CHAPTER 11 LEASING COALBED GAS PROSPECTS
| Jurisdiction | United States |
(Apr 1992)
LEASING COALBED GAS PROSPECTS*
George W. Hutchison Professor of Energy Law Southern Methodist University
Dallas, Texas
As planners and politicians contemplate problems of U.S. energy policy and security, they must give coalbed gas substantial attention. Simply stated, coalbed gas is natural gas found in and around coalbeds. Created by the physical and chemical processes that create coal,1 coalbed gas exists in large quantities within the United States, which contains one of the world's largest deposits of coal. The Bureau of Mines once estimated that there is 300 trillion cubic feet of coalbed gas in the United States, about half of which could be commercially developed. If that estimate is accurate, coalbed gas represents an energy source roughly equivalent to current proven reserves of natural gas.
While it is now clear that coalbed gas is an energy resource
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of substantial potential importance in the United States, also substantial are the legal problems associated with its development. Some commentators are concerned that the legal uncertainties will chill the exploitation of U.S. coalbed gas resources.2
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A variety of legal problems stand in the way of coalbed methane development. This paper will address only one group of issues directly — the issues that should be addressed in a coalbed gas lease.
I. The Coalbed Gas Lease
How one structures the terms of a coalbed gas lease depends upon the kind of production operations one envisions.3 For purposes of this analysis, there are three basic types of coalbed gas production operations: conventional, gob gas, and horizontal bore holes.
Conventional production operations utilize vertical bore holes, which may be fully or partially cased and perforated. Leases covering property to be developed by conventional production operations look very much like conventional oil and gas leases. Appendix A is a coalbed methane gas lease devised for use in conjunction with Eastern properties from which it was anticipated that coalbed gas would be extracted independently of coal mining operations. Appendix C is an Amoco lease used primarily in the Western United States in conventional production operations from coal seams.
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"Gob gas" is the coal industry's term for gas taken from an underground mined-out area where the roof rock has collapsed after long-wall ceiling supports have been moved forward.4 Because of long wall mining's economic importance to the coal industry, gob gas production is burgeoning. Gob gas leases are substantially different from conventional oil and gas leases. Appendix B is styled a "Gob Gas" Lease, and it is intended for use in the Eastern United States.
Horizontal bore hole production involves horizontal penetration of the target formation. Testing shows that bore holes drilled perpendicular to natural fractures have the highest efficiency degassing potential.5 Until recently, horizontal bore hole drilling was solely intended to ventilate gas in advance of mining. In the 1980s, however, horizontal drilling techniques became viable alternatives to conventional drilling methods. A lease intended for use in horizontal drilling operations will probably look very much like a conventional oil and gas lease.6
A. The Granting Clause
The purpose of the granting clause of any mineral lease is to transfer from the mineral owner lessor to the lessee the right to search for and produce the substances identified, and to spell
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out likely uses.7 Typically, coalbed gas leases beg the fundamental question of ownership of coalbed methane; of course, a lessee can get no better rights than his lessor has. Where there is a question about who owns the right to coalbed gas, all possible claimants should be joined in the lease, or separate leases should be taken from each.8
Coalbed gas leases typically specifically designate coalbed methane as a leased substance.9 Specific identification of
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coalbed methane is desirable because of the uncertainty whether coalbed methane is a "gas" within oil and gas lease terms and because of the uncertainty of whether the coal owner or the gas owner owns the coalbed gas. If coalbed methane belongs to the owner of "gas," then it may be produced under the terms of an ordinary oil and gas lease.10 If coalbed methane belongs to the coal owner, however, it is arguable that it is beyond the scope of an ordinary oil and gas lease executed by the coal owner.
