POOLING AND UNITIZATION METHODS ACROSS SHALE BASINS (OR LACK THEREOF): POOLING AND UNITIZATION IN THE MARCELLUS AND UTICA PLAYS IN OHIO, PENNSYLVANIA, AND WEST VIRGINIA
| Jurisdiction | United States |
(May 2014)
POOLING AND UNITIZATION METHODS ACROSS SHALE BASINS (OR LACK THEREOF): POOLING AND UNITIZATION IN THE MARCELLUS AND UTICA PLAYS IN OHIO, PENNSYLVANIA, AND WEST VIRGINIA
Associate General Counsel
Energy Corporation of America
Charleston, West Virginia
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BENJAMIN M. SULLIVAN is a graduate of the University of Kentucky and the West Virginia University School of Law, Following law school, Mr. Sullivan practiced law with the Charleston, West Virginia law firm of Lewis Glasser Casey & Rollins PLLC, concentrating his practice on energy, real property, commercial development, general corporate, and commercial litigation. In 2006, he joined the legal department of EQT Corporation, an integrated natural gas company based in Pittsburgh. In 2012, Mr. Sullivan joined Energy Corporation of America, an oil and gas production and midstream company based in Denver with holdings throughout the United States and abroad, as Associate General Counsel. He focuses primarily on transactional work, including acquisitions, divestitures, joint ventures, leasing, and financing mechanisms. Mr. Sullivan is a trustee of the Energy and Mineral Law Foundation and has spoken frequently at various industry conferences and events.
§ 1 History of Pooling and Unitization
§ 2 Rule of Capture
§ 3 Well Spacing / Setbacks
§ 4 Pooling and Unitization Concepts
§ 5 Explanation of Voluntary vs. Compulsory
§ 6 Voluntary Pooling and Unitization
[6.1] Overview
[6.2] Elements of Lease Provision; Samples
[6.3] How to Exercise Rights
[6.4] Duty to Exercise in Good Faith
[6.5] Pugh Clauses; Anti-Dilution Clauses
§ 7 Compulsory Pooling and Unitization - Ohio
§ 8 Compulsory Pooling and Unitization - Pennsylvania
§ 9 Compulsory Pooling and Unitization -- West Virginia
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§ 1 History of Pooling and Unitization
Although many casual observers regard the commencement of the modern oil and natural gas production industry as being the drilling of the Lucas gusher in 1901 in the Spindletop dome area near Beaumont, Texas, by Captain Anthony F. Lucas, the industry actually got its start in Appalachia in 1859 with the drilling of an oil well in Titusville, Pennsylvania, by Colonel Drake. In fact, as early as 1819, oil was produced near Freeport, Virginia (now West Virginia), by George Lemmon.2 Due to the fugacious and highly communicative nature of oil and natural gas it quickly became apparent to operators, landowners, and regulators that there was a need to develop a legal and operational framework to prevent waste and protect the correlative rights of impacted mineral owners (who may otherwise be adversely affected by the "rule of capture") by allowing for the orderly drilling and production of a sufficient number of wells to produce the minerals;3 that framework was voluntary and compulsory pooling and unitization, accompanied in certain circumstances by well spacing statutes and regulations.
§ 2 Rule of Capture
A high-level understanding of the rule of capture is necessary prior to delving into the intricacies of pooling and unitization. The rule of capture was aptly described by the United States Fourth Circuit Court of Appeals as follows - "Oil and gas belong to the owner of the land, and are part of it, so long as they are on it or in it subject to his control; but when they escape and go into other land, or
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come under another's control, the title of the former owner is gone. If an adjoining owner drills his own land, and taps a deposit of oil or gas, extending under his neighbor's field, so that it comes into his well, it becomes his property."4
The rule of capture was developed in the industry's infancy, with the Pennsylvania Supreme Court opining as early as 1889 that "Water and oil, and still more strongly gas, may be classed by themselves, if the analogy be not too fanciful, as minerals ferae naturae. In common with animals, and unlike other minerals, they have the power and the tendency to escape without the volition of the owner. ... They belong to the owner of the land, and are part of it, so long as they are on or in it, and are subject to his control; but when they escape, and go into other land, or come under another's control, the title of the former owner is gone. Possession of the land, therefore, is not necessarily possession of the gas. If an adjoining, or even a distant, owner, drills his own land, and taps your gas, so that it comes into his well and under his control, it is no longer yours, but his."5 The practical result of the rule of capture was that upon the drilling of a successful well, oil and gas owners and lessees in the vicinity would routinely attempt to drill new wells on their own land, as close as possible to the successful well, in an attempt to replicate the preexisting well's success and to prevent their own property from being drained without compensation or royalties being proffered to all parties with an interest in the minerals being produced. This resulted in a free for all of drilling and production activity.
