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Oil and Gas
South Texas College of Law Houston
Reed, Harry L.

OIL & GAS OUTLINE- Reed Fall 2011

I. Accumulation, Ownership & Conservation

A. Royalties

1. Royalty: interest in production retained by the lessor in the royalty clause of the O&G lease

2. Types of royalties:

a. Overriding royalty interest – royalty interest carved out of the lessees leasehold interest

i. Frequently used compensate those who have helped structure the drilling venture

ii. Ends when the lease in which it is carved terminates

a. EXAMPLE: MB leases her mineral rights to Wildco, and MB retains a 1/8 royalty interest in all oil produced (meaning Wildco gets 7/8 of all production). Wildco then executes an Overriding Royalty to FBNOC for 1/8 of all production obtained by Wildco during the life of the lease b/w MB and Wildco.

b. Non-participating royalty – royalty carved out of the mineral interest

i. Entitles holder to stated share of production w/regard to the terms of any lease

a. Ex: Oà A ½ of any royalty provided by any future or present lease

b. Mineral interest owners who sell their rights often retain non-participating royalty

c. Term royalty – royalty for a stated term which may be fixed

d. Perpetual Royalty – royalty that may extend forever, not limited in time

3. Royalties are due to the lessor from the moment production begins (not drilling)

a. Royalties are due to the lessor on all revenues received (not just profits)

B. Accumulation

1. 5 Phases of Oil Business

a. Upstream

i. Exploration

ii. Production

b. Downstream

i. Transportation – key to oil business, Rockefeller built his business on this

ii. Refining (manufacturing) – taking crude oil or gas and making it into marketable product

iii. Marketing

2. Terms

a. Christmas tree – valves sticking out of the ground

b. Horses neck – pump jack weight

c. Integrated Oil Company – large or small that does all 5 phases of the business

d. Sedimentary rock – type of rock oil is in

i. Exoskeletons – dead cells of animals

a. inside of dead animals turn into limestone or some other sedimentary rock

e. Porosity – the amount of microscopic empty space w/n a rock.

f. Permeability – the interconnectedness of the open spaces in the rock – if they are not interconnected there is no way to get it out

g. Viscosity – the thickness of the oil.

i. The more viscous the oil (the thinner the oil), the less porosity you need to remove the oil

h. Lessor – landowner who signs the lease

i. Lessee – company that has the lease

j. Correlative Rights – different persons own same interests in the same property

3. To have commercial production rock must have porosity

4. Reservoir rock = highly permeable rock

5. Temp and pressure turn rock into oil

6. The only way to tell if oil is in a certain spot for sure is to drill for it. (Anything else speculation)

7. Recovery of Oil:

a. Primary: Natural reservoirs pressure + mechanical recovery (pumping) 25%

b. Secondary: injection of water (usually salt water) to push the oil toward withdrawal

i. Re-inject water, pump it tight into reservoir and pushes water out to a recovery well. Usually another 25% out assuming reservoir is susceptible (this is economical)

c. Tertiary: Using detergents instead of water, push, wash out and cleanse

i. Gets a lot more out but not economical unless price is really high for oil) – will get another 25% out

d. Thermal recovery: use heat to inject steam into reservoir or set the reservoir on fire on one end and let the reservoir provide the heat and push the water out

i. Price of oil is linked w/ techniques that are used

8. Shale mining – must strip mine and then mine the producing formation. Then take shale to a crushing facility to crush into pebbles, then boil it (retard it), heats oil up to where it is thin enough to get out of the pebbles (low permeability) — takes a lot of energy to get all this done

C. Private Ownership

1. Clear Ownership States

a. Rule: Whoever owns the fee to the soil owns everything underneath the land described by a vertical extension downward of the boundaries

b. Oil and gas can be owned in place as opposed to ownership only once reduced to possession

i. EXCEPTION: Statutory Provision or contract to the contrary

c. Corporeal – When an interest in land includes the right of possession of the land

d. Rule: If the O&G moves off your land you lose your property interest in the O&G

i. Subj. to the right of others to divest ownership by capture

e. KEY: Owner can convey an ownership interest in mineral below the surface

2. Non-ownership theory (profit a prende) a right to go on the land and take some part of the land

a. Non-corporeal – interest includes only the right to use the land (not possess)

b. Ownership can only be obtained by capture

i. No ownership in the minerals until they are produced and taken possession of

3. Rule: If you have the right to use, can license to others

a. Donkey Rule: Ownership means the owner gets to say who can use the property for the purpose it is intended