The granting clause of a coalbed gas lease should also take into account where the substance may be found. Coalbed methane may migrate from the coal veins from which it arises, and natural gas may migrate into the coal seam. If the two become mixed they will become virtually inseparable and indistinguishable. The only practical solution is to lease the right to produce all gas that can be captured from a defined area below the surface.11 All of the example leases contain a broad area definition.12
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Finally, the granting clause of any mineral lease should also specify the surface uses that the lessee will be permitted. While a lessor cannot give lease rights broader than those that it possesses, that the parties specified certain uses in a granting clause may have some persuasive value if a court must define what uses are within the "reasonable" rights generally implied in the grant to the lessee. In addition, specifying permitted uses in the granting clause is desirable in view of case law in some states that suggests that uses will not be inferred,13 and to put the lessor fairly on notice of what uses are likely.
From the coalbed gas lessee's viewpoint, the lease should also contain a warranty of title. In light of the ownership issues outstanding, however, it would not be surprising if lessors were unwilling to execute such a lease. In what may represent a compromise, neither the lease at Appendix A nor the lease at Appendix B contain a "real" warranty of title; both warrant only "such title...as [the lessor] may have...."14 In contrast, the Western States lease contains a typical full warranty.15
2. The Habendum Clause
The habendum clause of a mineral lease sets the period of time within which the lessee may exercise the rights given in the granting clause. In oil and gas leases, because of the uncertainties inherent in development, there is usually a primary term — an option period — and an indefinite secondary term -"as long thereafter as oil and gas are produced." Many coal lease habendum clauses are modelled on oil and gas leases, and include primary and secondary terms. Coal lease primary terms are generally longer than oil and gas lease primary terms, however, recognizing that coal mining equipment must often be specially designed and built. Coal lease secondary terms are often tied to
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production from "other lands in the area" rather than limited to the leased land, and keyed to the practicability of mining rather than to actual mining; e.g., so long as coal is "practically and commercially minable." Perhaps more often, however, coal leases abandon the structure of oil and gas leases in favor of a long fixed term, with the lessee having the right to extend or renew the term for an additional fixed period.
How the drafter should structure the habendum clause of a coalbed gas lease depends upon the nature of the operations contemplated. Where the lessee intends to produce coalbed gas independently of coal mining operations, it is appropriate to use a habendum clause similar to the clauses usually seen in oil and gas leases. The primary term period may be longer, however, if coalbed gas production is expected to be only marginally profitable; the lessee may hedge its bet with a long option period. For example, Paragraph 2 of the lease at Appendix A provides for a 20 year primary term, twice as long as the largest primary term one ordinarily sees in an oil and gas lease.
The secondary term of the coalbed gas lease may be hedged as well, because the time periods and tests used by the courts to define production "in paying quantities" in oil and gas leases are likely to be too strict to be applied to coalbed gas leases that are marginally profitable. One way to hedge the coalbed gas habendum clause secondary term is to broadly define "in paying quantities" or to specify a long period of time over which "in paying quantities" is to be determined. The Bureau of Land Management Colorado State Office has adopted a broad definition of "in paying quantities" for the leases it administers.16 In NTL-CO-88-2, the BLM set a standard for grant of an "initial paying determination," the functional equivalent of a determination that the well is producing in paying quantities, to be "if it appears that a prudent operator would continue to operate the coal bed methane well in expectation of improving the well's performance."17 The NTL goes on to provide that a "final paying well determination" can be issued when initial testing "leads the authorized officer to believe that the gas production would increase to some point within the next six months so the well would be capable of producing leasehold substances in paying quantities."18 In calculating profitability, "the cost of water disposal would be prorated over a period of ten years or the projected life of the well, which ever is less," even though most
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of the water will be produced in the early years of production.19
Liberal definitions of paying quantities are uncertain in their application, however. The alternative, chosen by the drafter of the lease at Appendix A, is to couple the habendum clause reference to "production" with liberal savings clauses that provide for substitutes for production. Where the coalbed gas lease drafter hinges continued existence of the lease upon "production," but then mitigates that requirement with savings clauses, the...
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