Face Challenges Confidently

478 XH, LLC v. Cabot Oil & Gas Corp.

Wednesday, September 2nd, 2015

Richard F. Brown

The following is not a legal opinion.  You should consult your attorney if the case may be of significance to you.
XH, LLC v. Cabot Oil & Gas Corp., No. 12-12-00338-CV, 2014 WL 2505541 (Tex. App.—Tyler May 30, 2014, no pet.)(mem. op.), held that the parties’ express provision governing priority of interpretation would be given effect to resolve conflicting area of mutual interest (“AMI”) provisions in a Purchase Agreement (“PSA”) and its attached joint operating agreement (“JOA”).  Under the PSA, Seller conveyed to Purchaser 80% of Seller’s interest in certain leases, reserving an overriding royalty interest (“ORI”) to Seller on the assigned leases.  Seller subsequently conveyed the ORI to Cabot.  Purchaser contended Cabot was subject to the AMI agreement and obligated to offer to Purchaser the opportunity to purchase Purchaser’s proportionate share of the ORI that Cabot acquired from Seller.
The PSA included an AMI provision (“PSA AMI”) and an attached JOA.  The JOA also included an AMI provision (“JOA AMI”).  The PSA AMI provision provided that “[a]ll leases subsequently acquired by either party . . . will be subject to the Area of Mutual Interest provision provided in the Joint Operating Agreement . . . .”  The JOA AMI provision, in Article XVI, provided that “[i]n the event that any party or parties acquire any oil and/or gas interest (which shall be deemed to include royalties, mineral interests, and other payments out of production) or oil and gas leases or other contract rights which allow the Participation for oil and/or gas, within the AMIs as herein above defined, then the non-acquiring party or parties shall have the right to acquire their proportionate interest . . . .”  In the definitions section of the JOA, “Lease” is defined as “oil and gas leases or interests therein, . . .” but the defined term is limited to its use in the JOA.  Article XVI of the JOA also provided that “[i]n the event of any conflict between the provisions of the [JOA] and the [PSA], the provisions of the [PSA] shall prevail and control.”
Because the PSA and JOA were executed at the same time, for the same purpose, and in the course of the same transaction, the court held that they should be read and construed together.  However, this principle is simply a device for ascertaining and giving effect to the intention of the parties and cannot be applied arbitrarily and without regard to the realities of the situation.  The court held that the two AMI provisions were unambiguous.  The PSA AMI was limited to subsequently acquired leases, and the JOA AMI was broader and included subsequently acquired oil and gas interests.  There was no language in the JOA indicating that the JOA AMI provision was intended to supplement the PSA AMI provision, and the expanded definition of “lease” found in the JOA was expressly limited to its use in the JOA.  “Similarly, the language of the [PSA] fails to indicate that the acquisitions covered by its AMI provision may be supplemented by the AMI provision in the JOA or that its references to ‘leases’ is merely an example.”  The court concluded that the two provisions were in conflict, that they could not be harmonized, and that the court must follow the parties’ determination that the PSA would control.  Therefore, the ORI acquired by Cabot was not subject to the AMI agreement as expressed in the two documents.
The court then held that its decision would be the same even if the two provisions could be harmonized.  This part of the opinion is based upon another provision in the JOA that provides the JOA AMI is not applicable to any acquisition of an interest that, prior to or at the time of its acquisition, was subject to the JOA.  Because the ORI was created after the JOA had taken effect, and was therefor subject to the JOA, the court held that the AMI did not apply to the ORI.
The terms and provisions of the assignments to Purchaser and to Cabot were not discussed in the opinion, and there was apparently no issue as to whether or not Cabot acquired its ORI subject to the PSA and/or the JOA.
PSAs and JOAs are frequently executed together as part of a single transaction.  There are often many other documents attached and included in the PSA, such as the form of assignment.  The parties generally do think of them as part of a single agreement, and there is clear precedent that the courts will harmonize the documents in a single transaction.  When the parties include a provision prioritizing the documents for interpretation in the event of an irreconcilable conflict, the PSA is often listed first, because it is often perceived as the most “important.”  This case illustrates that this choice may be a mistake.  There is not likely to be an irreconcilable conflict about who is buying what for how much, but the ancillary documents often provide more detailed provisions governing the rights of the parties after closing and as to the particular matters covered by the ancillary documents.  Of course another way to avoid conflicting provisions is to expressly prioritize those specific provisions, or perhaps even better, to avoid having two provisions on the same subject.  If the parties in this case did not include any provision resolving conflicts, would the court have been more likely to harmonize the two AMI provisions and reach the opposite result?  Would the result have been different if the provision referred to “any irreconcilable conflict” instead of “any conflict”?