4. Horton’s Rule: If you said it you must have meant it and we are going to enforce it in an O&G instrument (literalistic approach: parol evid very rare)

D. Rule of Capture

1. Rule: If a land owner drills a well at a legal location on his or her own land and bottoms the well on his or her own land, then the land owner owns all of the production from that well, no matter where it has been drained from (even if near property line)

a. REMEDY for your neighbor: Self Help

i. Rule: Even if you have a right, you may not have a remedy if the remedy of self help is adequate

ii. May put well next to property line and drain neighbors well, neighbor’s remedy is Self Help

iii. Cannot go to court and get money for O&G that is drained from your land

iv. Problems with Self Help rule—incentive to drill which creates over supply

a. Drives down prices; Storage probs; Environmental probs; Overproduction causing oil to get lost in the ground and thus unrecoverable with current technology

b. If oil is produced too quickly the reduction of pressure as it rises to the top allows the gas to bubble out the oil. Makes oil less viscous and therefore it gets stuck in the rock

b. If well bottomed under neighbors land – draining & illegal (trespass)

2. Rule: O&G is real property when in the ground (f/s determinable b/c can be defeated if it migrates)

3. Rule: O&G is personal property when severed from the land

a. Rule: Once O&G becomes personal property, it is NO longer subject to the rule of capture

i. If you drop it only you have the right to pick it up, unless you abandon

b. Abandonment

i. A freehold estate in land cannot be abandoned (l/e or better)

ii. Personal property is capable of CL abandonment

a. An ownership right in personal property (after severed from the land) can only be lost through abandonment or conveyance (not migration)

iii. Rule: To abandon personal property, need:

a. An intention to abandon and

b. A simultaneous corroborative act

4. Re-injected Gas

a. TX/Maj: Re-injected gas is personal property (not realty), rule of capture does not apply

b. Ky/Min: Re-injected gas DOES become realty and thus the rule of capture does apply (property line situation)

i. Exception: Where re-injected gas is stored in an underground reservoir capable of being defined w/ certainty and the integrity o

A well may produce so much per day/month

4. Limits on State’s conservation power

a. Fair Chance Rule: Must give each land owner a fair chance to recover oil under his land

5. Pre-1919

a. Rule: One Well as a Matter of Right for small tracts in separate ownership b/f 1919

i. If one piece of a 40 acre tract is carved out before 1919 (when TX passed conservation act) then the owner of that one piece of land has a right to one well

ii. B/f 1919, if a 1 acre was severed from a 40 acre tract, that 1 acre has a right to the well and the other 39 acres has a right to the well (can drain other 39 acres)

iii. If that tract of land was subdivided after 1919, the subdivided tracts are not entitled to “one well as a matter of right.”

6. TEXAS Conservation (Conservation act passed in 1919)

a. R.R. Commission regulates O&G industry in TX

i. Parties may get a hearing with a committee w/in the commission which then makes a recommendation to the commission. Then the commission may hold its own hearing.

b. Administrative Bodies

i. Rule: Whether an administrative body is legislating or adjudicating notice, hearing and opportunity to be heard is required

ii. Legislation v. Adjudication

a. Legislation – Acts in the future tense (statute comes into effect later in time)

i. The more people a rule affects – the more legislative it is

ii. No notice or hearing is generally required b/f pass a law

iii. No time period for challenge

b. Adjudication (judicial power) – make rules today which effect past conduct

i. The more specific a rule is, the more likely it is to be adjudicative

ii. If deciding who gets a permit between two people, they are adjudicating

iii. Making field rules applies to just a few people

1. Need notice

2. Discrete short time to appeal (30 days)

3. Must appear and participate or waive rights to challenge

iv. Policy: Need for finality where everybody knows after a certain point the issue is settled one way or another.

c. Field Rules: Rules applicable to a specific field

i. Field Rules supersede State rules when the two conflict.

ii. To get a field rule (from the lessee’s pt of view)

a. File application w/ RR commission to set allowables and density rules for that field

b. Hearing (public notice) and recommendations are made to the RR commission.

c. Commission acts on recommendation (may adopt or make changes), enters order.

iii. To properly take into consideration the correlative rights of all concerned parties, field-wide spacing rules must be based on the following findings:

a. Amount of recoverable oil in pool

b. Amount of recoverable oil under tracts

c. Proportionality between tracts

d. Amount that can be recovered without waste

iv. If a landowner appeals a Field Rule, the Agency must prove that there was substantial evidence to support the Field Rule’s enactment

a. There must be more than a scintilla of E

b. Don’t have to show a preponderance of the E