CHAPTER 13 ROYALTY MANAGEMENT: ADMINISTRATIVE AND JUDICIAL UPDATE 2004-2006

• Jurisdiction: United States

Federal and Indian Oil and Gas Royalty Valuation and Management
(Feb 2007)
CHAPTER 13
ROYALTY MANAGEMENT: ADMINISTRATIVE AND JUDICIAL UPDATE 2004-2006
David T. Deal ^*
President, Deal Consulting & Dispute Resolution, LLC
Falls Church, Virginia

DAVID T. DEAL

David T. Deal holds a Bachelor in Civil Engineering from Villanova University (1966) and a Juris Doctor from George Washington University (1972). He is also a trained, certified and practicing mediator. After brief stints with the U.S. Environmental Protection Agency and Department of the Interior, Mr. Deal joined the American Petroleum Institute (API) in 1975. At API he worked on a variety of federal environmental matters, notably Clean Air Act motor fuels, and natural resources matters, notably public lands access, operations and royalty management, both onshore and offshore. For five years Mr. Deal served as director of API's Office of General Counsel.

After 1980 Mr. Deal managed most of API's royalty management matters on the legislative, administrative and litigation fronts. He was centrally involved in Linowes Commission proceedings and its offspring, the Federal Oil and Gas Royalty Management Act, the NTL-5 Act, and the Royalty Fairness and Simplification Act. He drafted API comments in myriad rulemakings, including the 2004 Oil Valuation Rule and 2005 Gas Valuation Rule. He managed API participation in many federal cases as a party or amicus curiae, including the 1988 Diamond Shamrock gas take-or-pay case, the 2002 DeWitt gas transportation case and the 2003 Fina Oil & Chemical Company gas marketing case and 2004 Baca oil valuation settlement.

Mr. Deal served two terms on the Secretary of the Interior's original Royalty Management Advisory Committee (1986-1992) and served for over 20 years as the managing attorney for API's nationally recognized Subcommittee on Exploration and Production Law.

In 2003 Mr. Deal received a Minerals Management Service Corporate Leadership Award (CORLA) for utilizing his royalty management expertise over many years in MMS regulatory initiatives to seek consensus on critical royalty issues among major integrated companies and independent producers, with a special emphasis on fair, simple and certain royalty requirements. In 2003 Mr. Deal left API to join the Energy Practice Group of Fulbright & Jaworski's Washington, D.C. office, negotiating several major royalty settlements with the MMS. In late 2005 Mr. Deal formed Deal Consulting & Dispute Resolution, LLC, offering royalty counseling, regulatory consulting and dispute resolution on natural resources and environmental matters.

In 2006 Mr. Deal was appointed to the Department of the Interior's Royalty Policy Committee, serves as its vice chair, and also vice chair of its new Subcommittee on Royalty Management, which has undertaken a comprehensive policy assessment of the Department of the Interior's royalty management program.

Beyond the Rocky Mountain Mineral Law Foundation, Mr. Deal is an active member of the Association for Conflict Resolution, the ABA Section on Dispute Resolution and is vice chair of the ABA Section on Environment, Energy and Resources Global Oil and Gas Exploration and Production Committee.

Table of Contents

I. Introduction

II. Policy Making: Minerals Management Service Rulemaking and Legislation

III. Adjudication: Decisions of the Federal Courts and the Department of the Interior

A. Statute of Limitations

B. Oil and Gas Valuation

C. Allowances and Marketable Condition

D. Production Measurement and Allocation

E. Rentals and Late Payment Interest

F. Audits and Restructured Accounting

G. Agency Appellate Practice and Procedure

H. Indian Lands: Dual Accounting and Major Portion Analysis

I. Indian Lands: Indian Trust Responsibility

J. Royalty Relief

K. Federal False Claims Act

Appendix A: 2004-2006 Decisions in Alphabetical Order

Appendix B: 2004-2006 Decisions in Chronological Order

Appendix C: 2004-2006 Decisions by Venue

Appendix D: Pending Appeals

I. INTRODUCTION

This paper offers an administrative and judicial update on federal royalty matters for the period 2004-2006. While the paper's focus is agency and court decisions, major royalty-related Minerals Management Service rulemaking and policy making is discussed briefly for context-setting purposes.

Virtually all agency decisions for the 2004-2006 period have been included, although a few decisions may not be publicly available because of confidentiality concerns. Many of the decisions reported address several issues, hence many decisions show up in more than one issue category in this paper.

With two exceptions, all of the decisions reported are grounded on the mineral leasing statutes or royalty management statutes applicable to federal or Indian lands. One exception is a Supreme Court decision addressing a statute of limitations statute of general applicability. Another exception is the cluster of cases involving the Federal False Claims Act.

