Act 312: Federal Court Holds That Plaintiff Cannot Pocket “Additional Remediation Damages” Without Express Contractual Provision

On February 1, 2016, a federal district court issued a ruling in Moore v. Denbury, — F.3d — (W.D. La. 2016), with important implications for “legacy” lawsuits in Louisiana.  The court interpreted the 2014 amendments to Act 312 (La. R.S. § 30:29) to hold that “a plaintiff cannot directly recover additional remediation damages in the absence of an express contractual provision.”  Instead, these additional remediation costs in excess of the amount needed to remediate the property to the requisite state standards must be paid into the registry of the court and used for remediation.

Following the enactment of Act 312, legacy plaintiffs profited from the “delta” between the amount necessary to remediate contaminated property to regulatory standards—which must be paid into the registry of the court, and damages for “additional remediation” above regulatory standards (most frequently to “original condition”)—which were paid to plaintiffs.  In interpreting a prior version of Act 312, the Louisiana Supreme Court explained in State v. La. Land and Exploration Co., 110 So. 3d 1038 (La. 1/30/13) (“LL&E”), that legacy plaintiffs are entitled to additional remediation damages in two circumstances: (1) if required by an express contractual provision, or (2) if the mineral lessee has acted unreasonably or excessively under the lease.

The Moore plaintiffs sought original condition restoration under the second category, alleging that Denbury had operated unreasonably and excessively.  In response to a motion for summary judgment filed by Denbury on its obligations, the court made an Erie determination as to the effects of post-LL&E amendments to Act 312.

The court methodically walked through the current version of Act 312 noting that: (i) under Subsection (D), all damages awarded for the evaluation or remediation of environmental damages shall be paid exclusively into the court registry except as provided in Subsection (H); (ii) Subsection (H) provides that any award for “additional remediation” in excess of the cost of the feasible plan is not required to be paid into the court registry, and (iii) Subsection (M)(b) further provides that damages for “additional remediation” are allowed only if an express contractual provision provides for them.

Specifically, Subsection (M), enacted in 2014, allows damages awards only for

(a) The cost of funding the feasible plan adopted by the court.

(b) The cost of additional remediation only if required by an express contractual provision providing for remediation to original condition or to some other specific remediation standard.

(c) The cost of evaluating, correcting or repairing environmental damage upon a showing that such damage was caused by unreasonable or excessive operations…

(d) The cost of nonremediation damages.

Id. at § M(1) (emphasis added).

The court concluded that because Subsection M uses the term “additional remediation”—but only in M(b)—only damages for “additional remediation” pursuant to an express contractual provision are exempt from deposit into the court’s registry.  The court observed that “the Legislature could have easily placed ‘additional remediation’ in Subsection M(c) in connection with unreasonable or excessive operations.  It did not.”  Moore, p. 12-13.  The court also found the timing of the amendments “immediately after the Supreme Court’s decision in LL&E” to be meaningful: “Had the Legislature desired the status quo, it would not have needed to alter the legislation.”  Id. at p. 14.

Denbury’s motion for summary judgment was denied to the extent it urged that additional remediation damages based on excessive operations were not available at all, since “depending on the facts uncovered at trial, it may have a duty to repair damage caused as a result of its alleged unreasonableness or excessiveness.  However, these damages would not go to the Moores directly; rather, Denbury would deposit them into the Court’s registry.”  Id. at p. 16.

If the rationale of Moore is adopted by Louisiana courts, the “additional remediation damages–damages that plaintiffs can pocket” (Id. at p. 3) should be limited to those cases in which a landowner has an express contract-based claim for additional remediation.  Although defendants who have operated “unreasonably or excessively” may still be compelled to pay such damages, plaintiffs cannot access them.

Production in Paying Quantities: Maintaining Mineral Leases Beyond Their Primary Terms with Production of Oil or Gas

The sharp decline in oil prices over the past year and a half has had a significant impact on operators and mineral lessees in Louisiana and in other oil-producing states.  Mineral lessees may be particularly concerned with whether recent production levels have maintained their leases beyond their primary terms.

In Louisiana, as in most jurisdictions, production of oil or gas must be in “paying quantities” to maintain a mineral lease beyond its primary term.[1]  Production is in paying quantities when, under all relevant circumstances, production allocable to the lessee’s total original right under the lease is sufficient to induce a reasonably prudent operator to continue production to secure a return on investment or to minimize any loss.[2]  Implicit in the term “paying quantities” is the requirement that the lessee show a profit, meaning production revenues must exceed “operating expenses.”[3]  In other words, the lessee must continue production for the purpose of making a profit and not merely for speculation.[4]

Paying quantities cases usually focus on what expenses constitute “operating expenses.”  “Operating expenses”—or “lifting expenses” as they are sometimes referred—are “ordinary, recurring expenses” that are attributable to the expense of production, after the well is drilled and completed.[5]  They include fixed or periodic cash expenditures incurred in the daily operation of a well.[6]  In contrast, capital expenditures and expenses that are “extraordinary and largely nonrecurring in nature,” such as drilling and completion costs, are not considered.[7]  Other examples of capital expenditures may include equipment costs, overhead, depreciation of original equipment, and workover expenses.[8]  The determination of whether or not an expense is an “operating expense” is often a fact-intensive inquiry.[9]  Courts generally use an eight to eighteen month lookback period in analyzing whether production has been in paying quantities,[10] but longer periods may be considered reasonable if warranted by the circumstances of the case.[11]

In the current economic climate, slim margins can raise lease maintenance questions concerning production in paying quantities.  If a lessee can show a profit sufficient to induce a reasonably prudent operator to continue production to secure a return on its investment or minimize losses–and not merely for speculation–within any eight to eighteen month period, that lessee should feel relatively confident about defeating any such challenges.  If you have any concerns in this respect, or if you want any additional information about production in paying quantities, please contact the author at (337) 232-7424.

