctrine

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A life tenant is entitled to receive all the lease payments (bonus, delay rentals, and royalty) if:
AT THE TIME the lt vests, g/or HAD ALREADY executed a lease on the land!
(2) DOES NOT have to have produced, JUST to have a lease!

Front 41

life tenants and remaindermen--diving royalties, bonus and delay rentals--life tenancy created in trust

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(1) if no specific instructions given on how to apply lease proceeds, apply TEXAS TRUST ACT!
(2) Under the Texas Trust Act, the life tenant gets nominal delay rentals plus an equitable share (presumed 85%) of all other proceeds (bonus, royalty, shut-in royalty, delay rentals that are more than nominal, and production payments that bear no explicit interest factor.
(3) If it was created before 2004, only 72.5% goes to the remainderman, instead of 85%.

Front 42

effect of mortgage on the mineral interest

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Scenario: Landowner has borrowed money to purchase the land, and the land is subject to a mortgage. The Landowner then grants an oil and gas lease on the tract. The principle of first in time, first in right prevails. This means that if the mortgagor defaults on the mortgage, the mortgagee can foreclose against the mortgage and destroy the second-in-time lease.

Front 43

mortgage--satisfying a foreclosure action

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Upon foreclosure, the court will order:
That surface assets sold first to satisfy debt

4. If that sale of the surface assets is not enough to cover the debt:
if insufficient, ONLY THEN will lender foreclose against the mineral estate

Front 44

slander of title

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BIG ON BAR

Back 44

malicious publication o false statements that injure P’s title or its market value

Front 45

trespass

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BIG ON BAR

Back 45

Wrongful entry onto and possession of another’s property

Front 46

trespass-types

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BIG ON BAR

Back 46

(1) geophysical trespass
(2) damage to the lease value from a dry hole
(3) slantwell drilling and production
(4) drilling and production without a valid lease

Front 47

geophysical trespass

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BIG ON BAR

Back 47

occurs when an operator obtains the right to explore from the surface owner, rather than the mineral owner. Seismic operations use explosives or trucks with heavy plates that send vibrations into the earth to be read by instruments as the sound waves bounce off different layers in different ways.
REMEDY--(a) The MIO can waive the tort of trespass (may be no damages!) and sue in assumpsit for the value of the contract that should have been negotiated with this owner. Thus, if the market value of the right to do seismic surveys is $1,000 an acre, the MIO can recover damages in this amount.

Front 48

damage to the lease value from a dry hole

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BIG ON BAR

Back 48

wrongful lessee (who has no good lease) enters onto tract and drills a dry hole, proving the land is worthless for OG production
(2) Remedy
owner receives damages equal to the lost opportunity to lease the land—BONUS reflecting loss in market value

Front 49

slantwell drilling

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Back 49

operator slants well to extract gas from below another’s land

Front 50

drilling and production wihtout a valid license

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BIG ON BAR

Back 50

A trespass occurs if the lease is expired or is otherwise invalid, lessee remains and continues to drill; SEE REMEDIES BELOW

Front 51

remedies for trespass which resulted in production--good or bad faith

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Back 51

The amount of damages paid by a trespasser depends on whether trespass in good or bad faith

In Texas, a trespasser is in bad faith as a matter of law if he drills during pendency of a title lawsuit to the tract

Front 52

adverse possession--take surface or mineral estate?

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2. Adverse possession of the surface of a tract may or may not result in adverse possession of the underlying mineral estate. The following rules apply to determine this issue:
a. an adverse possessor takes:
what the record owner has!!!!!!!!!!!
(1) Thus, adverse possession of an unsevered tract results in gaining title to both the surface estate and the mineral estate.
if the mineral estate is severed from the surface estate possession of the surface alone will not constitute AP

Front 53

timing of title earned by AP

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relates back in time of its beginning (i.e., the creation of the title)

Front 54

how to stop AP of minerals on an unsevered tract

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mineral owner must ACTUALLY OUST the trespasser

Front 55

vibrations as trespass?

