CHAPTER 13 MR. GREEN LEISURE SUIT REVISITED: THE AAPL FORM JOA AND NON-PAYING PARTICIPANTS

• Jurisdiction: United States

Joint Operations and the New AAPL Form 610-2015 Model Form Operating Agreement (Dec 2017)
CHAPTER 13
MR. GREEN LEISURE SUIT REVISITED: THE AAPL FORM JOA AND NON-PAYING PARTICIPANTS
Paul G. Yale
Partner
Gray Reed & McGraw, LLP
Houston, TX ¹

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PAUL YALE is a Shareholder and the Energy Practice Area Head for Gray Reed & McGraw, PC, in Houston, Texas. Paul has 39 years of legal experience working principally in the domestic US oil and gas industry, 27 years of which was spent with ExxonMobil Corporation and its predecessor companies. His practice focuses on upstream US oil and gas transactional, title, and dispute resolution matters. He is licensed in multiple US jurisdictions and has extensive experience in almost all major US oil and gas basins, offshore as well as onshore. He received his undergraduate degree from Vanderbilt University in 1974 and his J.D. from Southern Methodist University in 1977. He is Board Certified in Oil, Gas and Mineral Law by the Texas Board of Legal Specialization. He has certifications in both mediation and arbitration and regularly serves as an expert witness in oil and gas disputes. He serves as the 2016-17 Immediate Past Chair of the Houston Bar Association, Oil, Gas and Mineral Law Section.

Table of Contents

I. INTRODUCTION

II. MR. GREEN LIESURE SUIT REDUX

III. A BRIEF OVERVIEW OF the HISTORY AND USE OF OPERATING AGREEMENTS IN THE UPSTREAM EXPLORATION AND PRODUCTION SECTOR

IV. PROBLEMS WITH AAPL FORMS PRIOR TO 1989 IN ENFORCING OPERATOR'S LIEN

V. UNIQUE FEATURES OF THE 1989 AAPL MODEL FORM JOA and Now the 2015 JOA FORM IN DEALING WITH non-paying PARTICIPANTS

A. ADVANCE PAYMENTS

B. SUSPENSION OF RIGHTS

C. DEEMED NON-CONSENT

D. ATTORNEYS FEES, LATE PAYMENT INTEREST, COURT COSTS, CONSEQUENTIAL DAMAGES

E. OTHER CHANGES TO ARTICLE VII IN THE 2015 AAPL JOA FORM

VI. ISSUES WITH NON-PAYING OPERATORS

VII. CONCLUSION: BEST PRACTICES IN AVOIDING ISSUES WITH NON-PAYING PARTICIPANTS

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I. INTRODUCTION

"Mr. Green Leisure Suit," as I will call him, dropped in on me unexpectedly in my Denver office where I was employed as a near entry level landman by a major oil company (Exxon) in the early 1980s. The passage of time has obscured some details, but I recall most. He entered my office in a pastel green, bell-bottomed leisure suit with a gold puka shell necklace adorning his well-tanned, very hairy chest. His girlfriend was dressed in a tight fitting, memorably scant outfit similar to what might be worn today by a "Zumba" dance fitness instructor in a women's workout studio. Her attire was certainly not business dress, even by business casual dress standards to the extent such standards existed in the early 1980s; but no matter, she was accompanying him for no apparent business reason.

I had been assigned the task of putting a lease play together in Northeastern Colorado, in the same area that today is seeing large scale horizontal drilling and development in the Niobrara formation. But this was long before horizontal fracking had come of age, Exxon wanted to drill vertical test wells, perhaps as many as a dozen, at a drilling and completion cost per well of several million dollars. I had contacted "Mr. Green Leisure Suit" for a farmout of his approximately 10% leasehold position on the prospect. Mr. Green Leisure Suit was the son of a very well known, wealthy, Houston businessman which was a fact that I, having recently moved to Colorado from Texas, was unduly impressed by.

Mr. Green Leisure Suit told me that he was in town to snow ski but wanted to respond to my farmout request in person while he was here. He then told me he wanted to join in the wells, not farm out. I explained to him that even a 10% interest could cost him millions of dollars given how expensive the wells were and the number of them that Exxon planned to drill. I also warned him about Exxon's propensity at the time for significant cost overruns. His response was something like, "Not a problem, I'm ready to run with the big dogs. So let's drill these suckers, where do I sign?"