[1]              Louisiana Mineral Code article 124; Menoah Petroleum, Inc. v. McKinney, 545 So. 2d 1216, 1220 (La. App. 2d Cir. 1989).

[2]              O’Neal v. JLH Enters., 862 So. 2d 1021, 1027 (La. App. 2d Cir. 2003) (citing Louisiana Mineral Code article 124).

[3]              Menoah, 545 So. 2d at 1220.

[4]              Lege v. Lea Exploration Co., 631 So. 2d 716, 717 (La. App. 3d Cir. 1994).

[5]              See id. at 718-19; see also Dore Energy Corp. v. Prospective Inv. & Trading Co., Ltd., 2010 U.S. Dist. LEXIS 109618, *19-20 (W.D. La. 2010).

[6]              Lege, 631 So. 2d at 719.

[7]              Id.; Dore, 2010 U.S. Dist. LEXIS 109618 at *19-20.

[8]              O’Neal, 862 So. 2d  at 1027; Dore, 2010 U.S. Dist. LEXIS 109618 at *19-20.

[9]              Id. at *20.

[10]             Edmundson Bros. P’ship v. Montex Drilling Co., 672 So. 2d 1061, 1064 (La. App. 3d Cir. 1996) (citing Brown v. Sugar Creek Syndicate, 197 So. 583 (La. 1940); Smith v. Sun Oil Co., 116 So. 379 (La. 1928); Caldwell v. Alton Oil Co., 108 So. 314 (La. 1926); Menoah, 545 So. 2d 1216; Smith v. West Virginia Oil & Gas Co., 365 So. 2d 269 (La. App. 2d Cir. 1978); Noel v. Amoco Prod. Company, 826 F. Supp 1000 (W.D. La. 1993)).

[11]             Edmundson Bros., 672 So. 2d at 1064 (citing Noel Estate, Inc. v. Murray, 65 So. 2d 886 (La. 1953); Vance v. Hurley, 41 So. 2d 724 (La. 1949); Stacy v. Midstates Oil Co., 36 So. 2d 714 (La. 1947); Coyle v. North American Oil Consortium, 9 So. 2d 473 (La. 1942); Lege, 631 So. 2d 716).

Appellate Review of Downhole Cases: The Supreme Court Repairs the Third Circuit’s Broken Manifest Error Standard in Hayes Fund for the First United Methodist Church of Welsh, LLC v. Kerr-McGee Rocky Mt., LLC, 149 So. 3d 280 (La. App. 3 Cir. 10/01/14)

The Louisiana Supreme Court recently issued a decision in a downhole damages case, reversing the Third Circuit’s misguided application of the manifest error standard of review. Hayes Fund for the First United Methodist Church of Welsh, LLC v. Kerr-McGee Rocky Mt., LLC, No. 2014-C-2592, 2015 La. LEXIS 2530 (La. 2015). The dispute arose out of the drilling and operation of two wells drilled in 1999. Hayes Fund for the First United Methodist Church of Welsh, LLC v. Kerr-McGee Rocky Mt., LLC, 149 So. 3d 280, 283 (La. App. 3 Cir. 10/01/14). The first, the “Rice Acres well”, produced until 2004 when production ceased due allegedly to water migration into the production zones. Id. The second, the “Hayes Lumber well”, produced the lower zone in the Nodosaria formation until 2007 when the operators ran into sanding problems. Id. The well was recompleted in the upper zone of the Nodosaria formation and produced until 2008 when the well allegedly experienced extraneous water migration, ceasing production. Id. Plaintiff brought suit against Kerr-McGee alleging that Kerr-McGee’s imprudent operations caused the two wells to prematurely stop producing leaving valuable minerals in the ground.

As the Supreme Court summarized, this case can be boiled down to the following question: was the water found in the formations extraneous or was the water from the formations? The trial was conducted over a ten month period with twenty-five days of testimony by numerous experts. Id. The case itself necessitated extremely nuanced and technical testimony regarding the geology and geophysics of the formations. The defendant called four lay witnesses and five expert witnesses in trying to refute the plaintiff’s claim that Kerr-McGee imprudently operated the two wells. The plaintiff relied on a single expert witness in an attempt to show that the water produced from the two wells was extraneous water caused by the imprudent operations of Kerr-McGee. The district court, after tediously listening to and considering all of the expert testimony, found the defendant’s experts to be more credible and found that the plaintiff failed to meet its burden of proof. The plaintiff appealed, and the Third Circuit reversed the district court finding that the district court committed manifest error. The Louisiana Supreme Court reversed the Third Circuit and reinstated the district court ruling.

There are two particularly significant things to take away from the Supreme Court’s ruling. First, the Supreme Court, notably frustrated with the Third Circuit’s application of the manifest error standard of review, made clear that the district court should be given great deference in a case that hinges on the so-called battle of the experts. Hayes Fund, 2015 La. LEXIS 2530 at *107. Second, the Supreme Court held that its reversal of the Third Circuit effectively vacated the appellate court’s ruling on the collateral attack issue and the interpretation of the damages provision in the lease. Id. at fn. 1. Although the Court abstained from discussing these issues, it made clear that the Third Circuit’s analysis and ruling on these issues were effectively vacated.

