CHAPTER 7 LIABILITIES OF NONOPERATING OIL AND GAS INTEREST OWNERS
| Jurisdiction | United States |
(May 1983)
LIABILITIES OF NONOPERATING OIL AND GAS INTEREST OWNERS
DAVIS, GRAHAM & STUBBS
Denver, Colorado
Oil and gas properties are commonly developed through multiparty agreements permitting the combination of talents and properties and the spreading of risk. In any such joint undertaking, the delegation of operational responsibility is imperative to the efficient conduct of the project, and in the oil and gas industry the "joint operating agreement," with its delegation of management and control of joint operations to one co-owner as "operator," has become the basic contractual vehicle for the apportioning of mutual rights and responsibilities among co-owners who desire to retain their individual mineral ownership as well as some degree of control over the extent of their participation in any given phase of the venture. The nonoperating mineral owners may, under such agreements, retain varying rights of approval, inspection, auditing and even operational control, depending on their relative expertise or perhaps on the community of interest existing among them, but a characteristic of nearly every such venture is the expressed desire of the parties to avoid joint and several liability for third-party claims.
This paper considers the degree to which nonoperating oil and gas mineral owners can successfully avoid such liability. It will describe the legal relationships recognized by the courts to inhere in the concept of joint mineral operations, and will analyze the liabilities of nonoperators for contract and tort claims asserted by third parties as well as for civil or criminal penalties imposed by governmental authority. The focus of the paper will be the A.A.P.L. form joint operating agreement, since that is the instrument which both attorney and client ordinarily anticipate utilizing and since so much of its content reflects the careful attention of experienced oil and gas practitioners. The objective of the paper is to aid the practitioner in evaluating the relative merits of joint operations vis-a-vis organizational vehicles affording more protection and less control, and to suggest drafting and operational means of minimizing direct client exposure to third-party claims in the context of joint operations.
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I. BASIC ENTERPRISE CHARACTERISTICS
A. Mining Partnership.
The mining partnership has been the subject of extensive commentary since its recognition by the courts of the western states in the nineteenth century as a means of formalizing the relationships of the mining camps.1 It is a partnership relation imposed by law, independent of—and often antagonistic to—express contractual declarations, which even in modern courts is invoked to impose joint and several liability on nonoperating interest owners in favor of third parties transacting business with or injured by a mineral venture. Judge Brimmer has characterized the mining partnership as the "concealed thorn upon which many a pair of unwary legal breeches has been torn,"2 and an understanding of its characteristics is essential to any consideration of nonoperator exposure.
A mining partnership arises "when two or more persons own or acquire a mineral interest or a right to work it, and actually engage in the joint operation of the enterprise."3 Although it originated in connection with hard-rock mining, courts have applied it to oil and gas operations as well.4 Codified by statute in several states,5 it is a relationship imposed by operation of law upon joint mineral operations possessing certain characteristics, and neither the absence of any formal agreement among the parties nor contractual disavowals of the intention to create a partnership will generally be of significance in the context of third-party suits.6 These characteristics are generally described as joint ownership, joint operation, and the sharing of profits and losses, and all must be present to sustain a finding of mining partnership.7
Joint ownership. Concurrent, present co-ownership of a mineral interest is a necessary, although not sufficient, condition to the existence of a mining partnership.8 Such co-ownership can be equitable or beneficial9 , but ordinarily must not be contingent upon a future event that has not occurred, as in the typical farmout agreement requiring the drilling of a well prior to vesting of the interest.10 Ownership of a security interest11 or of an interest in production only12 is ordinarily not sufficient co-ownership, although such arrangements when coupled with conditions of joint operations may suffice, just as co-ownership itself may be inferred from acts of cooperation in the enterprise.13 Present, vested leasehold or possessory mining claim cotenancy clearly suffices.14
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Joint Operations. Co-ownership without more is insufficient to create a mining partnership; the co-owners must unite in the working of the mineral property.15 Thus, an agreement in the nature of a grubstake contract, contemplating one party's financing of mineral interest acquisition for the joint benefit, does not create a mining partnership.16 The parties must be jointly involved in operations necessary to make the property productive.17 Such joint involvement need not take the form of active physical work on the premises by all co-owners but can include the furnishing of "labor, equipment, supplies, services, or advice."18 The delegation of operational responsibility to an agent or to one of the co-owners on behalf of all thus does not preclude a finding of mining partnership,19 and it is this element that proves most troublesome in the cases for the passive participant who does little more than invest his funds and retain minimal participation in the actual conduct of the enterprise.20
Sharing of Profits and Losses. The common law requires an agreement for the sharing of profits, although a court may infer such agreement from the nature of the enterprise.21 The fact that each participant, as in the ordinary oil and gas venture, takes his share of production in kind is not ordinarily material,22 but it is essential that the participant share in profits as such and not by way of compensation for the use of money or personalty, personal services or the drilling of a well.23 Courts have also frequently stated that loss-sharing is an additional requirement, but they are willing to imply such sharing as an incident of the enterprise or to ignore the requirement entirely.24 The states that have codified the law of mining partnership determine by statute the sharing of profits and losses in the absence of agreement.25
The principal characteristic differentiating a mining partnership from a general partnership is the lack of delectus personae, the "choice of person." The mining partnership will continue with respect to the property subject to it regardless of change in ownership of the underlying mineral interests by assignment, death, operation of law or otherwise.26 For this reason, as will be discussed in more detail infra,27 the authority of a partner of a mining partnership to bind his associates is more limited than that ordinarily possessed by a general partner. If a mining partnership is found to exist, however, the partners may be held jointly and severally liable for indebtedness or liability incurred by one of their number within the actual or apparent scope of the enterprise.28
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B. Joint Venture.
Although the mining partnership is a form of joint venture and has many of the same elements, there are some differences between the two concepts. The joint venture, as a relatively modern creation, is more flexible and thus adaptable to various forms of enterprise, and as a creature of contract is more compatible with the expectations of the parties.
The term "joint venture" has been variously defined; Williston29 defines it as
an association of two or more persons based on contract who combine their money, property, knowledge, skills, experience, time or other resources in the furtherance of a particular project or undertaking, usually agreeing to share the profits and the losses and each having some degree of control over the venture.
Although a joint venture is said to be based on agreement of the parties, unlike a mining partnership which can be imposed by operation of law in the absence of agreement, a joint venture may exist as to third persons in the absence of contract if the venturers have misled such person by their conduct or if they intended to perform acts amounting to a joint venture.30
The characteristics of a joint venture are as follows:
Contributions. The parties must each contribute, although not necessarily equally, something of value to the enterprise.31 Any combination of skills, property, funds or other resources can suffice.
Community of Interest. There must be a "res" of the enterprise; the venturers must have a joint interest in the resources contributed, not a several one.32 Having a common objective, or acting in concert, is not the test. Rather, community of interest means "an interest common to both parties, that is, a mixture or identity of interest in a venture in which each and all are reciprocally concerned and from which each and all derive a material benefit and sustain a mutual responsibility."33 Thus, joint ownership alone does not create community of interest, and cotenants of a mineral property are not joint venturers merely as a result of their co-ownership.34 On the other hand, joint ownership is apparently not necessary to create a joint venture so long as there is a joint interest in the objective of the enterprise.35
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Mutual Control. As in mining partnership cases, it is this element that often proves most important in determining whether an enterprise constitutes a joint venture, and many joint venture judicial opinions are consumed by analysis of the question of control. In general, some degree of...
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