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NOT a trespass!!!!!!!!! Mere vibrations=vibrations w/o damage

Front 56

water flooding with RRC approval as trespass

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Back 56

Many oil fields in Texas are repressured by injecting large amounts of water or some other gas or liquid into the field to “scrub” and push more oil out of the reservoir’s pore spaces.
(1) called secondary recovery
b. Texas has a Voluntary Unitization Statute that allows these operators to secure RRC approval of their secondary recovery operation.
c. Waterflooding usually requires the cooperative efforts of most of the lessee/operators in a field.
d. The RRC must find that the correlative rights of all owners of the common reservoir are protected and that additional oil will be produced.
e. If the RRC approves the operation it is not a trespass when saltwater is pushed under lease lines to drown out producing well of an adjacent owner who has refused to join the operation

Front 57

water flooding with RRC approval--causes of action of neighboring landowner

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(1) The court will not:
Enjoin the operation or shut down the operation
(2) Note, however, that the adjacent operator:
Have cause of nuisance or negligence, NOT trespass!

Front 58

hydraulic fracturing as trespass

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Back 58

Some gas fields are “tight sands” or “shale gas” fields which have trapped large amounts of natural gas, but the gas will not flow into the well bore unless:
operater fractures the formation and makes cracks underground, radiating out from the well bore
b. If a fracturing operation extends a crack under a lease line into the adjacent tract, the Texas Superior Court has held that:
rule of capture bars recovery of damages for any gas drained as a result
c. Instead, the drained party may have other remedies, such as:
breach of implied covenant to protect against drainage, pooling

Front 59

statutory requirements for fracking materials

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Back 59

Oil and gas operators are required to:
Disclose on nat’l public website chem the ingredients and water volumes used to frack in TX
(2) This applies only to wells receiving an initial drilling permit on or after February 1, 2012, by the Railroad Commission.

Front 60

what is a "mineral"?

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Back 60

Look to the deed language! However—many deeds use “minerals” without defining it! If so…
O&G are minerals as a matter of law
There are also hard minerals like coal and uranium that are often strip-mined or open-pit mined using methods that destroy the surface. These substances are not like oil and gas produced from wells which can coexist (albeit sometimes unhappily) with farming and other land uses.
4. Some substances like sand and gravel or building stones are quarried on the surface of the land, even though technically they may be considered a mineral.

Front 61

substances that belong to the surface owner as a matter of law

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(1) building stone
(2) limestone
(3) coliche (sp?)
(4) surface shale
(5) water (both freshwater and the saltwater produced in the oil and gas extraction process, which is useful for repressuring fields);
(6) sand
(7) gravel
(8) near-surface lignite or coal (lignite is a low-grade of coal, common in east Texas); and
(9) near-surface iron ore
(a) “near-surface”: w/in 200 feet of the surface

Front 62

surface destruction test

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Back 62

The surface destruction test asks:
Does any reasonable method of producing the substance destroy the surface? If yes—the substance belongs to the owner!
(2) Applies only where:
Property SEVERED BEFORE June 8, 1983
(often difficult to apply--what does "destroy" mean?)

Front 63

ordinary and natural meaning test

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Back 63

Texas does not use the surface destruction test for conveyances made after June 8, 1983.
(2) Instead, it uses the ordinary and natural meaning test, which does not depend on the type of technology used in mining.
(3) This test asks:
If the substance at issue is a mineral in the ordinary and natural meaning of the word? EVEN IF removal would cause destruction of the surface
In adopting the new post-1983 test, the court also held that the mineral owner (or his lessee):
Must compensate the surface owner in damages in loss of surface use, when conveyance is a general one for minerals
(5) When the mineral is specifically conveyed in a deed, however, the mineral owner will only be held liable for negligently inflicted damage.