I. Tortured Treatment of the Manifest Error Standard of Review

Third Circuit correctly explained that the district court’s judgment could only be overturned if the district court committed manifest error. That is, to reverse the district court, the court of appeal had to “(1) find that a reasonable factual basis does not exist for the finding, and (2) further determine that the record establishes that the fact finder is clearly wrong or manifestly erroneous.” Hayes Fund, 149 So. 3d at 284 (quoting Detraz v. Lee, 950 So. 2d 557 (La. 2007)). However, instead of reviewing the record to determine if the district court was reasonable in its findings, the Third Circuit pointed to expert testimony from the record that contradicted the district court’s findings and cited to this testimony as evidence of manifest error. In an effort to demonstrate the correct application of the manifest error standard, the Supreme Court cautioned that “the appellate court does not function as a choice-making court.” Hayes Fund, 2015 La. LEXIS 2530 at *2. The Court went on to emphasize that “[r]arely should a District Court’s choice of expert(s) be found clearly wrong because it is so difficult to find a reasonable basis does not exist for the expert’s opinion relied upon by the District Court.” Hayes Fund, 2015 La. LEXIS 2530 at *107. The Court drove the point home, quoting a previous Supreme Court opinion:

A reviewing court only has the “cold” record for its consideration while the trier of fact has the “warm blood” of all the litigants before it. This is why the trier of fact’s findings are accorded the great deference inherently embodied in the manifest error doctrine. So once again, we say it should be a rare day finding a manifest error breach when two opposing views are presented to the trier of fact. Id. at 16 (quoting Menard v. Laffayette Ins. Co., 31 So. 3d 996 (La. 2010)).

After examining the Third Circuit’s reasoning, the Supreme Court found that the Third Circuit improperly applied the manifest error standard. Rather than reviewing the district court’s judgment to determine if there was a reasonable basis for the judgment, the Third Circuit focused on the evidence presented by plaintiff’s expert that conflicted with the findings of the district court. As the Supreme Court noted, this is not the correct application of the manifest error standard. Id. at *106. In cases that hinge on a battle of the experts there is going to inherently be testimony that conflicts with the court’s ruling. The appellate court, as the Supreme Court explained, is not tasked with finding the conflicting testimony and deciding for itself which testimony and evidence is most credible. Instead, the appellate court is to review the testimony and determine if the district court was reasonable in reaching its judgment in light of the testimony presented.

After finding that the Third Circuit incorrectly applied the manifest error standard, the Court conducted a full manifest error review as a guideline for the Third Circuit going forward and painstakingly discussed the testimony given at trial and noted the conflicting expert testimony. After reviewing the testimony, the Court correctly found that the district court was entirely reasonable in crediting the defendant’s experts over the plaintiff’s experts, and in light of such reasonableness, the district court’s judgment should not be disturbed.

Going forward, the Court’s analysis of the expert testimony itself is not all that useful. Downhole cases are inherently fact specific and no two cases will be the same. However, the Court’s application of the manifest error standard and the deference given to the district court’s fact finding suggests that absent unusual circumstances, the district court’s factual findings in these battle of experts will not be disrupted on appeal.

II. Collateral Attack Doctrine and Interpretation of Damage Provision in Lease

Aside from the finding that the district court committed manifest error with regard to its factual findings, the Third Circuit also reversed the district court on questions of law, namely whether the collateral attack doctrine applies and whether the damage provision in the lease creates strict liability.

The collateral attack doctrine is codified in Louisiana Revised Statutes § 30:12. The collateral attack doctrine prevents a party from attacking an order from the Commissioner of Conservation other than by the means prescribed in § 30:12. One of the elements a plaintiff must prove in a downhole case is damages. When trying to establish damages, the size of the reservoir becomes relevant because it will help the plaintiff establish how much oil and gas are now unrecoverable due to the defendant’s imprudent operations.

Here, the plaintiff creatively argued that the unit order established the reservoir boundaries. Further, the plaintiff contended that the defendant, by arguing that the unit order did not accurately reflect the geological boundaries of the reservoir, was collaterally attacking the unit order issued by the Commissioner of Conservation. Hayes Fund, 149 So. 3d at 293. Thus, the plaintiff argued that the unit order depicting rectangle units established the boundaries of the reservoir, and any attempt to refute those boundaries should be impermissible as a collateral attack on a Commissioner’s order. The Third Circuit agreed with the plaintiff and held that defendant’s argument that the reservoir was smaller than the unit plat depicted was a collateral attack on the unit order. Id. at 294. Thus, the Third Circuit allowed the plaintiff to establish the reservoir boundaries by reference to the unit order in proving damages.

Unfortunately, on appeal the Supreme Court did not discuss the applicability of the collateral attack doctrine. The Supreme Court made clear that its ruling “effectively vacates” the Third Circuit’s ruling on the collateral attack doctrine, but the Court declined to discuss the issue further. Hayes Fund, 2015 La. LEXIS 2530 at fn. 1. This provides very little insight as to how the Supreme Court would rule on the issue, and at least for now the issue is still unresolved.

The plaintiff also argued that the lease only required the plaintiff to prove causation and damages to recover. The plaintiff reasoned that the damage provision in the lease made the operator strictly liable for any and all damage to the property without having to prove that the operator acted imprudently. The damage provision in the lease read, “[t]he Lessee shall be responsible for all damages to timber and growing crops of Lessor caused by Lessee’s operations.” The plaintiff contends that the stricken through text means that the Lessee is responsible for all damages to the Lessor’s property, regardless of imprudence. In other words, as long as the plaintiff can show that the defendant caused damages to the plaintiff, then the plaintiff will have a cognizable claim. The Third Circuit agreed, stating that defendant “was absolutely liable when it knowingly agreed that ‘Lessee shall be responsible for all damages caused by Lessee’s operations’” and that “[t]his absolute liability was initially limited to damages to [plaintiff’s] timber and growing crops. Those limitations, however, were struck from the lease.” Hayes Fund, 149 So. 3d at 300.

Again, without discussing the issue, the Supreme Court only made clear that its ruling effectively vacated the Third Circuit’s ruling on the damages provision, but the Court’s ruling provides little insight into how the Court may come down on the issue in the future. Hayes Fund, 2015 La. LEXIS 2530 at fn. 1. What we do know is that the Third Circuit’s analysis will not be binding on future cases. Thus, the effect of such provisions in future cases is unresolved.

