Face Challenges Confidently

679 Samson Expl., LLC v. T. S. Reed Props., Inc., 521 S.W.3d 766 (Tex. 2017)

Tuesday, August 7th, 2018

Richard F. Brown

The following is not a legal opinion. You should consult your attorney if the case may be of significance to you.

Samson Expl., LLC v. T. S. Reed Props., Inc., 521 S.W.3d 766 (Tex. 2017) held that an operator who formed two overlapping pooled units was obligated to pay royalties to all pooled royalty owners out of the working interest share of production in accordance with two separate contractual obligations. Greatly simplified and modified, this case involved two pooled units. Samson Exploration, LLC (“Operator”) was the operator for both units. Operator drilled the DuJay #2 Well on the DuJay Lease, which produced from a depth of 13,150ꞌ to 13,176ꞌ subsurface. Unit #2, as designated for the DuJay #2 Well, included the DuJay Lease below 12,400ꞌ. Operator then drilled the DuJay #3 Well, also on the DuJay Lease, which produced from 12,197ꞌ to 12,342ꞌ, and was therefore above Unit #2. Unit #3, as designated for the DuJay #3 Well, included the DuJay Lease and also the Reed Lease. Unit #3 was intended to cover the interval from 12,000ꞌ down to 12,400ꞌ, but, by mistake, the unit designation included all depths below 12,000ꞌ. Thus, the DuJay #2 Well was included in both units. Operator never amended the unit designation for Unit #3 to correct the alleged error. Operator paid the full royalty share to DuJay and no royalties to Reed from the DuJay #2 Well. Reed contended that Reed was entitled to a pooled royalty interest in production from the DuJay #2 Well. Reed, who only owned 1/2 of the minerals in the tract covered by the Reed Lease, also contended that the proportionate reduction clause in the Reed Lease did not operate to proportionally reduce Reed’s royalty.

Operator generally argued that (1) pooling effects a cross-conveyance of title; (2) a pooled unit is not valid unless title is cross-conveyed; and (3) title cannot be conveyed twice.

In Texas, the cross-conveyance theory originated as a theory of contractual intent in the context of joint or community leases. Though we have never expressly considered whether cross-conveyance of title may be contractually disclaimed, we have observed that mineral owners may “protect [ ] their estates by express stipulation.” Under the law in Texas, pooling implicates both contract and property law—authority to pool emanates from contract but pooling agreements give rise to interests in realty. The cross-conveyance theory of title can be critical, even “outcome determinative” as to some issues, such as venue. . . .

The Court chose to avoid discussing further the cross-conveyance theory of title in pooling, and held that there is “no impediment to enforcing Operator’s obligations in this case under a contract theory even if the pooling designation failed to effect a conveyance of title.” The fact that there is an overlap, did not excuse Operator from paying royalties as a matter of contract. The court avoided the issue of cross conveyance in pooling by focusing on the contract theory of pooling. The opinion seems to ignore Operator’s argument. Other cases hold that the pooling clause is strictly construed and that an attempted pooling is void, if it is not accomplished in accordance with the pooling clause. DuJay’s interest in Unit #2 royalties will apparently not be reduced, so what interest was pooled?

Operator asserted the contractual defense of quasi-estoppel, a doctrine which “applies when it would be unconscionable to allow a person to maintain a position inconsistent with one to which he acquiesced, or from which he accepted a benefit.” Operator provided evidence that Reed accepted royalties that included only the DuJay Well #3 for years. However, “accepting an underpayment is not inconsistent with claiming an entitlement to more,” and nothing suggested they “were accepting the royalty payments on the third well in lieu of royalty payments on both the second and the third.”

Operator asserted the contractual defense of a scrivener’s error, to reform the unit based on mutual mistake. “Mutual mistake . . . requires evidence showing both parties were acting under the same misunderstanding regarding the same material fact.” However, the error of overlapping depths was solely the mistake of Operator and Reed played no role in that matter.

Reed argued the damages awarded for breach of contract were erroneously reduced based on the proportionate reduction clause in the Reed Lease. The granting clause of the Reed Lease stated “Lessor . . . hereby leases exclusively to Lessee . . . all that certain land situated in Jefferson County, Texas, and described in Exhibit A hereto which land is herein sometimes referred to as ‘the land,’ ‘said land,’ or ‘the leased premises.’” Exhibit A to the Reed Lease described multiple tracts and the net mineral acres owned by Reed in the tract described, including the tract later included in Unit #3. The proportionate reduction clause in the Reed Lease authorized a reduction if the lease “covers a less interest in the oil and gas in all or any part of the leased premises than the entire undivided fee simple estate.” Reed argued the term “the leased premises” referred to Reed’s net mineral acreage and not the tract described. Operator interpreted the lease to cover an undivided 50% interest in the minerals, while Reed interpreted the lease to cover an undivided 100% interest in the net mineral acres. “The dispositive question here is whether the Reed lease ‘covers a less interest in the oil and gas in all or any part of the leased premises than the entire undivided fee simple estate.’” The court found that the purpose of Exhibit A was to “describe,” which “is to outline its boundaries so that it may be located on the ground, and not to define the estate conveyed therein.” Based on the lease’s use of “leased premises,” the Court found the proportionate reduction clause was applied correctly, and how it ordinarily operates.

Operator claimed it had a right to receive reimbursement from the other Unit #2 royalty owners (DuJay) for its double payment of royalties, because paying double has the practical effect of enlarging Unit #2. The court of appeals found that the voluntary payment rule prevented Operator from receiving reimbursement for its double payment, because “[m]oney voluntarily paid on a claim of right with full knowledge of all the facts, in the absence of fraud, deception, duress, or compulsion, cannot be recovered back merely because the party at the time of payment was ignorant or mistook the law as to his liability.” Without further discussion of the voluntary payment rule, the Texas Supreme Court affirmed the holding, because Operator created the overlapping units on its own, never amended the units, never alleged acts of fraud, and never alleged it was under duress or was compelled to pay royalties. In summary, the Court ignored whatever argument Operator was trying to make and just went with you paid, you lose.

Although the Court avoided directly considering the cross-conveyance theory of pooling, it clearly held that pooling liabilities may be based on contract, not title, and operators are free to obligate themselves to pay under royalty provisions that are inconsistent or increase the operator’s liability. Although division orders are not an issue in this case, and perhaps Operator had no real theory for reimbursement, but the continuing trend to allocate all payment risk to operators under the “voluntary payment rule” threatens to destroy the efficacy of division orders and the division order statute.