CHAPTER 4 PROPERTY PROVISIONS OF THE JOINT OPERATING AGREEMENT: AN UPDATE FOR THE NEW 2015 FORM JOA
| Jurisdiction | United States |
(Nov 2016)
PROPERTY PROVISIONS OF THE JOINT OPERATING AGREEMENT: AN UPDATE FOR THE NEW 2015 FORM JOA
Associate Professor of Law
Karelitz Chair in Oil & Gas Law
University of New Mexico School of Law
Albuquerque, NM
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ALEX RITCHIE is an Associate Professor of Law and the Leon Karelitz Chair in Oil and Gas Law at the University of New Mexico School of Law where he teaches oil and gas law, advanced oil and gas law, property law, natural resources law, energy law, and business associations. Before joining the UNM law faculty, Alex was the Senior Corporate Counsel for Suncor Energy (U.S.A.) Inc., based in Denver, Colorado. Alex joined Suncor in 2009 after 10 years in the Energy and Natural Resources and Corporate Transactions practice groups at Bryan Cave LLP (formerly Holme Roberts & Owen LLP). Alex is a co-author of the Tenth Edition of Cases and Materials: The Law of Oil and Gas (Foundation Press 2016) (with Martin, Kramer and Hall). Over the course of his career, Alex has represented clients in oil and gas, mining, corporate, securities, commercial, mergers and acquisitions, and environmental matters. Alex has taught and written on oil and gas, mining, environmental, and corporate legal issues.
PROPERTY PROVISIONS OF THE JOINT OPERATING AGREEMENT: AN UPDATE FOR THE NEW 2015 FORM JOA
Originally Authored by Professor Gary B. Conine*
Updated and Revised by Associate Professor Alex Ritchie**
Contents
I. Structuring the JOA
A. Creating (and Revising) the Contract Area
B. The Deemed Lease
C. Failure of Title
D. Structural Transfers
1. Transfers as Penalties
2. Liens and Security Interests
3. Implied Reciprocal Transfers
II. Restrictions on Transfers and Relinquishments
A. Waiver of Partition
B. Preferential Right to Purchase
1. Restrictions on Applicability
2. Obligations and Procedures
3. Mechanical Problems and Complications
C. Maintenance of Uniform Interest
D. Surrender of Leases
E. Abandonment of Wells and Reassignment Duties
III. Distribution of Acquired Interests
A. Acreage and Cash Contributions
B. Area of Mutual Interest
C. Renewal and Extension of Leases
IV. Validity and Enforcement
A. Statute of Frauds
B. Rule Against Perpetuities
C. Rule Against Unreasonable Restraints on Alienation
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D. Application to and Priority Against Assignees and Assignors
1. Pure Contract Analysis
2. Covenants That Run With the Land
3. Notice
V. Conclusion
Introduction
Since the birth of the oil and gas industry, joint operations have facilitated the exploration and development of tracts whose operating rights have been dispersed among co-owners with undivided interests. Joint operations have also enabled the development of pooled and unitized tracts, contributing to efficiency and conservation of a depleting resource. The coordination necessary for all types of joint operations has been achieved primarily through the joint operating agreement,1 which has become the most common instrument in the industry after the oil and gas lease.
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Most analytical papers dealing with the joint operating agreement (the "JOA") have focused on the crucial details of conducting exploration, development, and production operations within the designated contract area and the legal relationship of the parties to the agreement. These papers emphasize the functional aspects of the JOA that commit the parties to participate in and share expenses for, and production from, joint operations. But there are other important provisions in the JOA that adjust the rights and duties of the parties outside the context of actual operations.
In 1988, Professor Gary B. Conine published Property Provisions of the Operating Agreement--Interpretation, Validity, and Enforceability?2 in the Texas Tech Law Review, a highly-cited law review article that examines the provisions of the JOA that expand, limit, and define the property interests of the parties both inside and outside the contract area. These provisions not only clarify the parties' rights with respect to the transfer, acquisition, and loss of interests but also facilitate such matters as the deferral of commitments to participate in future operations. At first glance these provisions may resemble a random collection of property clauses, many of which are found in other instruments used in the industry and appear only peripherally important to joint operations, but they are essential to the structure and effectiveness of the JOA as a long-term transaction. In a sense, these provisions are the "mortar" that holds the procedural "bricks" of the JOA together.