Note: A team of Liskow & Lewis attorneys prepared an amicus brief in this case. If there are any questions or concerns regarding this case, please contact Kelly Becker at kbbecker@liskow.com.

Legal Update: U.S. Department of Justice Gets MARPOL Conviction

Last week, a federal jury in Mobile, Alabama, convicted a Norwegian-based shipping company of one count of conspiracy, three counts of violating the Act to Prevent Pollution from Ships (“APPS”), three counts of obstruction of justice and one count of witness tampering.  Three vessel crewmembers were convicted for obstructing justice, violating APPS, witness tampering and conspiracy.  Notably, a fourth crewmember pleaded guilty in October.

According to the Department of Justice, the evidence presented during the two-week trial demonstrated that in January 2010, the shipping company knew that the oily-water separator aboard its vessel was inoperable.  That argument was based in part on an internal corporate memorandum noting that the device could not properly filter oil-contaminated waste water and stating that individuals “could get caught for polluting” if the problem was not addressed.  The government thus argued to the jury that, rather than repair or replace the oily-water separator, the shipping company and crew bypassed the device and discharged 20,000 gallons of oil-contaminated waste water to the sea prior to the vessel’s arrival in the Port of Mobile.

The obstruction of justice convictions were based on the government’s accusation the shipping company and its crew attempted to hide these discharges from the U.S. Coast Guard by making false and fictitious entries in the vessel’s oil record book and garbage record book.  The government also claimed two crewmembers lied to the U.S. Coast Guard about the discharge of sludge and ordered lower ranking crewmembers to do the same.

Based on these convictions, the company could be fined up to $500,000 per count, in addition to other possible penalties.  The crewmembers face a maximum penalty of 20 years in prison for the obstruction of justice charges.  Sentencing is scheduled in Mobile, Alabama, for February 11, 2016. Click here for the Department of Justice press release.

One important take-away from this case is that the investigation, commitment of resources and prosecution of MARPOL criminal cases remains a high priority with the United States Coast Guard and the United States Department of Justice.  As a federal environmental crime prosecutor for twenty-one years in New Orleans, my docket was comprised of many such cases.  Now, in private practice with Liskow & Lewis, I see the trend continuing. If anything, regulations and enforcement actions are increasing. Take for instance, the recent addition of MARPOL Annex VI involving air emissions.

I have learned as a criminal defense attorney that ship owners and operators charged with MARPOL violations are not “bad corporate citizens.”  Indeed, it is clear from my industry talks and discussions with shipping professionals, that companies go to great effort and expense to train their personnel to comply with the regulations.  They do this because it is the right thing to do.  They also know that the cost of non-compliance is worse than any arguable benefit of by-passing the regulations. This is especially true for ship owners who are “vetted” by charterers and cargo interests and a criminal conviction could prohibit a ship owner from doing business with a vital trading partner.

Unfortunately, there is no easy answer for a company to avoid government enforcement actions, even when the company is practicing good corporate responsibility.  Therefore, companies need to prepare for government inspections and prosecutions as they would for a man overboard or any other marine casualty. While preparation alone cannot prevent a criminal prosecution, having a plan in place will help a company minimize its exposure, and the costs of responding to government scrutiny.

A Rose by Any Other Name: Texas Court of Appeals Says Nuisance “Symptoms of Discomfort” Require the Same Proof of Causation as “Disease”

In what may appropriately be called a “swing and a miss”, the Fourth Court of Appeals in San Antonio has rejected plaintiffs’ attempt to avoid the need for medical expert testimony in a toxic tort case by pleading damages for “symptoms of discomfort” instead of disease.  Cerny v. Marathon Oil Corp, et al., No. 04-14-00650-CV,  2015 Tex. App. LEXIS 10364 (Oct. 7, 2015).  The Fourth Court of Appeals confirmed that a strict causation standard applies to claims seeking relief for injuries of any nature allegedly caused by exposure to or migration of toxic substances from oil and gas operations.

Apparently trying to mimic the result in Parr v. Aruba Petroleum Inc., No. 11-01650 (County Ct. at Law No. 5, Dallas County, Tex.), where the jury awarded a nuisance verdict of $2.9 million to plaintiffs living in the vicinity of oil and gas operations, the plaintiffs in Cerny alleged “symptoms typical of discomfort rather than disease,” disclaiming that they were seeking recovery for “personal injury damages.”  The plaintiffs attempted to circumvent the causation requirements for toxic tort cases established in Merrell Dow Pharms. v. Havner, 953 S.W.2d 706 (Tex. 1997) and its progeny requiring plaintiffs to offer expert testimony showing (1) general causation through epidemiological studies, (2) specific causation, and (3) exclusion of other plausible causes with reasonable certainty when there is an absence of direct and scientifically reliable proof of actual causation.

In affirming a trial court’s dismissal of the nuisance and negligence action, the Fourth Court of Appeals concluded that the claim alleged a medical condition (whether it be described as discomfort or disease) caused by exposure to toxic substances and thus was in the nature of a toxic tort claim, thus requiring expert testimony as to causation.  Plaintiff offered only lay witness and non-medical expert testimony, which did not meet the Havner strict causation standard.

The Parr verdict was rendered a few months before the plaintiffs in Cerny amended their petition to include the same “symptoms” language used in Parr.  The Parr case is on appeal at the Fifth Court of Appeals, so it will be interesting to see if the panel follows the Cerny court’s lead and overturns the Parr judgment.  As it stands, the Cerny case will almost certainly have a chilling effect on plaintiffs’ attorneys looking to bring nuisance and negligence claims based on alleged exposure to emissions from nearby oil and gas operations without garnering the necessary expert testimony.

