THE IMPACT OF UNIT EVENTS AFTER THE APPROVAL OF THE UNIT UPON FEDERAL OIL AND GAS LEASES
| Jurisdiction | United States |
(Jan 1990)
THE IMPACT OF UNIT EVENTS AFTER THE APPROVAL OF THE UNIT UPON FEDERAL OIL AND GAS LEASES
Bureau of Land Management
Denver, Colorado
Table of Contents
I. Drilling Extension
A. Diligence Standards to Qualify for Extension
B. Need to Penetrate a Communitized or Unitized Formation
C. Rental Payment Requirement
D. Drilling Extension Available Even if Lease Has Already Been Extended
II. Completion of a Well as a Producing Well on a Lease Basis—Yates Petroleum Corp. et al.
A. Possible Exemption From Automatic Termination
B. Rental Rate of Noncompetitive Leases
III. Establishment of a Participating Area
A. Indefinite Extension of All Committed Leases
Exception if Production Ceases Prior to Unit Termination
B. Creation of AFS Accounts for Leases
C. Creation of Royalty and Rental Accounts for Participating Leases
D. Possible Lower Rentals for Noncompetitive Leases
E. Adjustments to Accounts
F. Subsequent PAs, Revisions, and Consolidations
G. Mandatory Nature of Rental Obligations after Approval of PA; Exemption from Automatic Termination
H. Other Production Attributable to the Leasehold
1. A Pre-unit Well
2. A Unit Well Capable of Producing on a Lease Basis Only
3. A Unit Well Producing From Nonparticipating Formations
4. Wells Completed on Nonparticipating Acreage or Formations after Contraction
I. Effect of Production on Federal Leases in Communitization Agreements
IV. Contraction
A. Effect on Participating Leases
B. Effect on Nonparticipating Leases
1. Extension of Term
2. Rental/Royalty Status
3. Transfer of Account Responsibility
4. Potential Account Deficiency in Rental
5. Restoration of Acreage Accountability
V. Termination
A. Similarity to Contraction/Elimination From Unit
B. Termination Without Contraction
C. Termination After Contraction
D. Change of Rental/Royalty Status of a Lease
E. Termination of Communitization Agreements
Conclusion
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This paper will discuss the effects upon the Federal oil and gas leases committed to an exploratory unit agreement of events occurring after the final approval of a unit, with primary emphasis upon changes to the rental and royalty status of the leases. Several references will be made to communitization agreements to demonstrate how comparable events in the two types of agreements have similar or dissimilar effects on such leases.
Papers 8 and 15A have discussed in some detail the requirement that the public interest requirement be fulfilled by the unit operator to avoid a retroactive determination that the unit was "invalid ab initio." Similar invalidation may occur in communitization agreements. The following discussion assumes that the public interest requirement has been or will be met by the operator.
I. Drilling Extension.
The first potential effect upon the term of a Federal oil and gas lease after an exploratory unit or communitization agreement has been approved is an extension of the lease term for two years because the operator commenced drilling in the unit or communitized area and is diligently pursuing the same over the end of a committed Federal lease's primary term. In the unit situation, the Mineral Leasing Act provides:
Any lease under this section for land on which, or for which under any approved cooperative or unit plan of development or operation, actual drilling operations were commenced prior to the end of its primary term and are being diligently prosecuted at that time shall be extended for two years and so long thereafter as oil or gas is produced in paying quantities.1
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Another portion of the same section provides essentially identical benefits for drilling in a communitization agreement.2 As operators would normally want to keep committed leases in effect to allow further development, rather than allow them unnecessarily to expire and subject the lands to the vagaries of reissuance, if at all, with more restrictive stipulations and possibly higher acquisition and carrying costs, the reward of a drilling extension may be as much, if not more, incentive to diligent drilling than any times specified in the unit agreement.