I then had my secretary prepare a stack of authorities for expenditure (AFEs) and signature pages to a Model Form American Association of Professional Landmen (AAPL) 610 Operating Agreement (probably the 1977 version) all of which Mr. Green Leisure Suit enthusiastically executed. The deal with Mr. Green Leisure Suit having been closed, Exxon commenced its exploration program. We drilled six or seven dry holes in a row before abandoning the play. There were significant cost overruns. Mr. Green Leisure Suit's final share

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of costs was $2-3 Million Dollars, a fair amount of money today, even more so in the early 1980s.

A month or so after we shut the program down, I was contacted by our accounting department. As it turned out, Exxon had billed Mr. Green Leisure Suit for his share of costs, but he never paid anything. I was asked to contact him about the overdue bills. I tracked him down to a hotel room in Las Vegas where the phone was answered by woman, a different one than the first, made obvious by a very thick foreign accent. She explained to me that Mr. Green Leisure Suit was not able to come to the phone, but he wanted me to know his "check was in the mail."

A month or so later I received a letter in the mail, but no check was enclosed. Instead, I found Mr. Green Leisure Suit's notice of personal bankruptcy filing in federal bankruptcy court in the U.S. Southern District of Texas (Houston). Exxon, as an unsecured creditor, was to stand in line behind scores of secured banks and lending institutions, and ultimately had to write off the $2-3 Million Dollars. But somehow my career survived, probably because in the early 1980s Exxon was enjoying record gross annual corporate revenues in the billions upon billions of dollars range so a $2-3 Million write-off was insignificant; plus my old boss transferred to a new job and my new boss did not connect the dots. So it happened that I had my first encounter with a non-paying non-operator. It was not to be my last.

II. MR. GREEN LIESURE SUIT REDUX

Some readers may recognize "Mr. Green Leisure Suit" from a previous article I have written on this same subject published in the Rocky Mountain Mineral Law Foundation Journal in 2014.² Other parts of this paper will also be familiar. To those readers, I apologize. To paraphrase the celebrated twentieth century classicist Moses Hadas, perhaps "this [paper] fills a much needed gap."³

Nevertheless, given the extraordinary circumstances that have occurred in the US oil patch over the past four rears a revisit of issues raised in connection with non-paying participants under operating agreements seems appropriate. When I wrote the previous article in late 2013 worldwide crude oil prices were in the range of $100 a barrel.⁴ Many observers were still bullish on the price of oil, at least in the long term.⁵ But to some, trouble seemed on the horizon:

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"... Justification [for taking steps to address non-paying JOA participants] can be found by reflecting on the experience of the oil and gas industry in the United States in the mid-1980s and comparing it with the eerily similar situation that the industry finds itself in at the time this article is being written in late 2013. Crude oil production in the United States is at the highest level since the 1980s. President Obama and his administration are negotiating a lifting of sanctions with Iran which can potentially unleash millions of barrels of crude oil onto world markets. For the short term, at least, Middle Eastern oil supplies together with new US production coming on-stream appear to be more than adequate in filling international oil demand. Is an oil price crash similar to what was experienced in the mid-1980s out of the question in the mid-2010s? If such a crash were to re-occur how many non-operators (and operators for that matter) might find themselves in serious financial trouble? History, unfortunately, tends to repeat itself." ⁶

Readers of my 2014 article may recognize that paragraph. For once it appears that I wrote something percipient. History did repeat itself --in spades. Oil prices dropped from their 2013 highs of over $100 a barrel to a low of under $30 a barrel in January 2016. At the beginning of year 2017, over 120 U.S. oil and gas companies have filed for bankruptcy in the wake of falling prices and a struggling commodities market.⁷ Furthermore the US Energy Information Agency in September 2016 released its Annual Energy Outlook forecast predicting that crude oil prices are not likely to approach $100 a barrel again for more than a dozen years.⁸

To those who read and acted upon some of the recommendations in my 2014 article, congratulations. To those who did not--I am sure you have plenty of company. Perhaps this time round I will have earned your attention.

I have another reason for revisiting the subject. I received a surprisingly large number of comments on my 2014 article. A number of people, including some very seasoned industry professionals, expressed surprise that it was necessary to file a UCC financing statement in order to properly perfect the lien provided for in Article VII of the 1989 AAPL form operating agreement. Other people said I needed to say more about the proper location for filing UCC financing statements. A number of people commented that I should have said more about non-paying operators. I am fortunate to have the opportunity to respond to these comments.

On the other hand, and in spite of recent turmoil in the oil markets, many things have not changed since my article was first published in 2014. Article VII of the Model Form JOA is the provision in the 2015 Model Form which I will be discussing the most in this paper. Generally speaking, the changes being brought forward in the 2015 Model Form Operating Agreement relative to Article VII are relatively minor. And the...