Front 64

NPRI owners and the surface estate

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Back 64

(7) NPRI owners do not share royalties in substances that are held to belong to the surface estate. (RIGHTS OF THE NPRI ARE CARVED OUT OF THE MINERAL ESTATE)

Front 65

mineral interest v. royalty interests in deeds

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BIG ON BAR

Back 65

Deeds convey either a mineral interest or a royalty interest. Sometimes the language isn’t clear because of bad drafting. Here are some hints to help you decide whether you’re dealing with a royalty or mineral interest.

Front 66

mineral interest in a deed

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BIG ON BAR

Back 66

A grant or reservation is likely to be construed as a mineral interest if:
(1) the grant (or reservation) states that it is granting (or reserving) all the “oil, gas and other minerals “in or under” the tract or “in and under and that may be produced” from the tract
(2) the interest is called: the mineral interest
(3) the interest is described as cost-bearing, or sharing profits
(4) the right to lease and to share in the economic benefits under the lease, i.e., bonus, royalty, and delay rentals;
(5) the possessory right to enter onto land to explore and develop the minerals

Front 67

royalty interest in a deed

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BIG ON BAR

Back 67

A grant or reservation is likely to be construed as a royalty interest to distinguish it from the lessor’s royalty that belongs to the mineral interest owner after he signs a lease) if:
(1) the grant or reservation refers to “all the oil, gas and other minerals that are “produced and saved,” or “produced, saved, and marketed;”
(2) the interest is cost-free and is based on a percentage of the revenues received from the oil and gas sold
(3) the interest does not have the right to lease—lacks executive right, i.e., is NONPARTICIPATING
(4) the interest does not share in any bonus and delay rentals that mineral interest owners would typically receive when they sign a lease; or
(5) the interest simply receives A ROYALTY and NOTHING ELSE

Front 68

mineral v. royalty interest example 1

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BIG ON BAR

Back 68

Able grants to Baker the following interest: “a 1/16 interest in all the oil and gas produced from Blackacre cost-free.” Absent other language within the four corners of the granting document, this interest is a royalty (NPRI) interest because it is cost free and is based on production, without any “in and under” language. If $16,000 worth of oil has been produced and sold, Baker would receive 1/16 of this $16,000 = $1,000. Baker has no right to lease and receive bonus or rentals under a lease; Baker is not a co-tenant in the mineral estate; Baker is an NPRI.

Front 69

mineral v. royalty interest example 2

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BIG ON BAR

Back 69

Able grants to Baker the following interest: “a 1/16 interest in all the oil, gas, and other minerals in, under, and that may be produced from Blackacre.” Absent any other language in the deed, this interest is a mineral interest. Baker owns a 1/16 mineral interest and is a co-tenant with other parties who own the other 15/16 of the minerals. Baker can lease his minerals, and if he leases for a 1/8 royalty, he will receive: 1/16 × 1/8 of the $16,000 in oil produced as a cost-free royalty = $125. This is less than Baker would have received from the NPRI grant above, but remember that Baker, in this contrasting example, will also receive bonus money for signing the lease, and any rentals paid to delay drilling. Baker can also opt to receive a profit share as a co-tenant.

Front 70

rules of construction

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Back 70

deeds construed against grantor

lease construed against lessee

Front 71

"of" in grant/lease language

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Back 71

“Of” means multiply.
(1) The grant of “a 1/16 of 1/8” royalty interest means the grantee receives 1/16 × 1/8 = a 1/128 interest in production, cost free. The grantor retains an interest equal to: 1/8 minus the 1/128 granted to the grantee, or 1/8 -1/128 = 15/128. If the grantor had not sold this 1/16 of his royalty to the grantee, he would continue to own 1/8, or 16/128, of all the production from Blackacre.

Front 72

"out of" in grant/lease language

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Back 72

“Out of” means subtract.
(1) The grant of a “1/16 royalty interest out of the lessor’s 1/8 royalty” means that the grantee will receive a 1/16 royalty equal to 1/16 of all the production. The grantee’s royalty is taken out of (i.e., it is subtracted from) the grantor’s existing 1/8 royalty, leaving the grantor with 1/8 - 1/16 (which was conveyed to the grantee) or a 1/16 royalty.