A. Diligence Standards to Qualify for Extension. The general standard for determining if the drilling is diligently being prosecuted is whether the drilling conforms to the effort that "anyone seriously looking for oil or gas could be expected to make in that particular area, given the existing knowledge of geologic and other pertinent facts. In drilling a new well..., it shall be taken to a depth sufficient to penetrate at least 1 formation recognized in the area as potentially productive of oil or gas, or where an existing well is reentered, it shall be taken to a depth sufficient to penetrate at least 1 newer and deeper formation recognized in the area as potentially productive of oil or gas." 43 CFR § 3107.1 (1988). The definition of "'actual drilling operations' includes not only the physical drilling of a well, but the testing, completing or equipping of such well for production." 43 CFR § 3100.0-5(g) (1988). Generally, diligence can be met if some actual drilling occurs (even with a spudder rig) prior to midnight of the date the lease would reach the end of its primary term, and within a reasonable period thereafter, the drilling is continued with a normal rig and continues with normal dispatch. However, actual drilling is required prior to the end of the primary term; road and site preparation can not substitute for the drilling itself.
B. Need to Penetrate a Communitized or Unitized Formation. Where drilling is within a communitized area or where an exploratory unit agreement covers less than all the formations in the lands, the diligence standard will not be met until at least one communitized or unitized formation is penetrated unless an authorized officer determines that further drilling would be unwarranted or impractical.
C. Rental Payment Requirement. An important adjunct to a drilling extension is that the interested parties must ensure that the rental for the first year the lease will be extended by such drilling is timely paid to the Bonus and Rental Accounting Support System (BRASS) of the Minerals Management Service (MMS). Normally, the extension will begin on the
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anniversary date of the lease and such rental will be due not later than the day the lease enters its extended term. Since the lease will be scheduled to expire according to BRASS records, no notice of rental due will be sent to a lessee. Unless there is some basis for otherwise considering the lease held by production before it enters a term extended by drilling, a lease so extended will terminate if the rental is not paid on time. While amendments made to the Mineral Leasing Act in 1982 allow most such leases to be reinstated, it would normally be at the price of increasing both the rentals to $5.00 or $10.00 per acre and the royalties to a minimum of 16 1/2 per cent, beginning with the lease year where the payment was not made on time.
D. Drilling Extension Available Even if Lease Has Already Been Extended. In connection with drilling extensions, the lessee of any lease whose term has been extended by some other event, such as unit segregation or the termination of an earlier unit or communitization agreement, should keep in mind that any such extension does not deprive the lessee of a subsequent drilling extension at the time when the lease reaches the end of its primary term. Thus if a lease is issued for ten years effective February 1, 1980, and a unit to which it was committed terminated effective May 15, 1989, thereby extending the lease through May 15, 1991, the lease can nevertheless still be extended by diligent drilling over January 31, 1990, to midnight January 31, 1992. As with any diligent drilling extension, such drilling can be on the leasehold or any unit or communitization agreement to which the lease is then committed. As BLM field and state office officials are unlikely to be concerned with the necessity for timely drilling where the lease still has an period of time to run, the lessee or operator should call the entitlement to such an extension to the attention of BLM at the time of drilling.
II. Completion of a Well as a Producing Well on a Lease Basis (Yates).
For several years prior to the decision of the Interior Board of Land Appeals (IBLA) in Yates Petroleum Corp. et al., 67 IBLA 246, 89 I.D. 480 (1982), the Geological Survey felt that for a producing unit well to extend all leases committed to the agreement, the well would have to be capable of producing unitized substances in a quantity sufficient to produce a profit over and above the costs of drilling, completing, and producing operations, in short a well that generates approval of a participating area. The unit definition of paying quantities, found in Section 9 of the Model Form Agreement, however, is a higher standard than that required to extend a non-unitized or communitized lease by production, where production in paying quantities is normally considered to be a return above the costs of of operation and marketing, even though the initial drilling cost may never be recovered.
In the Yates case, IBLA ruled that completion of a unit well on a basis sufficient to extend an individual lease was sufficient to extend all committed Federal leases beyond any fixed expiration date from the time the well became capable of such production until the lease was no longer
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committed to the unit, provided the well's capability to produce continued. The IBLA determined that it was illogical to interpret the two words "paying quantities" differently in two paragraphs of the same section of the Mineral Leasing Act:
Each such lease shall continue so long after its primary term as oil or gas is produced in paying quantities...
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