OIL AND GAS OUTLINE – PROFESSOR REED
A. Horton’s Rule:
1. In Oil and Gas law courts are extremely reluctant to parole evidence into an oil and gas instrument. “I said what I meant and I meant what I said.”
1. Col. Drake hit first oil well in 1859 at 69 feet.
C. Oil Formation and extraction:
1. Where oil is found: Oil is rarely found in open containers underground. It is found in sedimentary rock.
2. How oil is formed: Exoskeletons of micro organisms settle and guts decay. Pressure combined with temperature converting the guts into oil. Skeleton (bone) turns to rock.
3. Recovery methods:
a. Primary recovery: just pump oil out. Get 25% of oil in field.
b. Secondary Recovery: pump salt water in to push oil out. Get 50% of the oil in the field.
c. Tertiary: pump in detergents to push oil out and wash formation out. Get 75% of the oil. No other used because costs more to get than can sell the oil for. Examples: pump in steam to make oil thinner, set reservoir on fire with injection wells to inject oxygen and fire heats oil, making it thinner, inject carbon dioxide which expands and pushes oil out.
D. Oil and Gas ownership:
1. Crown Rule – minerals belonged to the Crown.
a. Texas was originally a crown state, but adopted three exceptions to the Crown Rule:
ii. marital property
iii. common law procedure
2. Common law – no one owns wild animals.
3. Donkey Rule: get to determine who uses property. Can’t do whatever you want with it.
II. RULE OF CAPTURE:
A. In the beginning of oil and gas law, you had the standard heaven to hell rule that you own everything from the center of the earth to the heavens. This was not an effective rule for the oil and gas industry, so the rule of capture was developed – at the time, it was believed that oil and gas migrated.
B. Rule of Capture (only applies underground):
1. Del Monte Mining v. Last Chance Mining: The owner of a tract of land overlying an oil and gas reservoir has the right to capture all the oil and gas he brings to the surface through wells located on his own property, even though the oil may be drained from his neighbors tract.
a. The only remedy at common law for an adjacent landowner to protect their land from drainage was to drill their own well (rule of convenience).
b. Kelly v. Ohio Oil: If it migrates across a property line, you lose title. Drilling on own property, but deliberately drilling angularly to tap another’s pool is clear trespass. An unintentional slant is OK.
C. Consequences of the rule:
1. Encourages prolific drilling and rapid production (operating wide open).
2. physical and economic waste such as overdrilling and over-production.
D. Reinjected hydrocarbons:
1. Champlin Exploration v. Western Bridge: hydrocarbons which have been severed from the ground and are reinjected are not subject the rule of capture. Severed hydrocarbons are personal property and not real property – like they were prior to extraction- and are subject to the law of abandonment.
a. To abandon, must:
i. intend to abandon
ii. and intent corroborated by some kid of physical act (Ex.: toss it out). Absence of owner taking steps to recover it does not indicate abandoned.
b. Must show damage to your real estate to get trespassory damages for reinjected minerals that escape onto your land. Get nominal damages unless you can show actual damage to your land.
2. Texas American Energy v. Citizen Fidelity Bank & Trust: Gas extracted and piped from Texas and Louisiana to Kentucky. Gas maintained in a reservoir. Financing statement giving interest in reserved oil to defendant for a loan. When previously extracted oil and gas is stored underground, title to it is personal and does not become real estate.
a. Hammonds: Oil company injects into a reservoir under their property. Oil migrates across property line and Hammonds seeks damages for trespass. Court says no action for trespass because once crosses line, Hammond owns it. (KENTUCKY RULE)
b. MAJORITY RULE: reinjected gas does not become subject to the rule of capture.
E. RULE OF CAPTURE AND TRESPASS:
1. Geo Viking v. Tex-Lee Operating Co.: Can’t get damages for loss of oil that would have been trespass had you actually removed it. Fracturing across property lines is a surface trespass and you can’t get damages for oil not retrieved due to failure of the fracturing process. Trespasser can’t claim under the rule of capture.
F. LIMITATIONS ON THE RULE OF CAPTURE:
1. Conservation Statutes: to prevent physical and economic waste and protect correlative rights.
a. What conservation statutes do:
i. Well Spacing Rules: prevent overdriling by limiting the number of well that can be drilled in a given area (based on acreage). Exceptions to the well spacing are often necessary. Texas Statewide spacing rule is 40 acres (Rule 37), but field rules can differ.
ii. Production limitations (prorating): limits the amount of oil and gas a well can produce.
iii. Compulsory Pooling: allows a drained landowner to force neighbors to share their well’s production.
iv. Density controls: how may acres to support one well.
