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Oil and Gas
South Texas College of Law Houston
Kulander, Christopher S.

O&G Primer Outline Professor Kulander Fall 2014

Rule of capture

-Correlative rights which basically states than an owner of oil and gas has the right to a fair opportunity to produce their fair share of the oil and gas in a common reservoir, which underlies his and his neighbor’s property.

CL limitations to the rule of capture:

1. trespass

2. negligence

3. nuisance

4. waste

5. violating rules of a conservation agency

6. interfering w/ a neighbor’s correlative rights

i.e. the rule of capture does not protect anyone who does one of the former acts.

Rule: One who drains his neighbor’s land in violation of a valid order of a conservation agency is not shielded from liability by the rule of capture.

Rule: Elliff – Held that P was entitled to dmgs for the value of the oil and gas which was drained from beneath P’s land by the blow out on D’s adjacent tract, b/c of D’s negligence.

Rule of capture can really be understood today as a rule of non-liability.

Rule: The main point is that produced oil and gas is not subject to the Rule of Capture unless it is intentionally abandoned or handled so recklessly that a court might infer an intent to abandon. This is an application of a basic property concept. The treatment of stored, spilled and abandoned oil and gas is analogous to the rules governing finders of personal property.

Theories of Ownership:

1. ownership in place theory:

a. landowner owns all substances, including oil and gas, which underlie the land.

b. If oil is drained from beneath the land, ownership is lost.

2. Non ownership theory

a. Minority – landowner doesn’t own the oil and gas which underlies his land. He merely has the exclusive right to capture such substances by operations on his land-like a hunting license.

Mineral Estate- Incidents of Mineral Ownership

· What are the incidents of mineral ownership

· A person who owns the entire mineral estate, often called the mineral fee, owns the following:

o 1. The development right – the right to develop the minerals, which carries with it the obligation to pay the costs of development

o 2. The right of ingress and egress – the right to enter upon the surface estate and use as much of the surface as is reasonably necessary to develop the underlying minerals. This is the context in which you frequently see the mineral estate referred to as the dominant estate.

o The right to lease – called the EXECUTIVE RIGHT

o The right to receive economic benefits under the o&g lease:

§ Bonus: compensation for granting an oil and gas lease

§ Delay rentals – compensation for deferring drilling during the primary term

§ Royalty – a share of production, free of production costs

Working interest (lessee’s interest) – carries the exclusive right to explore, develop, and produce from the property, as well as the obligation to pay 100% of the costs of exploration, development, and production. Lasts as long as the lease lasts.

Royalty Interest – a share of production which is free of the cost of production.

· 1. Lease royalty interest – lessor’s interest in production under the oil and gas lease.

· 2. Overriding Royalty Interest –

· 3. Nonparticipating royalty interest – royalty conveyed or reserved by a present or former mineral or royalty owner.

o Generally tied to the land. Can be perpetual or limited in time. The NPRI is carved out of the LRI.

Similarities:

1. all royalty interests are forms of compensation that hedge against uncertainty

2. all royalty interest are non-cost bearing interest. Royalty owners are not required to pay any part of cost of exploration or production

3. All royalty interests are non-possessory, thus royalty owners do not have the right to develop or lease land.

Purpose of the Conservation Laws:

1. Prevent Waste, and/or

2. Protect correlative rights

THE OIL AND GAS LEASE

· Governs the relationship b/w Lessors and Lessees in the exploration for and production of oil and gas.

· It’s a conveyance of a determinable fee which conveys the right to explore for and produce oil and gas under the mineral owner’s property

1. Was the lease held by proper payment of delay rentals?

§ Lessee has no obligation to drill so long as he pays the delay rental prior to the anniversary date of the lease.

§ Rule: If Lessee is a day late or a dollar short in making delay rental payments, the lease terminates.

o 2. Commencement of operations for Drilling

§ Lessee does not have to pay delay rentals if he has “commenced operations for drilling” prior to the anniversary date. Commencement of operations for drilling prior to the end of the primary term extends the lease into the secondary term.

§ What constitutes “commencement of operations for drilling”

· Commencement of operations for drilling is considered to be some activity on the land that is related to or preparatory to drilling if it is conducted in good faith and diligently pursued until the well is completed

o Ex: courts have held that even putting in a road or constructing a pad for drilling rig is sufficient.

SECONDARY TERM:

· Habendum Clause – “as long thereafter as oil, gas or other minerals are being produced”; aka the thereafter clause

o Issues:

§ Is there production and what does production mean?

· In Texas, production means “PRODUCED AND MARKETED.”

· The mere discovery is not sufficient.

· Lessee has to actually extract oil and/or gas from the ground and sell it for there to be considered production.

§ What are ‘savings clauses’ and has one or more of them been satisfied?

· “savings clause” (shut-in royalty clause): this will save the lease despite there being no production during the secondary term, but the Lessee has a duty to diligently find a market and have a reasonable probability of doing so in order to hold the lease.