Texas Appeals Court Rules Assignee Retains All Acreage Covered by Assignment Under Retained-Acreage Clause

In yet another “retained-acreage” dispute, the Amarillo Court of Appeals recently ruled that an assignee was entitled to retain all acreage covered by the assignment of four leases, where the assignment’s retained-acreage clause invoked the maximum acreage prescribed by the applicable field rules governing proration units, and, in the absence of any such field rules, deemed proration units to be 320 acres.

In XOG Operating, LLC v. Chesapeake Exploration Limited Partnership, XOG sought an interpretation of the retained acreage clause contained in an assignment to Chesapeake of XOG’s lease interests in four oil and gas leases collectively covering 1,625 acres. The assignment provided that:

Upon expiration of the Primary Term of this Assignment . . . [s]aid lease shall revert to [XOG], save and except that portion of said lease included within the proration or pooled unit of each well drilled under this Assignment and producing or capable of producing oil and/or gas in paying quantities. The term “proration unit” as used herein, shall mean the area within the surface boundaries of the proration unit then established by field rules or special order of the appropriate regulatory authority for the reservoir in which each well is completed. In the absence of such field rules or special order, each proration unit shall be deemed to be 320 acres of land in the form of a square as near as practicable surroundings [sic] a well completed as a gas well producing or capable of production in paying quantities. . . .

During the primary term of the assignment, six wells were drilled—five in the Allison-Britt Field and one in the Stiles Ranch (Granite Wash) Field. Field Rule 2 for the Allison-Britt Field provided that, for purposes of a production allowable assignment, the maximum area of a “prescribed proration unit” was 320 acres, and that any unit containing less than 320 acres was, by definition, a “fractional proration unit.” There were no field rules or special orders applicable to the Stiles Ranch Field.

As no pools were formed, the issue regarding how much acreage Chesapeake was entitled to retain under the retained-acreage clause turned on how the parties intended to define a “proration unit” with respect to each well.

XOG argued that the retained-acreage clause was tied to the regulatory framework of the Texas Railroad Commission (“RRC”), this being the common practice in the oil and gas industry according to XOG. Specifically, XOG contended that the amount of acreage designated by Chesapeake in the Statement of Productivity of Acreage Assigned to Proration Units (“Form P-15”) filed with the RRC was controlling for purposes of the retained-acreage clause. In filing a Form P-15, which is used to obtain a production allowable for a given well, the operator must include a certified plat setting out the size and location of the acreage constituting a prescribed proration unit, or fractional proration unit, assigned to the well.

In this case, Chesapeake had chosen not to designate a full proration unit (i.e., 320 acres for the five wells in the Allison-Britt Field) but instead designated fractional proration units for each of the six wells. Because Chesapeake had designated a total of only 802 acres in its Form P-15 filings for the six wells, XOG urged the court to hold that Chesapeake was limited to retaining 802 acres under the retained-acreage clause.

In response, Chesapeake contended that the plain language of the retained-acreage clause showed the parties’ intent that Chesapeake retain the acreage prescribed by the applicable field rules or, in the absence of any field rules, 320 acres per well. Thus, Chesapeake argued it was entitled to retain the full 1,625 acres covered by the assignment because the field rules applicable to the five wells in the Allison-Britt Field established a proration unit of 320 acres per well, and the proration unit of the well in the Stiles Ranch Field, which had no field rules, was 320 acres by express agreement, resulting in Chesapeake being entitled to retain up to 1,920 acres (6 wells x 320 acres), more than that covered by the assignment.

The trial court granted Chesapeake’s motion for summary judgment, holding that Chesapeake was entitled to retain the full 1,625 acres covered by the assignment, and the court of appeals affirmed. Noting that the retained-acreage clause unambiguously defined a “proration unit” to be the area within the surface boundaries of a proration unit prescribed by the applicable field rules, the court of appeals declined to read into the clause an intent to retain only the acreage “designated in the Form P-15 filing as to each well.” Thus, the acreage designated by Chesapeake in its Form P-15 filings for purposes of obtaining a production allowable for a fractional proration unit was immaterial, and Chesapeake was entitled to retain the entire 1,625 acres based on the field rules for the Allison-Britt Field and the deemed proration unit size prescribed by the retained-acreage clause.

Fifth Circuit Rejects EPA’s Overreaching on CAA and MBTA

Background

The U.S. Fifth Circuit Court of Appeals recently issued an opinion regarding criminal liability under environmental statutes.  United States v. Citgo Petroleum Corp., et al., No. 14-40128, 2015 U.S. App. LEXIS 15865 (5th Cir. Sept. 4, 2015).  In what may be considered a warning shot to overzealous federal prosecutors looking to obtain criminal convictions under the Clean Air Act (“CAA”) or the Migratory Bird Treaty Act (“MBTA”), the Court of Appeals reversed criminal convictions against Citgo related to violations of both Acts at its Corpus Christi refinery.

Citgo’s Corpus Christi refinery operates a wastewater treatment system that sends all oily wastewater to several Corrugated Plate Interceptor (“CPI”) separators.  The water phase (with residual oil) is separated and sent to two equalization tanks, followed by flotation and biological treatment.  The CPI separators have roofs that prevent the release of air emissions, but the equalization tanks (as well as the other downstream equipment) do not.  Following a surprise inspection of its Corpus Christi refinery, Citgo was indicted for violations related to the two open-top equalization tanks.  The district court found Citgo guilty of two counts of knowingly operating two tanks as oil-water separators without CAA emission controls, and three counts of “taking” migratory birds in violation of the MBTA.  Citgo appealed the convictions.

