Oil-and-Gas Case Law Round Up: January 2017

January has been a busy month for courts in Texas and beyond in the oil-and-gas segment.  In today’s post, we summarize several significant developments from the last thirty days that can be expected to have a lasting impact on E&Ps, pipeline companies, and other industry participants.

Denbury v. Texas Rice Land Partners

We begin with a decision from earlier this month out of the Texas Supreme Court, in which the Court clarified the standards under which a pipeline company can qualify as a common carrier for purposes of exercising eminent domain powers to seize private property to build a gas pipeline.

Historically, a pipeline company would qualify as a common carrier simply by self-identifying on a Texas Railroad Commission form.  That all changed in 2012, when the Texas Supreme Court handed down an opinion involving a Denbury Resources affiliate and a landowner defendant, Texas Riceland Partners.  At that time, the Court held that “unadorned assertions of public use are constitutionally insufficient”; so, for example, the Court explained that merely registering as a common carrier does not conclusively convey the extraordinary power of eminent domain.

The complicating factor with the 2012 decision was that the Court did not go so far as to articulate, affirmatively, the kind of conduct that would, in fact, allow a pipeline company to identify itself as a common carrier for purposes of condemnation.

Fast forward to 2017, and Denbury and Texas Riceland again found themselves in front of the Texas Supreme Court on the same issue.  This time around, however, the Justices did articulate a positive test for the kind of evidence that would allow a pipeline company to rise to the level of a common carrier for purposes of exercising eminent domain powers.  In particular, the Court concluded that the essential hurdle is whether the pipeline can show that it would serve the public interest by transporting gas “for one or more customers who will either retain ownership of their own gas or sell it parties other than the carrier.”  It’s important to note that in its 2017 decision, the Texas Supreme Court was clear that a pipeline company can make the required evidentiary showing after condemning private land and after constructing a gas pipeline.  Put another way, the required showing of a public interest does not have to occur prior to the exercise of eminent domain powers, but can instead take place afterward—and this, self-evidently, is a very positive development for the industry.

Western Energy Alliance v. Jewell

In Wyoming, a lawsuit challenging a new Bureau of Land Management regulation, requiring gas producers to curtail their practice of flaring natural gas on federal land, was unsuccessful in an early bid to obtain a preliminary injunction barring enforcement of the rule.  While ostensibly aimed at reducing emissions, the new rule has the effect of compelling gas companies (1) to market and sell gas rather than burn it off at the wellhead—even when the exercise would be unprofitable or minimally profitable—and, thus, (2) to pay cost-free royalties over to the federal government.  Skeptics wonder whether the Bureau’s stated concerns about harmful emissions (which the lawsuit alleges are within the exclusive purview of the Environmental Protection Agency, anyway) were overstated, or possibly just a pretext to generate a handsome, DC-bound revenue stream … without regard to the consequences for operators who bear the full brunt of production costs.  Operationally, the fledgling rule could be expected to create headaches for producers who would now be compromised in their ability to make rational decisions based on commodity pricing and prevailing market conditions.

“It’s difficult to get a preliminary injunction, and while we’re disappointed the judge was not willing to stop the rule now, we feel that our chances are very good once the full merits of the case are heard,” Kathleen Sgamma, the president of the Western Energy Alliance, said in a press realease.  “There were several statements in [the Court’s] ruling that show [it’s] extremely skeptical of BLM’s authority to regulate air quality.  We’ll be driving those points forward in more detail in our brief due in March.”

Dieckman v. Energy Transfer Partners

The Delaware Supreme Court last week resuscitated a lawsuit brought by disgruntled investors against Energy Transfer Partners (ETP) in connection with ETP’s $11 billion purchase of Regency Energy Partners.  The lawsuit has garnered widespread attention because of its potential implications on the protections afforded to investors in master limited partnerships, or MLPs.

Delaware’s high court held that ETP would have to grapple with allegations that Regency investors were supplied with incomplete—and therefore misleading—information at the time they approved the merger in 2015.  The effect of the opinion is to return the case to the Delaware Court of Chancery, which had previously dismissed the case without ever broaching the substantive merits of the plaintiff’s allegations.

Regency, like many pipelines, is organized as an MLP.  MLPs are well known for their tax advantages, and they are not burdened by the same fiduciary duties that shield investors in traditional corporations.  Regency had, nevertheless, put in place what it had styled as an “independent” committee to conduct buyout negotiations with ETP, before putting the merger to a vote of investors.  The Chancery Court dismissed the complaint after concluding that the committee was a sufficient safeguard and that the company had satisfied its minimal disclosure obligations.

The Delaware Supreme Court disagreed, however, explaining that investors in Regency were entitled to genuinely “independent” directors, without any entanglements with the board of the purchaser, ETP.  But at least two of the directors had ties to Sunoco LP, which in turn had a general partner interest in ETP—and none of this had been disclosed to Regency investors before the merger was put to a vote.  In investor rights matters, omissions cases like this one—as compared to instances of affirmatively false misstatements—have historically been more of an uphill battle for plaintiffs, even when targeting corporations subject to onerous fiduciary duties under the common law.  The Delaware Supreme Court’s decision may constitute a cautionary tale for MLPs, as their immunities to omissions-based litigation may not be nearly as strong as previously believed.

Lightning Oil v. Anadarko

The Texas Supreme Court has accepted review of a long-running controversy between Lightning Oil Company and an Anadarko subsidiary that allegedly trespassed through Lightening’s mineral estate to gain access to a neighboring oil-and-gas reservoir.  The case is scheduled for oral argument in March.  The core question is whether an operator can, with only the surface owner’s consent, drill through another producer’s mineral lease in order to reach an abutting mineral leasehold held by the first operator.

The intermediate appellate court found in favor of Anadarko, relying on authority including the Texas Supreme Court’s 2008 decision in Coastal Oil & Gas Corp. v. Garza, for the proposition that the owner of the minerals is entitled only to an opportunity to recover the oil and gas from its estate and is, for this reason, prohibited from alleging trespass because it does not own the entire subsurface of the property.  On this score, a “mineral estate is comprised of a bundle of rights—not a definable, physical, underground place,” Anadarko argued in its briefing.

In response, Lightning countered with the analogy of an airplane flying above property belonging to another, leaving no damage in its wake.  By contrast, Lightening observed that Anadarko’s drilling activities would bore through and irreparably damage a large corridor in the subsurface.  According to this argument, even if Anadarko does not drain any of Lightening’s minerals along with way, the damage it leaves behind would make the production of oil and gas by Lightning more difficult and more expensive, since it would have to take a more circuitous route that bypasses the destructive aftermath of Anadarko’s drilling.

Stay tuned, as the Supreme Court’s decision is certain to have profound effects on the planning and drilling of horizontal wells in the State of Texas.