Front 73

"described" v. "conveyed" in conveyances

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Back 73

a. If the conveyance or reservation of a fractional interest in a deed refers to the land described:
fraction conveyed relates to the ENTIRE tract of land, NOT JUST the grantor’s share of the land! MUCH LARGER piece of the pie

Front 74

conflicting fractions

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Back 74

5. Conflicting Fractions in “Fill in the Blank” Mineral Deed Forms—THE THREE BLANKS TO BE FILLED IN SHOULD ALL CONTAIN THE SAME FRACTION!!!!!!!

Front 75

common form of mineral deeds--four paragraphcs


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Back 75

(1) the granting clause, which grants the specific fractional mineral interest being conveyed (The form has a blank to fill in);
(2) the “subject to” clause, which states that the grant is “subject to” an existing lease and then states that the grantee will receive certain fractional shares (blanks to be filled in) of the royalties and rentals to be paid under that lease;
(3) the future interest clause, which states what fractional mineral interest (another blank to fill in) the grantee will own when the existing lease expires; and
(4) a warranty clause, which warrants what is conveyed in the granting clause, and has no blank to fill in with a fraction.

Front 76

Duhig rule

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BIG ON BAR

Back 76

The Duhig rule applies when there has been an overconveyance of fractional mineral or royalty interests. This occurs when the total of the fractional interests reserved in the chain of conveyances EXCEED 100%!
(1) Someone has to lose title to some fraction of the minerals. The Duhig rule puts the loss on the grantor in the middle of the 3-party chain of conveyancing.

Front 77

Duhig rule example 1

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BIG ON BAR

Back 77

Able conveys Blackacre to Baker, reserving 1/2 of the mineral interest. Later Baker conveys Blackacre to Chris, reserving a 1/2 mineral interest. In the deed to Chris, Baker does not state that Baker’s reservation of 1/2 the minerals is in addition to any prior reservations, such as the 1/2 mineral interest reserved by Able. Under Duhig, Able has title to 1/2. Able is first in time, first in right, and as long as Able has recorded, Able has title to 1/2. Baker is estopped to deny that he did not pass his 1/2 of the minerals to Chris. In addition, the “greatest possible estate” rule applies, and Baker, as grantor, will be held to pass everything that he did not expressly reserve. Thus, Baker will have 0. Chris owns the surface and the other 1/2 of the minerals.
If the grantee cannot be made whole by transferring enough title from the grantor to the grantee (i.e., from Baker to Charlie), then the grantee may also seek damages for breach of warranty.

Front 78

Duhig rule example 2

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BIG ON BAR

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EXAMPLE:
Able conveys Blackacre to Baker, reserving a 1/2 mineral interest. Baker conveys Blackacre to Chris, reserving a 1/4 mineral interest. Under Duhig, Chris can assert the right to receive a 3/4 mineral interest (because as between Baker and Chris, Chris can assert that he was receiving everything that Baker did not reserve, i.e., the other 3/4 mineral interest and the surface). Baker cannot be stripped of title that he does not own, so Chris will own 1/2 of the minerals and have a cause of action in damages for the remaining 1/4 mineral interest. Able of course, owns his 1/2.

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non-apportionment rule in a post-lease conveyance

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Problems arise when land as subject to an oil and gas lease is SUBDIVIDED
b. When land is subdivided after a lease is executed but prior to the development of the land, royalty is NOT apportioned
c. Rather royalties belong to the owner of the portion of the subdivided tract on which the well physically sits.
d. However, delay rentals, which are paid on an acreage basis ARE apportioned

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community leases & royalties

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In a community lease situation, parties own different tracts of land that are contiguous and lease them in all respects as though they were a single tract owned by the lessors in common. The lessors thereby pool their interests to share pro rata the royalty, no matter whose land the oil is extracted from

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Mother Hubbard clause

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a. Typical Mother Hubbard clause: “This deed covers and includes not only the above-described land, but also any and all other land or interest in land owned by the grantor adjoining the above-described land.”
b. The Mother Hubbard clause has been interpreted to allow a grantee:
to pick up small strips of land that the parties may not have known or owned by the grantor, e.g., survey mistakes or incorrect fences

