345 Bonn Operating Co. v. Devon Energy Prod. Co.

CASE NOTE

Richard F. Brown

 
The following is not a legal opinion. You should consult your attorney if the case may be of significance to you.
 
Bonn Operating Co. v. Devon Energy Production, Co., 613 F.3d 532 (5th Cir. 2010) held that a notice of a proposed well under a Joint Operating Agreement (“JOA”) was effective, even though given after the well was already drilled and completed. This JOA was on a 610 Model Form Operating Agreement – 1956 and contained the subsequent operations clause providing that a party who desires to drill a well “may give the other party written notice of the proposed operation.” The other parties to the JOA then have thirty days to respond. Non-consenting parties are not liable for the costs of the proposed operation. If the operation is successful, the non-consenting parties are effectively penalized by the loss of their share of production until the participating parties recover the costs of the drilling operation and of production operations multiplied by the agreed penalty factor, such as 300%. Devon, the operator, sent notice to Bonn, a non-operator, after Devon’s well was already down and completed. Bonn affirmatively elected to go non-consent. Bonn then sued Devon alleging breach of contract because the notice was not timely and because Devon charged Bonn for costs incurred before the well was spudded and after it was completed.
 
In Valence Operating Co. v. Dorsett, the operator sent notice before commencing operations, but then commenced operations before the thirty-day election period expired. The Texas Supreme Court held that nothing in the language of the JOA forbids the operator from commencing work before the end of the notice period. In this case, the Fifth Circuit extended that reasoning to hold that there was nothing in the language of the JOA that forbids the operator from commencing work and even completing the well before sending the notice. Note, however, that it was the operator who commenced operations without notice.  Should a non-operator attempt to commence operations without timely notice, it is likely that different issues would be raised and a different result would follow.
 
Bonn also sought to limit the costs included for purposes of calculating the payout of the non-consent penalty. Bonn argued (under Section III of the Accounting Procedures in Exhibit C to the JOA) that the proper time period for the accumulation of penalty costs is from the date the well is spudded (the date the drill bit pierces the surface of the earth) until completion (commencement of production). The court held that this was a misreading of Section III.4 by Bonn. Section III relates to charging different rates for overhead based on the drilling rate or the production rate. Section III does not limit the participating parties’ ability to charge non- consenting parties for all direct costs, and associated penalties, applicable to a well pursuant to the terms of Paragraph 12 of the JOA. Specifically, Devon could charge for costs incurred before drilling and after completion.
 
The significance of the case is the holding that the operator can send the notice of the proposed operation essentially at anytime, with the only “risk” being that the non-operator gets a free look before making his election.  The opinion does not address access issues or the sharing of well data prior to an election being made. The holding in this case and in Valance should be presumed applicable to simple JOAs on simple facts. Under more complex agreements and facts, a different result might follow. For example, many JOAs have additional provisions which may include limitations on the number and timing of well proposals, priority of operations, etc. Construing these provisions against a backdrop of random notice periods and election periods could be difficult.