CHAPTER 1 PRINCIPLES AND HISTORICAL CONTEXT OF POOLING AND UNITIZATION

• Jurisdiction: United States

Onshore Pooling and Unitization
(Jan 1997)
CHAPTER 1
PRINCIPLES AND HISTORICAL CONTEXT OF POOLING AND UNITIZATION


Bruce M. Kramer
Texas Tech University School of Law
Lubbock, Texas

I — INTRODUCTION

The oil and gas industry has been in existence for less than 175 years.¹ Governmental regulation of the oil and gas industry has been in existence for only a slightly shorter period.² This paper will present the historical context of modern pooling and unitization regulation as it applies to federal, Indian and fee land mineral interests. It will serve as a primer for the papers that follow which will discuss in depth some of the more pressing problems facing those who are developing oil and gas in the United States.

To be consistent as used in this paper the terms "unitization" or "unit operations" refer to the consolidation of mineral, leasehold or royalty interests covering all or a portion of a common source of supply.³ On the other hand "pooling" or a "pooled unit" refers to the joining together of small tracts or portions of tracts for the purpose of having sufficient acreage to receive a well drilling permit under the relevant state or local spacing or drilling laws and regulations.⁴ The federal government has chosen to use the term "communitization" to describe what would be a pooling if only fee lands were involved.⁵ Pooling, as distinct from unitization, developed in large part due to the long-standing existence of state well spacing regulation. Well spacing regulation is implemented through either or both a lineal spacing rule or statute and a density spacing rule or statute.⁶ The lineal spacing system regulates well location based on distances from property lines or other wells. Louisiana, Statewide Order 29-E is a good example

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of a lineal spacing regulation which prohibits wells from being closer than 330 feet from any property line nor closer than 900 feet from any well completed in the same common source of supply. Wyoming utilizes a density spacing rule requiring no more than 1 oil well on a 40 acre tract. The development of these types of conservation regulation was in response to the perceived evils of the "rule of capture" ownership regime that had been adopted by most states. It is to the rule of capture that we now turn.

II — THE RULE OF CAPTURE

A — The Basic Elements

The rule of capture was born of necessity and possibly ignorance in 1889 when the Pennsylvania Supreme Court analogized the ownership of fugacious oil and gas to the ownership of groundwater and more importantly, ferae naturae.⁷ The court stated:

"Water and oil, and still more strongly gas, may be classed by themselves, if the analogy be not too fanciful, as minerals ferae naturae. In common with animals, and unlike other minerals, they have the power and the tendency to escape without the volition of the owner.... They belong to the owner of the land, and are part of it, so long as they are on or in it, and are subject to his control; but when they escape, and go into other land, or come under another's control, the title of the former owner is gone. Possession of the land, therefore, is not necessarily possession of the gas. If an adjoining, or even a distant, owner, drills his own land, and taps your gas, so that it comes into his well and under his control, it is no longer yours, but his."⁸

From this point on the rule of capture took hold and was applied wherever the ownership of oil and gas was analyzed, regardless of whether the jurisdiction adopted an ownership or non-ownership view of those hydrocarbons.⁹ With few exceptions,¹⁰ courts embraced the rule of capture and refused to add a "correlative rights" doctrine to modify the harsh ramifications of the rule.¹¹

Professor McDonald described the negative conservation implications of the rule of capture as follows:

"...the process of unregulated development and exploitation of petroleum deposits tends to be a race for possession by competitive operators. The results are dense drilling, especially along property lines; capacity production of both oil and associated gas; rapid dissipation of reservoir pressure; irregular advance of displacing fluids through the reservoir oil zone; and, therefore, loss of ultimate recovery. Production of oil and gas may outrun the construction of pipelines and gas processing facilities, so that oil produced to avoid adverse drainage must be stored in makeshift tanks, or open pits, where it is subject to loss through

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leakage, overflow, fire, and evaporation, and gas must be vented or flared as produced. The density of activity and the haste to complete wells and get oil to the surface also increase the likelihood that damages external to the industry."¹²

A corollary of the rule of capture is the so-called offset drilling rule. If a neighbor can located a well close to a property line and drain hydrocarbons originally located underneath his neighbor's property, what remedy does the "drainee" have for the loss of the hydrocarbons. An early Pennsylvania decision answered that question quite directly when it stated:

What, then, can the neighbor do? Nothing, only go and do likewise. He knows it is wild and will run away if it finds an opening, and it his business to keep it at home. This may not be the best rule; but neither the legislature nor our highest court has given us any better.¹³

This ownership concept requires mineral owners to drill or lose their minerals to their neighbor's wells as long as those wells are not bottomed on your land.