Clean Air Act

The CAA gives the Environmental Protection Agency (“EPA”) authority to issue emission control standards for new sources of pollution that fall within certain source categories.  42 U.S.C. §7411.  EPA exercised this authority to issue regulations controlling volatile organic carbon (“VOC”) emissions from oil refinery wastewater treatment systems.  See Standards of Performance for VOC Emissions from Petroleum Refinery Wastewater Systems, 40 C.F.R. §§ 60.690 to 699 (“NSPS Subpart QQQ”).  Under NSPS Subpart QQQ, refinery operators are required to put roofs on “oil-water separators.”  The regulations define “oil-water separators” in part as wastewater treatment equipment “used to separate oil from water consisting of a separation tank, which also includes the forebay and other separator basins, skimmers, weirs, grit chambers, and sludge hoppers.”  40 C.F.R. §60.691.  The CPI separators used by Citgo contained all the ancillary equipment mentioned in the definition.  While the equalization tanks do have skimmers, they do not contain any of the other ancillary equipment, and oil could only be removed using vacuum trucks.

The Court of Appeals had to determine if the two equalization tanks were “oil-water separators” under Subpart QQQ, therefore requiring that a roof be placed on top to control emissions.  The government argued that any equipment used to separate oil should be considered an “oil-water separator” regardless of whether it contained all the ancillary equipment described in the definition.  However, the Court of Appeals read the phrase “which also includes the forebay and other separator basins” as only modifying the term “separation tank.”  Read that way, the definition requires an oil-water separator to have (1) one or more separation basins, (2) skimmers, (3) weirs, (4) grit chambers, and (5) sludge hoppers.  The Court of Appeals found further support for this reading in the promulgation history of Subpart QQQ, which exempted equipment that would now fall under Subpart QQQ under the government’s reasoning.  Finally, the Court of Appeals noted that the government’s interpretation would be in conflict with NSPS Subpart Kb, which already regulates storage vessels used in wastewater treatment systems.

The Court of Appeals concluded that the equalization tanks were not “oil-water separators” under Subpart QQQ.  Therefore, the Court of Appeals reversed Citgo’s CAA convictions.

Migratory Bird Treaty Act

The MBTA makes it a misdemeanor to unlawfully kill a federally protected, migratory bird.  16 U.S.C. § 703(a); 16 U.S.C. § 707(a).  A violation of the MBTA results in a fine up to $15,000 and six-months imprisonment.  The MBTA protects 1,026 species of birds.  78 Fed. Reg. 65844 (Nov. 1, 2013).

There is a circuit split on whether a person or entity is liable under the MBTA if the person or entity unintentionally, or even accidently, kills a migratory bird.  While the 2nd and 10th Circuits have held defendants liable based on unintentional killing,[1] the 8th and 9th Circuit have required the type of physical conduct typically engaged in by hunters and poachers that is actually directed against wild birds.[2]

In the Citgo case, the Fifth Circuit dove into these uncertain regulatory waters head on.  The district court had held the refinery owner criminally liable under the MBTA after it was discovered that several migratory birds died in the equalization tanks; the two open-top wastewater tanks containing a floating oil layer.  The district court had concluded that an illegal taking under the MBTA can occur even if there is no intentional act directed at migratory birds, and that strict liability only required the actor to have proximately caused the taking.

In reversing the district court, the Court of Appeals concluded that a “taking” under the MBTA is limited to deliberate acts done directly and intentionally to migratory birds.[3]  The government had argued that since the MBTA was a strict liability offense, it necessarily meant that “take” includes acts or omissions that indirectly or accidentally kill migratory birds.  While seemingly agreeing that it is a strict liability offense, the Court of Appeals differentiated between mens rea (the criminal intent) and actus reus (the physical act).  As a strict liability offense, the government does not need to prove that the defendant had a criminal intent.  However, the actus reus must still be proven; in other words, the defendant must still voluntarily commit the physical act of the crime in order to be liable.  According to the Court of Appeals, the criminal act here is to “take”, which based on its common law definition (i.e., “to reduce those animals, by killing or capturing, to human control”), requires an affirmative act directed at the migratory birds.

The Court of Appeals also found support in its analysis of similar wildlife statutes.  Specifically, the Court of Appeals concluded that the use of the words “harass” and “harm” in the Endangered Species Act and Marine Mammal Protection Act results in those statutes including negligent and unintentional acts within the definition of “take,” and found it persuasive that the MBTA does not include those words among the prohibited acts.

The Court of Appeals concluded that “the MBTA’s ban on “takings” only prohibits intentional acts (not omissions) that directly (not indirectly or accidentally) kill migratory birds.”  As a result, the 5th Circuit joins the 8th and 9th Circuit in effectively limiting MBTA takings to deliberate acts done directly and intentionally to migratory birds.

Conclusion

In the final analysis, it appears that the government simply overreached in its charging decisions on both the CAA and the MBTA counts.  On the CAA Subpart QQQ count, the Court of Appeals rejected the government’s “functional interpretation” in favor of a textual reading that was not in conflict with the regulatory history and other regulations.  The take-away there is that the government cannot parse the wording of a regulation to fit the facts of a case when the new interpretation is not supported by the regulatory language.  Regarding the MBTA, the Court in Citgo made clear that in the Fifth Circuit there must be more than simply a dead bird to convict under the MBTA.  The case serves as a warning for federal prosecutors to not rely on a sledgehammer approach when using the “strict liability” element/argument to convict under the MBTA.  Indeed, after Citgo, EPA may be forced to take a more reasoned approach in its enforcement efforts.

[1]           U.S. v. Apollo Energies, Inc., 611 F.3d 679, 686 (10th Cir. 2010); U. S. v. FMC Corp., 572 F.2d 902 (2d Cir. 1978).