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RAP--definition

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The conveyance of a future interest that is conditional on the expiration of this underlying fee simple determinable:
May not vest w/in the life or lives of being plus 21 years

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RAP example 1

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Able owned Blackacre and leased it to Tex Oil in 1970. The lease expired in 2008 (38 years later) and the mineral estate reverts to Able. This does not violate RAP. During the entire 38-year period, the Able (or his heirs and assigns) is considered to own a presently vested interest in the possibility of reverter in the mineral estate.

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RAP example 2

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Rex Oil has an oil and gas lease from Able, the duration of which is “five years from this date and as long thereafter as oil and gas are produced.” Rex has produced for many years, but the pressure in the field has been declining, production is falling, and a rival operator, Tex Oil, hopes that the Rex lease will expire because production will end. Tex Oil signs a top lease with Able, which will become effective when the bottom lease expires. The top lease reads: “This lease shall become effective upon the expiration of the existing lease currently held by Rex Oil.” This top lease is void because it violates the RAP. The bottom lease is not guaranteed to lapse within 21 years. Royalty interests may also be voided by the RAP.

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RAP example 3

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Able grants an NPRI interest to Baker to “3/4 of all royalties on Blackacre for 15 years and as long thereafter as oil and gas are produced.” As the end of the 15 years approaches, and no production exists on the land, Able grants “3/4 of all royalties on Blackacre to Charlie, this grant to become effective only on the expiration of the prior royalty deed to Baker.” Charlie’s NPRI interest is void; it violates the RAP. A well could be drilled and production could be obtained, extending the first NPRI deed indefinitely into the future.

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habendum clause--primary and secondary term

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The duration of the lease is usually:
fixed for a definite term of years—called the PRIMARY TERM
b. “as long thereafter as oil or gas are produced” (the secondary term). This latter phrase is:
keeping the lease alive, perhaps indefinitely

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"produced" and "production" in habendum clauses

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(1) The secondary term is the indefinite period of time granting rights to the lessee once production is obtained—i.e., “as long thereafter as oil or gas are produced.”
(2) The words “produced” or “production” mean:
Production of oil or gas in paying quantities (PPQ—production in paying quantites)

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production in paying quantities

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To determine whether oil or gas is being produced in paying quantities (PPQ) from these marginal wells, the test is:
(a) Whether, under all the relevant circumstances, reasonable, prudent operator, for the purpose of making a profit (NOT speculation) would continue to operate the well as it is currently being operated
1) The court will take into consideration all matters which would influence a reasonable and prudent operator.

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production in paying quantities formula

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Revenues from oil/gas sold minus royalty minus operating cost…if POSITIVE, you have PPQ! If NOT, you DON’T

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"temporary cessation of production" doctrine

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The temporary cessation doctrine is an exception to the general rule that the lessee must always have PPQ, or a savings clause that operates as constructive production.
c. Under this rule:
IF termporary cessation AND lessee operates diligently to correct the problem (gen’lly w/in a few months), this rule operates as a SAVINGS CLAUSE

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"temporary cessation of production" doctrine--factors

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(a) how long the well was shut down
(b) the cause of the shutdown
(c) the lessee’s efforts to restore production

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"temporary cessation of production doctrine--foreseeability

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In recent case law, the Texas Supreme Court has clearly indicated that the triggering cause need not be unforeseeable or unavoidable. This case law suggests that a lessee can make the deliberate choice to cease production for a short time if a reasonably prudent operator would do so

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overriding the "temporary cessation of production" doctrine

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To avoid disputes over what is temporary, oil and gas leases often include a clause stating that the lease will remain in effect if production ceases and if the lessee commences additional drilling or reworking operations within a certain period of time, usually 60 days. Note that the lessee must commence the operations within 60 days, not restore production within 60 days. THIS CLAUSE WILL OVERRIDE THE COMMON LAW TCOP doctrine!

