BANKRUPTCY TREATMENT OF COVENANTS RUNNING WITH THE LAND IN EXECUTORY CONTRACTS

• Jurisdiction: United States

Midstream Oil & Gas from the Upstream Perspective
(Apr 2018)
CHAPTER 2C
BANKRUPTCY TREATMENT OF COVENANTS RUNNING WITH THE LAND IN EXECUTORY CONTRACTS
Scott Looper
Senior Associate
Baker Botts LLP
Houston, TX
Chris Newcomb
Senior Associate
Baker Bots LLP
New York, NY

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For several decades, midstream companies have relied on upstream producers to help finance the construction and expansion of oil and gas gathering, processing and transportation systems through contracts with producers that granted the midstream companies the exclusive right to gather, process or transport all hydrocarbons produced by such producers from leases and wells located within an agreed geographic area. These contracts included provisions known as "dedications" because they dedicate all hydrocarbon production from identified upstream assets (namely, leases and wells) to a particular midstream asset. Many midstream companies (some of which are organized as MLPs) rely on dedications of production as a form of credit support from producers to assure the future cash flows necessary to recover the significant capital expenditures incurred by such companies to construct and maintain the gathering, transportation and processing assets built for such producers.

It has been common practice in modern midstream contracts for the parties to treat such dedications as covenants running with the land (rather than merely personal covenants) and to file evidence of their dedications in the county property records to put third parties on notice of the dedications (such that if a producer were to sell its producing assets, then the purchaser of such assets would be subject to the same contractual obligations as the seller). For many years, county clerks have accepted memoranda of dedication agreements and filed them in the property records. No Texas state court has ever expressly ruled, however, on whether a "dedication" is a "covenant running with the land".

Practically speaking, the primary differences between dedications as a personal covenant and as a covenant running with the land are (1) whether successors are bound and (2) survivability during bankruptcy. A burdensome unperformed contract, including a personal covenant, may be rejected in bankruptcy and replaced with a general unsecured claim for damages. See 11 U.S.C. §§ 365, 502(g)(1). Because unsecured claims share pro rata with other unsecured claims after all secured lender claims are satisfied, where the...