[2]           Newton Cnty. Wildlife Ass’n v. U.S. Forest Serv., 113 F.3d 110 (8th Cir. 1997); Seattle Audubon Soc’y v. Evans, 952 F.2d 297, 302 (9th Cir. 1991).  See also U.S. v. Brigham Oil and Gas, L.P., 840 F. Supp. 2d 1202 (D.N.D. 2012).

[3]           The Court of Appeals noted in a footnote that it likely would reach the same conclusion if the indictment had been for “killing” migratory birds instead of “taking”, theorizing that under the MBTA the word “kill” had little to no independent meaning separate and apart from “take.”

U.S. Fifth Circuit Limits Vessels’ Obligations Under Louisiana One-Call Reporting

A panel of the United States Fifth Circuit consisting of Chief Judge Stewart and Judges Jolly and Graves recently issued a per curiam opinion regarding the effect of the Louisiana Underground Utilities and Facilities Protection Law (the “Louisiana One-Call Statute”). Plains Pipeline, L.P. et al. v. Great Lakes Dredge & Dock Co., et al., No. 14-31046, 2015 U.S. App. LEXIS 14337 (5th Cir. Aug. 12, 2015). The Louisiana One-Call Statute requires persons planning to “excavate” to give at least forty-eight hours’ notice, allowing operators of nearby underground facilities time to mark their assets. Noting that “[t]he Louisiana Supreme Court has never interpreted the One-Call Statute’s definition of ‘excavation’” and, the panel made what it termed an “Erie guess” holding that a vessel that anchors without first placing a One-Call does not violate the One-Call Statute. Id. at *4-5.

The case involved a Great Lakes vessel that anchored using both a cutter head (a dredging tool) and traditional anchors to stabilize the vessel. The cutter head, the court noted, penetrated deeper into the seabed than traditional anchors and was used to keep the vessel at a complete stop. The cutter head punctured a pipeline owned by Plains Pipeline that carried product for Phillips 66.

In litigation that followed, Plains and Phillips argued that Great Lakes’ anchoring activity constituted excavation, requiring that Great Lakes provide notice under the One-Call Statute. The district court (Judge Fallon) disagreed, and this appeal followed. The Fifth Circuit affirmed Judge Fallon’s decision, finding that excavation required an element of intent. According to the panel, Great Lakes’ purpose was to anchor, not “movement of the earth.” The panel explained:

The Plaintiffs may well be right that movement of earth is an inevitable result of anchoring, and thus that a person who engages in anchoring does so knowing that he will cause the movement of earth. But under the One-Call Statute, an activity constitutes “excavation” only if the “purpose” – the actual object – of engaging in it is the “movement . . . of earth.” And the object of “anchoring” is, unmistakably, the securing of a ship, not the movement of earth.

Id. at *8 (emphasis in original). The panel based this conclusion mainly on a noscitur a sociis argument. First, each of the examples listed in the One-Call Statute as an “excavation” activity “is an activity in which the movement of the earth is the object, not just a side effect.” Id. at *9 (emphasis in original). Second, “the word ‘excavation’ itself connotes an activity that not only incidentally results in the movement of earth, but is actually aimed at it: that is why no one would say, for instance, that raking leaves constitutes ‘excavation.’”  Id. at *10. Thus, an activity constitutes excavation “only if—unlike anchoring—its actual goal is the movement of earth.”  Id.  The panel also noted that the One-Call Statute is penal in nature. As a result, “Louisiana courts resolve ambiguities in ‘penal’ statutes (such as this one) in the defendant’s favor.”  Id.  Both rationales compelled a ruling in favor of the dredge.

The panel also addressed a subsidiary issue: whether Phillips’ costs it incurred in transporting its oil by alternative means following the allision were precluded by Robins Dry Dock. General maritime law, through Robins Dry Dock, precludes the recovery of economic damages unless the plaintiff can demonstrate sufficient interest in the damaged object. Here, Phillips had argued that it had the exclusive right to the entire capacity of the pipeline and that it was “almost totally responsible” for expenses associated with the pipeline. Id. at *13. The Fifth Circuit held that Phillips’ exclusive use alone did not grant Phillips a propriety interest in the pipeline within the meaning of Robins Id.  Further, Plains retained ownership of the line and was initially responsible for all maintenance and repair costs. Id. at *14. In short, Phillips argument was rightly dismissed under the longstanding rule of Robins.

The Plains Pipeline decision is a concerning one for companies that operate submerged or buried pipelines. In essence, the decision suggests that a person or entity not having an intent to excavate is not required to give notice under the One-Call Statute. This is especially troublesome to the oil and gas industry given that coastal erosion and other forces have reduced the amount of cover over numerous pipelines in South Louisiana. Vessels that now have increased access to non-traditional waterways will not, under the federal court interpretation of the statute, be subject to statutory violation and penalties if, in anchoring or navigating, they damage an underground Louisiana line. Plains and Phillips have petitioned the full Fifth Circuit for en banc review.

Texas Court of Appeals Rules on Permission Needed for Off-Lease Horizontal Drilling

The Fourth Court of Appeals recently held that surface owners control the matrix of the underlying earth; thus, a surface owner can give permission to drill through the subsurface to an adjacent lease. In Lightning Oil Co. v. Anadarko E&P Onshore, No. 04-14-00903-CV, 2014 Tex. App. Lexis 8673 (Aug. 19, 2015), Anadarko leased the mineral estate under the Chaparral Wildlife Management Area (CWMA), and entered into a Surface Use and Subsurface Easement Agreement (Agreement) with the adjacent surface estate owners. The Agreement allowed Anadarko to place a drilling rig on the surface and to drill through the earth to form wells that open and bottom in the CWMA. Lightning held a mineral lease on the adjacent estate, and upon learning of Anadarko’s plan, sought an injunction. Following discovery, both Anadarko and Lightning moved for summary judgment on the claims of trespass and tortious interference with a contract. The trial court granted Anadarko’s motion for summary judgment, denied Lightning’s motion for summary judgment, and severed the remaining issues. Lightning appealed to the Fourth Court of Appeals.