Finally, this paper addresses in summary fashion certain decisions addressed more fully in other papers presented at this special institute: John Price et al., "Federal Gas Valuation"; Robert O. Wilkinson, "Indian Oil Valuation"; J. Poe Leggette, "Royalty Relief and Incentives"; and Deborah Bahn Haglund et al., "The Federal Oil and Gas Marketable Condition Rule."

II. POLICY MAKING: MINERALS MANAGEMENT SERVICE RULEMAKING AND LEGISLATION

Agency and court decisions are decided in a context. In the 2004-06 period the Minerals Management Service (MMS) brought to closure several initiatives commenced in the mid-1990s, resolving some long-standing issues that generated many disputes, agency appeals and court decisions.

For example, for federal leases, oil valuation rulemaking revising the 1988 Federal and Indian Oil Rule¹ led to a 2000 Federal Oil Rule² that, among other things, substituted market center index prices for benchmarks (most notably posted prices). Although 2000

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Federal Oil Rule was challenged by industry, settlement discussions led to a 2004 Federal Oil Rule. Upon issuance of the 2004 Federal Oil Rule that, among other things, substituted NYMEX index prices for market center prices, IPAA and API elected not to reinstate their challenges of the 2000 Oil Rule and to forego a challenge of the 2004 Oil Rule. Independent Petroleum Association of America et al., cross motions for summary judgment denied without prejudice, (March 17, 2003), case dismissed without prejudice subject to reinstatement after agency issues revised rule (Nov. 21, 2003), Civ. Nos. 00-761 & 00-887 (D.D.C. 2003).

Likewise, rulemaking revising the 1988 Federal and Indian Gas Rule,³ led to a 1997 Federal Gas Rule⁴ reflecting an expansive view of non-deductible marketing costs that survived a legal challenge in Independent Petroleum Association of America et al. v. Dewitt, 279 F. 3d 1036 (D.C. Cir. 2002), rev'g. in part Independent Petroleum Association et al. v. Armstrong, 91 F.Supp2d 117, amended September 6, 2000 (D.D.C. 2000), cert. denied sub nom. Independent Petroleum Association of America v. Watson, No. 02-476, Jan 13, 2003, and led to a 2005 Federal Gas Rule.⁵

Valuation rule changes such as these, increased usage of Royalty Valuation Determinations and Future Valuation Agreements, and the sharply increasing use of Royalty-in-Kind (RIK) instead of Royalty-in-Value to satisfy royalty obligations together offer the prospect of fewer disputes. Indeed, there seems to be a downward trend in agency and court decisions: 10 in 2004, 17 in 2005 and 5 in 2006.

III. ADJUDICATION: DECISIONS OF THE FEDERAL COURTS AND THE DEPARTMENT OF THE INTERIOR

The decisions summarized below encompass federal court decisions of district courts, circuit courts and the Supreme Court and Department of the Interior decisions of the Minerals Management Service (MMS), the Bureau of Indian Affairs (BIA), the Secretary and the Interior Board of Land Appeals (IBLA).

A. Statute of Limitations

In BP America Production Company v. Burton, 127 S. Ct. 1768, 164 L. Ed. 2d 515, 549 U.S. ___ (2006), the Supreme Court has finally resolved a statute of limitations issue that suffused agency royalty appeals for several years including many of the decisions reported below. At the core of this issue is a statute of limitations of general applicability, 28 U.S.C. § 2415(a), which provides in pertinent part:

Every action for money damages brought by the United States or an . . . agency thereof which is founded upon any contract . . ., shall be barred unless the complaint is filed within six years after the right of action accrues or within one year after final decisions have been rendered in applicable administrative proceedings. (emphasis supplied).

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For years, royalty practitioners have routinely asserted the statute of limitations as an affirmative defense in appeals of MMS orders to pay, citing the Tenth Circuit's decision in Oxy USA v. Babbitt, 268 F.3d 1001 (10^th Cir. 2001) for the proposition that an order to pay royalties constitutes an "action" for purposes of 28 USC § 2415(a) and that such an order seeks "money damages" within the meaning of 28 USC 2415(a). However, the MMS (and IBLA) have routinely rejected that defense, citing the Fifth Circuit's earlier conflicting decision in Phillips Petroleum Co. v. Johnson, No. 93-1377 (5^th Cir. 1994), notice of unpublished decision at 36 F.3d 89, cert. denied, 514 U.S. 1092 (1995) for the proposition that an administrative order is not an "action for money damages" and that claims for unpaid royalties are not claims for "money damages" within the meaning of 28 USC § 2415(a).

However, in BP America the Supreme Court has resolved the conflict, holding for the Federal Government that 28 USC § 2415(a) does not apply to MMS administrative payment orders. After granting certiorari on the statute of limitations issue in Amoco Production Co. v. Watson, 410 F.3d 722 (D.C. Cir. 2005), an...