§ 3 Well Spacing / Setbacks
In order to combat the waste and inefficiencies sometimes created by the rule of capture and to safeguard public health and safety, most states enacted conservation laws that promoted systematic development of common pools and acreage through permitting, drilling and operating rules,6 as well as well spacing regimes. Well spacing regimes were
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first enacted on a large scale by the Texas Railroad Commission in 1919 and prohibited drilling wells less than 300 feet apart or less than 150 feet from an existing property or lease line.7 Rule 37 is an excellent model of the two primary components to the majority of spacing / conservation rules that often are seen in Appalachia - a well to well spacing rule combined with a property/lease line spacing rule, although some States also include an overlay of "special rules" or "field rules" that apply to certain formations or areas of a State (for example, creation of spacing square boxes across a certain portion of a State whereby only one well may be drilled inside each box); however, it is important to note that spacing rules vary from state to state and in some cases do not apply to particular classes of wells.8 For example - in Pennsylvania natural gas wells that do not penetrate the Onondaga formation are considered "shallow wells" and are in many cases subject to a 1,000' well-to-well spacing rule and 2,000' well cluster (multiple wells on a single pad) to well cluster spacing rule9 whereas natural gas wells that penetrate the Onondaga formation are classified as "deep wells" or "conservation wells" and are not subject to a well-to-well spacing rule but are subject to a 330' lease/property line spacing rule.10
With the creation of spacing rules came the need for pooling of multiple parcels of land together in each state-mandated spacing unit in order to acquire a drilling permit, and thus pooling was born. Of course, there are often reasons why an operator may desire to pool a unit even if spacing rules do not require the same, for purposes of protecting against drainage, fairly apportioning royalties, and developing an area in an methodical fashion.
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§ 4 Pooling and Unitization Concepts
The terms "pooling" and "unitization" are used interchangeably by many people who are both inside and outside the petroleum industry, but there is an important distinction between the two concepts. Pooling is the "the bringing together of small tracts sufficient for the granting of a well permit under applicable spacing rules whereas 'unitization,' ... means the joint operation of all or some part of a producing reservoir."11 Essentially, pooling and unitization allow an operator to efficiency develop and produce a pool or drilling unit without the risk of overdeveloping or underdeveloping the same, allows for the use of multiple tracts for facilities that benefit the pool / unit, and allows for fair distribution of costs, expenses, and royalties to all impacted parties.
Among the potential risks that may befall an operator who creates a pool or unit without contractual or statutory pooling and unitization powers are claims of trespass or improper royalty allocation, although depending on the circumstances there are scenarios in which those risks may be completely or partially alleviated.
This paper will review the concepts as the same relate to the production of oil and natural gas from the Marcellus and Utica formations in Ohio, Pennsylvania, and West Virginia.12 Without pooling and unitization, and in
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certain circumstances statutory setbacks and unit composition guidelines, the orderly development of oil and natural gas plays would be a pell-mell affair whereby wells would be drilled without regard to proper spacing and resource recovery. Such unguided development activities, prevalent in the Titusville and Spindletop days,13 may result in grossly inefficient and wasteful use of (i) capital, (ii) the surface for drilling and infrastructure locations (including roads and pipelines), and (iii) water, as well as lost reserves that are not produced due to unknown, unlocatable, or anti-development owners and lessees or otherwise inaccessible drilling locations.
§ 5 Explanation of Voluntary vs. Compulsory
Pooling and unitization may be accomplished in one of two ways - either voluntarily pursuant to the rights and benefits set forth under an oil and gas contract (such as a lease) or under a compulsory statutory scheme enacted by a State's law making body. The benefits of proceeding under voluntary contractual rights are many, as will become apparent from this paper's discussion of the strict rules regarding notice, hearings, time lines, and potential appeals that are a part of the compulsory pooling and unitization landscape.
§ 6 Voluntary Pooling...
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