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shut-in royalty clause

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A shut-in royalty clause deals with a situation where a time-gap b/w completion of the well that is capable of PPQ and actual production from the well—time b/w well completion and PPQ! E.g., while waiting for a pipeline to finish construction

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shut-in royalty clause--prerequisite

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ONLY applies if the well is CAPABLE of PPQ

I.e., the lessee cannot drill a dry hole or a junked well, pay a small shut-in royalty, and hold the lease with constructive production from a well that is not capable of producing in paying quantities.

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operations clause

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A continuous operations clause states that the lease will not terminate if drilling or reworking operations are in progress.

It is possible to have multiple savings clauses; just tack them together, see if they in total would work to save the lease

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delay rental clause--"unless" clause example

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“Unless Clause”—The typical delay rental clause in Texas is an “unless” clause and reads:
“If operations for drilling are not commenced on this land (or on acreage pooled therewith) on or before one year from this date, the lease shall terminate, unless on or before such date, Lessee pays or tenders to Lessor the sum of $[rental amount], which shall cover the privilege of deferring commencement of drilling operations for a period of 12 months. Payment may be made by check or bank draft mailed or delivered to lessor on or before the due date.”

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commencement of drilling under the delay rental clause

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If the lessee has commenced a well, it need not pay delayed rentals to keep the lease alive!
(2) Commencement of drilling does not require that the lessee actually set up a drilling rig at the site at the end of the first year of the primary term
Rather it requires:
(a) any physical activity by the lessee on the premises indicating a clear intent to develop the land
(b) which is conducted In good faith (i.e., not stalling) and with due diligence

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delay rentals--failure to pay

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(1) Failure to pay delay rentals on time or in the correct amount will result in termination of the lease! YIKES
(2) When a lessor accepts a late or improper payment, however, the lessor is held to have revived the lease; based in a theory of estoppel

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delay rentals--overriding failure to pay clauses

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Leases may include express clauses that prevent automatic termination of lease for
improper payment of delay rentals!

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delay rentals--"or" clauses

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These read:
Lessee agrees to drill a well within one day of the date of this lease OR pay delay rentals; creates a COVENANT, the breach of which CREATES A BREACH COA, NOT lease termination!
If the lessee fails to do either:
LESSOR has COA for breach, NOT lease termination

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pooling clause

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The pooling clause is one of the most powerful defensive clauses that a lessee has to hold a lease in effect without actual drilling or producing on a particular tract of land under lease.
A pooling clause allows the lessee to:
pool/combine small tracts of land into a larger unit for the drilling of a single well
Almost all oil and gas leases have a pooling clause. Without it, a lessee has no power to pool the lessor’s interest with other nearby land in the area.

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Pugh clause/freestone rider

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A Pugh clause (or Freestone rider) allows a lessor to limit the lessee’s pooling power. It does not prevent pooling, but it modifies the amount of acreage which can be held by a pooled well.
(2) A Pugh clause states:
Production from a unit well will hold the lease in effect only as to land included in the unit
(3) The Pugh clause:
Severs the lease into the “pooled” acreage and the “unpooled” acreage

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pooling--good faith requirement

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A lessee must exercise good faith w/lessor when making a pool designation!
Whether the lessee acted in good faith is a question of fact.

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pooling--factors indicating a lack of good faith

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(a) Pooling that includes unproductive land in the unit pool.
(b) Pooling which makes no geological sense given underlying reservoir conditions.
(c) Pooling done right before the primary term is to end, without any study of what acreage is productive.
(d) Gerrymandering a unit with a strange shape, which reaches out to pick up little pieces of acreage from, say, six other leased tracts when the lessee could have drilled one well on its seventh tract of 640 acres, without pooling at all.

