CHAPTER 8 EMBEDDING A JOINT OPERATING AGREEMENT INTO AN EXPLORATION CAMPAIGN

• Jurisdiction: United States

Oil and Gas Agreements: The Exploration Phase
(May 2004)
CHAPTER 8
EMBEDDING A JOINT OPERATING AGREEMENT INTO AN EXPLORATION CAMPAIGN
W. Eric West ¹
McDavid, Noblin & West PLLC
Jackson, Mississippi

W. Eric West is a partner with McDavid, Noblin & West PLLC, which has a multi-state natural resource practice and is admitted to practice in both Mississippi and Arkansas.

Eric attended the University of Mississippi and received his B.B.A. in Banking and Finance and his Juris Doctorate degree from the University of Mississippi School of Law.

Eric is a member of the Mississippi, Arkansas, Hinds County, and American Bar Associations and the National Lawyers Association. Eric is active in both the Mississippi and Arkansas Bar Association Natural Resources Law Sections. Eric is a charter/organizing member of the Mississippi Natural Resources Law Section, and is currently its Chair. He has also served as Chairman of the Arkansas Natural Resources Law Section and President of the Mississippi Oil and Gas Lawyers Association. He has served the Rocky Mountain Mineral Law Foundation on various committees and is currently a Trustee. He is also active in the U.S. Oil & Gas Association and the Mississippi Association of Petroleum Landmen. He has authored and spoken at numerous seminars on oil and gas, environmental and business transaction topics for various Bar Association, AAPL and natural resource entities.

I. INTRODUCTION

The process of embedding or integrating a joint operating agreement into an exploration program is a necessary and fundamental process for all exploration projects. If there is no agreement in place which deals with the actual drilling of exploratory wells and subsequent operations, then the idea of the explorationist can never be achieved. A brilliant exploration idea based on the best seismic and geology is worthless unless placed into practice by drilling. The joint operating agreement is the mechanism or tool for achieving testing of the exploration idea. It is critical the operating agreement be consistent with the terms, intentions and aspirations of the exploration idea. It is apparent this process cannot be successfully undertaken without a thorough understanding of the exploration idea and method of carrying out the intentions of the explorationist. An analogy between integrating an operating agreement into an exploration program and the integration of journalists (the embedding) into military units during the war in Iraq is timely and obvious. Thus the title of this article: "Embedding A Joint Operating Agreement Into An Exploration Campaign". In both instances, in order to reach the ultimate goal a method or process is necessary for embedding the (joint operating agreement or journalist) into the campaign. Just as the reporters are necessary to achieve the public support required to sustain and win a war the joint operating agreement is needed to achieve exploration of the prospect. In implementing the military portion of this analogy, the Pentagon studied the issue for several years and conducted mock drills with journalists to be sure that the plan would work. While I do not suggest this much planning is needed to successfully imbed a joint operating agreement into an exploration campaign, the process requires considerable thought and attention.

To begin the process one must understand the nature of both the joint operating agreement and the exploration agreement, how they are related and what they do and do not cover. Williams and Myers defines an "Exploration Agreement" and "Joint Operating Agreement", as follows:

Exploration Agreement: A contract providing for the joint exploration and development of a given prospect or land area. The agreement may be a relatively simple joint operating agreement providing for the drilling of an initial well and any subsequent well, or it may be much broader in scope, not only as to the amount of acreage included, but also as to the kinds of operations and contractual relationships intended to be created thereunder. See C. Salazar, Handbook on Drafting Oil and Gas Exploration Agreement (A.B.A. Natural Resources, Energy, and Environmental Law Section Monograph Series No. 14, 1991).

Geosouthern Energy Corp. v. Chesapeake Operating, Inc., 241 F. 3d 388, on later appeal, 274 F.3d 1017 (5%gth%g Cir. 2001), held that a joint development and exploration agreement requiring a party to respond to a request to participate in a particular prospect "not less than 15 days" after receipt of notice was enforceable as written as the prerequisites for reformation of a written instrument had not been met.

