Neither Fish nor Fowl: The Louisiana Law of Shut-in Gas Wells

• Author: Patrick S. Ottinger
• Position: Member, Louisiana and Texas Bars; Adjunct Professor of Law, Paul M. Hebert Law Center
• Pages: 44-97

Page 44

I Introduction

A Rationale for the "Shut-in Clause"

The production of natural gas presents a multitude of unique issues and challenges that are generally not applicable to the production of oil. By its very nature, gas in its natural form cannot be stored and, when and as produced, must be immediately delivered to the market. The production of gas necessarily involves capital expenditures to install or construct pipelines and sometimes processing facilities. If gas production is established in remote or undeveloped areas, the laying of a pipeline might involve a great deal of permitting from governmental agencies or sophisticatedPage 45 landowners. Moreover, a purchaser might not be willing to expend the significant sums involved in constructing a pipeline unless assured that adequate reserves are committed to the repayment of construction costs. If the gas is too "rich" or too "wet," or does not meet the specifications of the pipeline, the gas may need to be processed, which would necessitate the arrangement of processing facilities.

In contrast, an oil well does not present similar issues or challenges. Being a liquid, oil is susceptible to storage in tanks. The sale of liquids does not typically involve the extensive facilities or infrastructure that are often required for the gathering, transportation, processing, or marketing of gas production.

These gas necessitated matters take time-and money-to resolve. While these issues are being resolved, the well otherwise capable of producing is not producing-it is "shut-in."¹ How does the lessee maintain a mineral lease when the lessee has drilled a well that is not in fact producing, but that obviously will produce at some future date?

A well that is shut-in is, self-evidently, a well that is not producing, but it is also a well that-under the "standard form" of mineral lease² and the Louisiana Mineral Code-gives rise to certain consequences relative both to lease maintenance as well as to the perpetuation of a mineral servitude or mineral royalty, if such exist.

Concerning the maintenance of a mineral lease that covers lands on which a shut-in well is situated, the "standard form" of mineral lease usually permits, under certain circumstances and for a certain period of time, the lessee to continue the mineral lease by paying a shut-in payment-which may either be characterized as a "royalty" or a "rental." Halfway between here and there, the shut-in well is "neither fish nor fowl."³

This Article considers the myriad of issues and challenges that arise under Louisiana law in connection with the shut-in gas well and the tender of a shut-in payment, however characterized. If onePage 46 had to conjure a song that captures the essence of a mineral lease on which exists a shut-in well, perhaps "Money for Nothing" by Dire Straits would come to mind. Although there have been several articles that have examined the "shut-in clause" under Louisiana law, the subject has not been reviewed in depth in a number of years.⁴

In considering these matters, it is appropriate to recognize the natural tension between the lessee and the lessor in a situation involving a shut-in well. The lessee has expended significant amounts of money to drill a well and to discover hydrocarbons, and now has to await the finalization of marketing arrangements and the construction of facilities before experiencing any positive cash flow. Correspondingly, the lessor-not averse to playing the "what have you done for me lately" card-only knows that "his well" is not producing and, if the lessee is not producing and is not drilling a well, how is "my lease" being maintained? What is in it for me?

B "Habendum Clause"

Any consideration of these issues necessarily begins with the "habendum clause." The "habendum clause" is the mineral lease provision that specifies the duration of the mineral lease, both during and after the primary term. A standard "habendum clause" might read as follows:

This lease shall be for a term of ___ years and ___ months from the date hereof (called "primary term") and so long thereafter as oil, gas or some other mineral is being produced or drilling operations are conducted either on this land or on acreage pooled therewith, all as hereinafter provided for.

Sometimes called the "thereafter" clause, it states the general proposition that the mineral lease may be maintained in force andPage 47 effect during the primary term and "thereafter" in the manner specified in the mineral lease.

The courts of Louisiana take a very strict view of the "habendum clause" of the mineral lease. For example, in the early case of Smith v. Sun Oil Co., Inc.,⁵ a lessor sued his lessee to declare the mineral lease to have terminated. Although not quoted in this decision, one finds from an earlier case⁶ involving the same parties and the same mineral lease that the "habendum clause" stipulated that the mineral lease was granted for a primary term of three years, and so long thereafter as oil, gas or any other mineral is produced therefrom . . . or as long thereafter as lessee, in good faith, shall conduct drilling or mining operations thereon, with the right, if such operations result in production, to continue this lease as long as oil, gas or other mineral shall be produced.⁷There existed on the land two shallow gas wells, capable (perhaps) of producing from half a million to a million feet of gas per day. But [observed the court] the fact is that there is no market for said gas, that the only gas used from said wells was a few thousand feet which were used by the driller of said well.⁸The court found that the mineral lease had lapsed by its own terms, saying:

We are of opinion that the lease has now ceased to produce either oil or gas in paying quantities. Where the output of a gas well either cannot be, or in fact is not, disposed of, the well cannot be said to be a paying proposition either for the owner of the land or for the owner of the well; and, where a well has ceased to be a paying proposition for any one concerned, it has clearly ceased to produce gas in paying quantities. We think the lease has expired by its very terms.⁹Relying on Smith, the Louisiana Supreme Court in Pace Lake Gas Co., Inc. v. United Carbon Co.,¹⁰ stated that the "mere findingPage 48 of gas in paying quantities is not a compliance with the contract of lease. Gas must be produced within the required time; that is, withdrawn and reduced to possession for use in commerce."¹¹

This strict view of the "habendum clause" was continued in Landry v. Flaitz.¹² In that significant case, the plaintiff-lessor sought cancellation of a mineral lease for failure to produce oil during the primary term. The mineral lease was granted on March 29, 1957, for a primary term of three years. On January 25, 1960, the Hebert well was completed and shut-in on nearby property.

On March 28, 1960 (the day before the last day of the lease's primary term), the Commissioner formed a unit containing 53.97 acres, of which 9.245 acres were from the plaintiff's lands covered by defendant's mineral lease. An allowable to produce the then unitized Hebert well was issued effective April 1, 1960,¹³ and a potential test was run on April 4, 1960. Production began on the same day. "From the foregoing recital of facts, it is clear that there was no production from the lease in controversy or from land pooled or unitized therewith within the primary term of the lease."¹⁴ Judgment was granted in the trial court in favor of plaintiff-lessor. On appeal, the court of appeal reversed and rendered judgment for defendant-lessee. The supreme court reversed and reinstated the trial court's judgment in favor of the plaintiff-lessor.

The court held that the mere fact that oil was discovered in the unit, in which part of plaintiff's land was included, was not sufficient to maintain the mineral lease. Said the court:

Discovery of a well capable of producing minerals in paying quantities does not satisfy the requirement that oil, gas or some other mineral be produced under the habendum clause in order to continue the lease in full force and effect beyond the primary term. In the case of an oil well there must be...