Professor Conine prepared an updated version of his influential article for the 2008 Rocky Mountain Mineral Law Foundation Special Institute on Joint Operations.3 In both his article and Special Institute paper, Professor Conine focused on the 1982 Form JOA. This paper is an update to those prior works to greater emphasize the 1989 Form JOA and cases and developments since its publication, and to address the implications of the revisions to the JOA in the pending (at the time of this writing) publication by the AAPL of its new 2015 Form JOA. Consistent with Professor Conine's 2008 paper, the purposes of this paper are to review and examine (1) the various provisions typically included in the JOA that affect the property interests of the parties, (2) how these provisions are used to structure the operating agreement, (3) the ways in which these provisions are used to protect the integrity of the transaction during its protracted term and promote fair dealing among the parties through restrictions on transfers and acquisitions, and (4) the legal issues
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that often arise with respect to the validity and enforceability of these provisions.
I. Structuring the JOA
The JOA is designed to organize operations on a specific collection of properties. Consequently, the transaction will be dependent on an accurate identification of the boundaries within which its provisions apply. Because allocation of costs and production among the parties for future operations will be determined by the property interests contributed by each, the interests contributed by each party must be clearly described and some agreement must exist on how each party's share of costs and production will be affected if title to all or part of its interest turns out to be defective or fails during the term of the agreement. These functions are performed by Exhibit A to the JOA and the JOAs failure of title provisions.
The JOA also uses the property interests of the parties to facilitate some of its most important provisions. Specifically, property interests define incentives and rewards for participating in future operations and secure the parties' obligations to bear a share of costs in future operations under the "operator lien" provisions.
A. Creating (and Revising) the Contract Area
Operations conducted under the JOA take place within the Contract Area created by the instrument. This area is comprised of the leasehold and mineral interests contributed by the individual parties who execute the JOA, as identified in Exhibit A to the agreement. Within this aggregation of property interests, the operating agreement controls what mineral activities will take place, the party that will conduct those projects, and the manner in which costs and production will be allocated among the parties.
Despite the natural tendency to conceptualize the Contract Area as a region within certain surface boundaries, it is actually a multidimensional zone that may cover less than all mineral substances, less than all development rights, and less than all subsurface depths and formations within its surface perimeter.4 For this reason, Article II of the JOA prescribes several pieces of information that should be included on Exhibit A to obtain a full description of the Contract Area. One of the functions of Exhibit A is to describe the lands subject to the JOA, and another function is to describe the leases and interests subject to the JOA, as well as any applicable depth restrictions, the specific leases or mineral
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properties involved, and the percentage of ownership held by each party within the Contract Area.5 The significance of precision in compiling and reviewing the information in Exhibit A to the JOA can be illustrated by several cases.
In the absence of an AMI provision, leases and interests acquired after the effective date are not usually contemplated by the parties to be covered by the JOA. Consistent with this understanding, in Clovelly Oil Co., LLC v. Midstates Petroleum Co.,6 the court held that the operating agreement's preprinted language limited Exhibit A's definition of the Contract Area to only those leases and interests owned by the parties at the time the agreement was executed, reasoning that the parties could have included an AMI provision if the parties intended the JOA to apply to future leases. Similar arguments were made in Anderson Energy Corp. v. Dominion Oklahoma Texas Exploration & Production, Inc.,7 where the plaintiff asserted that the operator had breached the JOA by acquiring leases and interests within the Contract Area and drilling more than one hundred gas wells. In defense, the operator argued that because the JOA recital stated that the parties are "owners" of leases and oil and gas interests and the definitions of "oil and gas" and "oil and gas interests" are those "owned" by the parties, the parties only intended the JOA to apply to leases and interests owned as of the effective date. In this case, however, the JOA did include an AMI provision. The court rejected the operator's argument, reasoning that because the parties referenced maps naming platting land and because an AMI provision was included in the agreement, the lands and leases...
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