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pooling--executive and non-executive right holders

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In Texas, the executive right owner DOES NOT have the power to pool non-executive interests, such as nonparticipaing royalty or mineral interests; instead nonparticipating interests hve to ratify the pooling IF it is going to be effective as to their interest

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royalty--nature of the interest

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A lessor’s royalty interest or an NPRI’s royalty interest is: an interest in RP, whether payments made in cash or in kind; deed and lease convey RP interest

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royalty--impact of costs

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Royalty is paid Free of the costs of production, BUT NOT free of post-production costs

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royalty clause--"at the well" language

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The royalty clauses in leases are usually phrased in terms of paying for the production “at the well”: means at the surface of the lease near the wellhead

Therefore royalty owners must pay their fair share of the post-production costs incurred, e.g., transportation, marketing, compressing the gas

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market value/proceeds problem

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arose out of the use of the phrase “market value at the well” in leases to provide the basis of royalties when the oil or gas was sold off the premises (most gas is sold off the premises
If the gas is sold off the premises, Lessor owed royalty on the market value off the well
In Texas, the phrase “market value” has been held to mean the value of similar gas selling in the open market, NOT the lessee’s gas; similar gas!
Thus, market value may differ substantially from the actual proceeds received by the lessee for its gas if the lessee has committed the gas to a long term contract at a fixed price.

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division order

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A division order is a short, one-page document signed by each of the often many royalty and mineral interest owners who have an interest in that production. The division order is mailed by the lessee, operator or purchaser of the oil and gas to the owner and contains a calculation, to the sixth decimal point, specifying how the proceeds of production will be distributed by the purchaser of production.

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division order--effect of interest owner signature

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If an interest owner SIGNS and returns the division order, it is BINDING until revoked! EXTREMELY IMPORTANT CONCEPT

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division order--CL rule when division order changes lease language

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the division order is binding until revoked!

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Division Order Statute

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as a condition of payment of the proceeds of a sale of oil or gas to the payee, the payor is entitled to receive a signed division order from the payee that meets certain statutory requirements

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Division Order Statute--statutory requirements

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The statutorily approved division order can contain only the following items:
(a) the effective date
(b) a description of the property
(c) the fractional/decimal interest in production claimed by the lessor
(d) authorization to suspend payment to the lessor until the resolution of any title dispute;
(e) t/p payer ID number of the lessor
(f) provisions for the “valuation and timing of settlements” of oil and gas production to the payee; and
(g) notification to the payee that other statutory rights may be available to a payee.

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division order--revocability

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Under the statute, division orders are terminable (revocable) by either party on 30 days’ written notice.

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division order--effects of mistakes in payment

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BIG ON BAR

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The Act states that division orders are binding for the time and extent to which they have been acted upon and made the basis of settlements

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division order--when in conflict with the lease

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BIG ON BAR

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The division order cannot change or relieve the lessee’s obligations under the lease; and
any provision that contradicts the lease is deemed INVALID

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division order--when it clarifies royalty settlement terms

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BIG ON BAR

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permissible for the division order to clarify settlement terms contained in the lease

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division order--black-letter law

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BIG ON BAR--MEMORIZE

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Under the statute, division orders are generally binding until revoked when the parties have used them to settle royalty payments, but exceptions to their binding effect may occur when the division order purports to amend or contradict the terms of the lease or relieve the lessee of its express or implied duties under the lease.

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force majeure clause

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A force majeure clause allows the lessee to preserve the lease in the event of circumstances beyond the lessee’s control. Note that a typical force majeure clause may not cover a lessee’s failure to make delay rental payments or a lessee’s failure to begin drilling operations prior to the end of the primary term.

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common implied covenants

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a. covenant to protect against drainage
b. covenant to reasonably develop
c. covenant to manage and administer the lease; includes the implied covenant to market

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implied covenant to protect against drainage

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A lessee may be obligated to protect the leased tract against draining EVEN IF the lessee has already paid delay rentals to put off drilling the well

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implied covenant to protect against drainage--remedies

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A lessor is entitled to recover damages for breach of the duty to protect from drainage if she can prove:
(1) substantial drainage (no test unfortunately!)
(2) that a reasonable prudent operator would act to prevent (usually requires that the lessor prove the offset well would be profitable to drill. A CHALLENGING AND EXTREMELY TECHNICAL BURDEN TO MEET)

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implied covenant to reasonably develop

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once a lessee has begun to produce oil or gas on the premises, he has an obligation to continue to develop the premises reasonably by drilling additional wells

could include the duty to use modern technology, such as fracturing, to secure greater production.