Joint Operating Agreement: An agreement between or among interested parties for the operation of a tract or leasehold for oil, gas and other minerals. This type of agreement is frequently entered into before there has been any development. Typically the agreement provides for the development of the premises by one of the parties for joint accounts. The parties to the agreement share in the expenses of the operations and in the proceeds of development, but the agreement normally is not intended to affect the ownership of the minerals or the rights to produce, in which respects, among others, the joint operating agreement is to be distinguished from unitization agreement and from a mining partnership. A joint operation may be carried on by a variety of means other than by a joint operating agreement, including the following: joint adventure, partnership, corporation or trust. See Treatise § 503.2.

The joint operating agreement does not result, as do these other methods of conducting a joint operation, in the creation of a separate tax entity. If the agreement between the concurrent owners includes the sale or disposition of the products produced, however, it may result in the creation of the partnership for tax purposes. See Burke and Bowhay, Income Taxation of Natural Resources; 10.02-10.08 (1981). The joint operating agreement must provide either that each co-owner has a right to take his share of production in kind or that the authority of the operator to market the production shall be revocable at the will of the other concurrent owners if taxability as an association is to be avoided.

Patrick H. Martin and Bruce M. Kramer, Williams & Myers Oil and Gas Law, Manual of Terms

While the use of a form joint operating agreement can be relatively simple under some circumstances, this is generally not true for most situations. A standard form of joint operating agreement generally is designed for a one well program on a single state proration unit. Any attempt to use a standard form joint operating agreement in other circumstances requires changes to the operating agreement to insure the intent of the parties regarding the exploration idea successfully takes priority over all other matters. I do not believe it is possible to integrate a joint operating agreement into an exploration program using an unchanged joint operating agreement form except in the one well situation just mentioned. The failure to go through the process of determining the intent of the explorationists (including geologic, geophysics, engineering, land and capital needs) and deciding how each is to be carried out under the joint operating agreement is an absolute disaster waiting to happen. Just as you would not use a chain saw to unclog a plugged drain you would not use a standard form joint operating agreement in an exploration program which contemplates multiple wells, prospects or activities.

The successful embedding of a form joint operating agreement into an exploration program requires going through the process of understanding (1) the geological, geophysical, engineering, and land aspects of the exploration program, (2) the capital requirements, (3) the economic terms of the trade and (4) the thoughts and anticipated problems of the explorationists. These matters must be taken into consideration in changing or creating the joint operating agreement to deal with matters expressed in the exploration agreement. This includes verifying that definitions and concepts are similar and that the normal terms of the joint operating agreement do not impede either explicitly or implicitly with the ideas, goals and direction of the exploration agreement.

II. COMPARISON OF THE JOINT OPERATING AGREEMENT (A.A.P.L.-610-1989) WITH THE EXPLORATION AGREEMENT²

Articles	Joint operating agreement	Exploration Agreement
I.	Definitions	Defined Terms-Few To Many
Defines 18 Terms
II.	Exhibits
A.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Descriptions	A.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Land Description
B.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Form of Lease	B.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Description of Leases
C.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Accounting Procedure	C.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;AFE
D.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Insurance	D.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;JOA
E.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Gas Balancing
F.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Non-Discrimination
G.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Exhibit "G", Tax Partnership
H.&TLRnbensp;&TLRnbensp;&TLRnbensp;&TLRnbensp;Other
%w
III.	Interest Of Parties	Stated, but individually drafted for each
Stated, but printed form provisions are	project. Sometimes so unique as to be
used.	ambiguous.
IV.	Titles	Usually no provision or a brief provision
Detailed provisions covering title	for mutual sharing of loss.
examination, failure of tile, loss by
non- payment, curing title.
V.	Operator	Each is different but generally shared
Designates a single operator with	management.
numerous provisions as to rights and
duties, removal, bankruptcy.
VI.	Drilling and Development	Always covered but in general, custom

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