Lightning argued that the surface owner’s permission to drill was not enough and declared its right to exclude others from drilling as the leaseholder of the mineral estate. Lightning also emphasized that it should not have to trust Anadarko to refrain from performing seismic surveys as it drilled through the subterranean structures to reach the CWMA. Lightning asserted claims for trespass and tortious interference with a contract. Anadarko, in turned, argued that the surface owners controlled the subterranean structures; thus, their permission is all that is needed to drill through Lightning’s mineral estate and claims of trespass and tortious interference must fail as a matter of law.

The court agreed with Anadarko and found that there was no evidence of an essential element of trespass, the right to exclude others from the earth surrounding the oil and gas for which Lightning has an exclusive right to explore, develop, operate, produce, own, market, treat, and transport according to its mineral lease. A mineral “‘lessee’s interest is a separate, real interest, amount[ing] to a defeasible title in fee to the oil and gas in the ground.’” Yet, the court held that the mineral lessee does not own the earth in which the mineral estate is contained. “The surface estate owner controls the earth beneath the surface estate.” The mineral estate only includes the minerals and does not give the mineral owner ownership of the earth surrounding those substances. Additionally, a conveyance of the mineral rights does not convey the entirety of the subsurface. Consequently, the surface estate owner owns all non-mineral molecules of the land. Texas precedent established that the mineral interest owner may not exclude others from drilling through its estate.

According to the court of appeals’ decision, there was also no evidence that Anadarko would conduct a seismographic survey which could constitute a trespass under Texas law. Moreover, Lightning offered no evidence that Anadarko has bottomed or opened a well within Lightning’s lease. Absent proof of these actions and without the right to exclude Anadarko from drilling through Lightning’s mineral estate, Lightning’s claim of trespass failed.

Lightning’s claim of tortious interference with a contract similarly failed. Anadarko established an affirmative defense of justification. A defendant is justified in his actions when he (1) acts within his own legal rights or (2) has a good faith claim to a colorable legal right, even if the claim ultimately fails. Here, the court ruled that Anadarko was within its own legal right granted by the surface estate owners to drill through the earth within in the boundaries of Lightning’s mineral lease to its mineral estate on the CWMA.

This decision has a significant impact on the practice of horizontal well drilling. It is common for operators to drill multiple horizontal wells from one drill pad. Lightning Oil Co. establishes the permission needed to drill from off-lease well pads.

Texas Court Rules Lease’s Retained Acreage Clause Incorporates Drilling Unit Size of Statewide Density Rule 38, ConocoPhillips Must Release 15,351 Acres to Lessor

A Texas appeals court recently ruled in ConocoPhillips Company v. Vaquillas Unproven Minerals, Ltd. that a lease’s retained acreage clause invoked the Texas Railroad Commission’s field spacing rule as well as the statewide drilling unit rule, Rule 38, which operated to reduce the acreage the lessee was permitted to retain under the lease from 640 acres per well to 40 acres per well. The effect of the ruling was that ConocoPhillips was ordered to release an additional 15,351 acres to the lessor.

In this case, ConocoPhillips was the lessee under two oil and gas leases, one covering 26,622.79 acres and the other covering 6,740 acres. Both of the leases contained a retained acreage clause which set the number of acres around each gas well that ConocoPhillips would be allowed to retain once its continuous drilling program ended:

 . . . Lessee covenants and agrees to . . . release . . . any and all portions of this lease which have not been drilled to a density of at least 40 acres for each producing oil well and 640 acres for each producing or shut-in gas well, except that in case any rule adopted by the Railroad Commission of Texas or any other regulating authority for any field on this lease provides for such a spacing or proration establishing different units of acreage per well, then such established different units shall be held under this lease by such production, in lieu of the 40 and 640-acre units above mentioned. . . .

It was undisputed that ConocoPhillips’ drilling program had ended, and it had apparently already released all acreage in excess of 640 acres per gas well. Because the retained acreage clause provided that its default allowance of 640 acres per gas well could be overridden by a field rule establishing a spacing or proration unit of a different size, the issue was whether such a rule had been adopted for the applicable field which would operate to reduce the acreage ConocoPhillips would be entitled to retain.

The only relevant rule for the field was a spacing rule which provided:

Rule 2. No well shall hereafter be drilled nearer than [467] feet to any property line, lease line or subdivision line and no well shall be drilled nearer than [1,200] feet to any applied for, permitted or completed well in the same reservoir on the same lease, pooled unit or unitized tract. . . .

The question thus became whether the spacing requirement of Rule 2 established a “different unit[] of acreage per well” than the 640 acres provided by the retained acreage clause. While the court of appeals agreed with ConocoPhillips that Rule 2 did not expressly set forth a unit of acreage, it found that the field rule must be read in conjunction with statewide Rule 38, which establishes the standard drilling unit size for gas fields in which “only spacing rules” exist, including field-specific spacing rules such as Rule 2. For fields in which the spacing requirement is 467/1200, as was the case for the field at issue per Rule 2, Rule 38(b) provides that the standard drilling unit is 40 acres per well.

The court concluded that Rule 2, read in conjunction with Rule 38, was a field spacing rule that established “different units of acreage per well” than that provided for in the retained acreage clause. Thus, the standard 40-acre drilling unit rule controlled the number of acres ConocoPhillips was entitled to retain under the leases. The Fourth Court of Appeals therefore affirmed the trial court’s ruling that ConocoPhillips had breached the leases by failing to release all acreage in excess of 40 acres for each gas well, resulting in a release of an additional 15,351 acres.

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