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covenant to market

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included in the covenant to manage/administer the lease

obliges the lessee to market oil and gas within a reasonable time; and
to obtain the best possible price for production.

DOES NOT INCLUDE Implied covenant to market at the highest price in a market-value lease!

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covenant to market--if gas sold on/off lease

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If the gas is sold off the lease, lessor due the market value at the well

If the gas is sold on the lease, the lessor is due the proceeds

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implied covenant--remedies for breach

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Remedies for breach of an implied covenant may take the form of damages or cancellation of the lease

damages are lost royalties, i.e., the value of the royalties had the breach not occurred

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implied covenant to develop--damages for breach

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Damages for breach of the implied covenant to develop are the royalties that the additional wells, which the lessor has proven would be profitable to drill, would have produced

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conditional cancellation decrees

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Because damages are often difficult to prove in oil and gas cases, courts have issued conditional decrees to the lessees, those that have breached their implied covenant to act as a reasonably prudent operator

The conditional decrees require the lessee to either drill the well that has been proven would be profitable, within a certain period of time, or the court will cancel the lease in whole or in part.

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RRC permits

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Before drilling a well, the operator must:
Receive a permit from the RR Comm, and satisfy the spacing and density requirements by meeting them or showing than an exception is appropriate

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Rule 37 exception to RRC permit requirements

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An exception will be granted only if the applicant proves that the exception is necessary to prevent drainage, confiscation or waste.

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pooling

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Pooling is the process of bringing together several small tracts of land to form a drilling unit or production unit for one well; different from unitization in that pooling is associated with a single well, whereas unitization relates to joint operations within a field that involves multiple leases and wells. Unitization typically occurs to conduct secondary recovery operations like waterflooding on a fieldwide basis.

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compulsory pooling

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MIPA allows the RRC to pool separately owned tracts of land in order to protect correlative rights, prevent waste or avoid the drilling of unnecessary wells.
5. But the RRC can pool under MIPA only after:
Pooling applicant makes a fair and reasonable offer to pool voluntarily

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plugging wells

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The RRC requires the plugging of wells that are no longer producing (often called abandoned wells) because such wells may cause oil, gas, salt water or other harmful substances to leak into freshwater formations or onto the land surface

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plugging wells--who has responsibility to plug?

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The operator of a well has:
Primary responsibility to plug the well that has ceased production
3. Non-operators (who own working interests but do not actually operate the well, e.g., nondeveloping cotenant) have:
Have secondary responsibility to plug the well; only applies if the primary operator has failed to do so
Royalty owners and lessors are:
NOT liable for plugging the well

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plugging wells--what if no one does it?

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If neither the operator nor the nonoperators can be found or are unable to plug the well:
RR Comm can plug the well by using funds the state has set aside for that purpose

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Relinquishment Land Act

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Several million acres of land in Texas are subject to the Relinquishment Act of 1919. The surface of these tracts of land was granted or sold to settlers and ranchers between September 1, 1895 and August 21, 1931, while Texas retained ownership of the minerals.
2. The Relinquishment Act appoints the surface owner as the state’s agent in developing the mineral resources underlying the surface tracts.
3. So the surface owner has the right to lease the land and receive one-half of the bonus, royalty, and other payments under the lease. The other half goes to the state.

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Relinquishment Land Act--surface owner's duty

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The surface owner owes the state a fiduciary duty as the surface owner exercises its executive right to lease the minerals

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Relinquishment Land Act--powers of surface estate holder

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The surface owners cannot:
a. mortgage the mineral interest
b. sell the mineral estate

5. The surface owner may:
Assign his right to royalties to an existing lease for the life of the lease
6. In addition, the surface owner may:
Sell/encumber the surface of the estate