The common law had an opportunity to evolve an ownership rule which was less societally harmful than the rule of capture. Such had been the case for groundwater where the early English doctrine of absolute ownership and use without regard to the damage that might be caused the common source of supply,¹⁴ was modified in the United States so that the "correlative rights" of the parties overlying the groundwater reservoir would be protected.¹⁵ Unlike the growth of the common law of groundwater, in the oil and gas arena, notwithstanding the efforts of many legal writers,¹⁶ and the prodding of the Supreme Court,¹⁷ state supreme courts clung to the traditional rule of capture ownership regime.¹⁸ The only common law modifications occurred in the

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reasonably rare situation where there was a total waste of the captured hydrocarbons or one party committed a negligent act which injured the common source of supply.¹⁹

During the 1920's, A.L. Doherty, among others, railed against the rule of capture's damaging effects in the hope of enacting federal and/or state compulsory unitization legislation.²⁰ The ultimate goal was to enact a federal compulsory unitization statute. In that, they were unsuccessful, although the Federal Oil Conservation Board, did conduct a series of hearings and made several reports one of which recommended that the "unit idea" is a more efficient means of developing and operating oil and gas fields.²¹ While both the Section of Mineral Law of the American Bar Association and the Mid-Continent Oil and Gas Association took positions in the late 1920's and early 1930's supporting both compulsory and voluntary unitization efforts, no federal or state statutes were enacted and voluntary unitization efforts were minimal.²² Thus as America was developing some of its largest and most prolific oil fields, the damaging effects of the rule of capture were being maximized by the lack of either a common law or statutory solution to the problem.

B — The Injection of Substances — Herein of the Negative Rule of Capture

The rule of capture deals with the problem of removing hydrocarbons that were originally bottomed under the lands of another. As primary pressure diminished in many reservoirs, it became apparent that oil and gas producers would have to inject substances into the oil or gas-bearing formations in order to maintain production. Two problems arise when you inject substances, the first is that they migrate across property lines and cause injury or damage to the neighbor's formation,²³ the second is that less valuable hydrocarbons are injected which replace more valuable hydrocarbons.²⁴ In order to deal with this issue a "negative" rule of capture theory has developed. As originally stated by Professor Williams and Dean Meyers:

Just as under the rule of capture a landowner may capture such oil or gas as will migrate from adjoining premises to a well bottomed on his own land, so also may be inject(sic) into a formation substances which may migrate through the structure to the land of others, even if this results in the displacement under such land of more valuable with less valuable substances (e.g., the displacement of wet gas by dry gas) ... it seems reasonable to suggest the qualification that such activity will be permitted, free of any claim of damages, only is pursued as part of

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a reasonable program of development and without injury to producing or potentially producing formations.²⁵

Several early cases in Oklahoma²⁶ and Texas²⁷ endorsed the negative rule of capture doctrine. More recent cases, however, have moved away from the doctrine and have found ways that would hold an injector liable, even if armed with a conservation agency order, should a trespass or a nuisance occur, by virtue of the migration of fluids across property lines.²⁸ With the potential for liability increased, another important reason to have unitization prior to the adoption of a secondary recovery program has been created.

C — The Correlative Rights Doctrine

As noted above, the rule of capture as adopted in many states was not substantially modified to deal with the fact that with a common source of supply owned by more than a single entity, actions by one owner might cause damage to the other. The early leading case of Hague v. Wheeler,²⁹ illustrates the court's lack of concern for such "negative externalities" when it allowed a...