2. Correlative Rights:
a. Waste or wasteful production techniques will bring liability, as will negligent damage to the ability of the producing formation to produce for others.
b. Provides that each owner of a minerals in common source of supply has the right to a fair chance to produce oil and gas from the reservoir. Even if statute does not mention correlative rights and waste, they must be implied.
i. Texas courts are not sure what the result would be if conservation statutes directly negated correlative rights, but other states suggest that conservation should win.
c. Denver Producing & Refining Co. V. State: Allowed gas-oil ratio of 2000 cubic feet per barrel of oil. Plaintiff seeks an increase in the ration to 5000. Average for the field is 1895. As oil moves out of the ground, gas bubbles out of ground too. Prior to the 1950’s technology not competent to recover and pipe natural gas.
i. preventing waste is more important than correlative rights if have to choose.
d. Examples of Correlative rights:
i. Right to be protected from negligent operation: Eliff: wells blew out, cratered, and ignited. This was considered waste. Party injuring reservoir can not claim benefit of the rule of capture.
ii. Exxon v. Railroad Commission: BTA drilled to Ellenberger formation, but found nothing. They plugged back to the Montoya, but it was near depletion. They want to plug back to the Devonian formation. If they had originally drilled with the intent of tapping the Devonian formation, spacing requirements would not allow it. Exxon had a well pulling from the Devonian formation, but it was not capable of extracting all of the oil.
a. Test: whether the existing well was drilled and completed in original formation legitimately and in good faith, not as a subterfuge to bolster a later Rule 37 exception. Exception granted to prevent waste.
b. MER – Maximum Efficient Rate at which a well can produce without impairing efficiency of the reservoir. Maintain reservoir pressure as long as possible. Start here to prevent tarring out effects.
3. Fair Share Rule:
a. Wrongski v. Sun Oil Co.: Sun Oil drilled several wells on nearby property within the field. Oil and gas conservation statute said one well per 200 acres and limited production to 75 barrels of oil per day.
i. Fair share – each owner entitled to his equitable and ratable share of recoverable oil and gas in a common pool in proration of recoverable reserves underlying his and bears to recoverable reserves in the entire pool. Also known as correlative rights.
a. State in exercising its conservation power may not do so in a way denying property owner a fair chance to produce his just and equitable share of the oil and gas under his land. Limits conservation power.
b. Pickens v. Railroad Commission: owners of wells with thicker acreage (must drive further down to get to oil) wanted production apportioned on acres/ feet because could get more credit. Thin owners (because oil pushing toward
eof. It is a real property interest in Texas.
b. Royalty does not have the right of surface use, the right to lease, and does not share in the benefits of the lease – bonus, delay rental, or royalties – unless have a leasehold royalty.
i. Landowners Royalty: the fractional share of production payable to the lessor in the royalty clause in the lease. Usually 1/8, but can be higher. Also called a leasehold royalty.
ii. Overriding Royalty: carved out of the lessee’s interest. Where a lease is assigned and an overriding royalty is reserved. Ends when lease terminates.
iii. Nonparticipating Royalty: carved out of the mineral interest that entitles its holder to a stated share of production without regard to the terms of any lease, though it is frequently measured by a leasehold royalty. Granted by the lessor. All you own is a royalty interest.
iv. Term Royalty: royalty interest carved out of the mineral interest for a specific term, which may be fixed for X # of years) or defeasible (for X # of years and so long thereafter as there is production for the premises).
v. Perpetual Royalty: a royalty that may be extended forever; it is not limited in time.
vi. Mineral Royalty: similar to a defeasible term royalty in a common law state; it is subject to prescription for nonuse and will terminate in 10 years if production does not occur.
d. A lease royalty is created by the lease clause and expires with the lease. The landowner gets the royalty stick back when the lease expires.
e. A conveyance of 1/2 of the royalty in and under this land = 1/16 of gross production. The entire royalty is 8/8, so 1/2 = 1/16. This royalty will fluctuate depending on the marked, but never lower than 1/16.
f. A conveyance of 1/16 royalty is now accepted as meaning 1/16 of the 8/8 royalty or 1/2 of it. This locks then in to 1/16 and it does not fluctuate.
g. A conveyance of “1/160th part of all oil, gas, petroleum, sulfur, and all other minerals that are produced and saved from the following lands” = a conveyance of a royalty interest – Barker v. Levy. You only have the right to go in and get it.
6. Requirements of a Conveyance:
a. name of grantor
b. words of grant – hereby grant, sell and convey are magic words
c. name of grantee
d. description of the land
e. signature of the grantor
f. acknowledgment – if eligible to be recorded, it must contain this – verification that this is a true conveyance to provide notice to subsequent purchasers
g. delivery – to party or their agent.
7. You can’t convey what you don’t have. Even if you execute a deed, it is void. An attempt by grantor to convey more than he has passes only what the grantor has.
IV. THE OIL & GAS LEASE
1. Lessee seeks the right to develop the leased land for an agreed term without any obligation to drill. If production is obtained, the lessee wants the right to maintain the lease for as long as is profitable.
2. Lessor wants the lessee to find and produce oil because will allow him to collect his royalty.
B. The basic clauses:
1. The Granting Clause:
a. defines what right are give by the lessor, describes the property, sometimes covers specific substances, often contains a “mother hubbard clause” which provides that the grant will