ENERGY LAW ALERT

  
 

The Oklahoma Corporation Commission’s Public Declaration of Waste:  What Just Happened?

By Emergency Order No. 710884 entered in Cause CD No. 202000986 on April 22, 2020, the Commission ruled that “operators/producers may shut-in or curtail oil production from wells where they determine such action is necessary and warranted to prevent economic waste.” The Emergency Order is being touted as a state intervention that would allow operators to shut in oil production without risking the termination of oil and gas leases held in the secondary term. However, it is uncertain whether that goal was accomplished.

At the emergency hearing, Applicant, LPD Energy Company, LLC, argued that the price of oil is so low that in some scenarios, continuing to produce oil may constitute economic waste. LPD Energy stated that shutting in oil wells could provide immediate financial reprieve for many Oklahoma operators who are spending money to operate wells only to keep their leases in effect. Voluntarily ceasing production for a period of time could cause oil and gas leases in the secondary term to terminate, presumably as a breach of the implied covenant to market (although LPD Energy did not explicitly state its reasoning). LPD Energy reasoned that the Commission had the authority under 52 O.S. § 273 to enter an emergency order finding that economic waste may be occurring across the state and, as a result, operators may shut in oil wells when necessary to prevent such economic waste. The Commission granted the requested relief, ordering that “operators/producers may shut-in or curtail oil production from wells where they determine such action is necessary and warranted to prevent economic waste.”[1] Emergency Order No. 710884 is effective through July 16, 2020, or until superseded by another order of the Commission.[2] The hearing on the merits of the base application in the matter is set on May 11, 2020, which would allow the Commission to enter an order with longer effect. It is unclear whether any party will protest the application at that time.

ANALYSIS

The Emergency Order raises the question: can an order of the Commission that generally finds that economic waste may be occurring effectively suspend a lessee’s implied covenant to market[3] production from the well, thereby allowing a lessee to shut in production without causing an oil and gas lease to terminate? Several issues are raised by this proposition and the surrounding circumstances.

First, the Commission’s jurisdiction in conservation matters is limited to public rights issues.[4] While orders of the Commission may affect private rights, the Commission is not empowered to interpret, adjudicate or alter private contracts. So, it is unclear whether an order of the Commission could suspend any contractual obligation of the lessee in the manner described by LPD Energy at the emergency hearing. This seems particularly true here where LPD Energy explicitly stated they were requesting the relief requested so that the Commission could protect LPD Energy from competition from top lessees.

Second, the emergency order as written may not provide the cover LPD Energy was seeking. Paragraph 9 of the findings portion reads, “This order does not relieve any operator of otherwise complying with other existing Commission orders and rules or contractual terms of their oil and gas leases.” The Emergency Order, itself, finds that the order cannot relieve an operator from its contractual obligations. This finding makes sense and would seem to be contrary to LPD Energy’s goal: to be allowed to shut in production without causing its oil and gas leases to terminate.

Third, the Emergency Order ostensibly empowers operators to shut in or curtail oil production from wells “where they determine such action is necessary and warranted to prevent economic waste.” This language theoretically gives operators the sole discretion to determine when economic waste is occurring. However, it is uncertain whether the Commission can delegate that authority to private entities. An operator’s determination that economic waste is occurring would not be supported by the conservation authority delegated to the Commission, and therefore, it is unclear what kind of effect an operator’s determination of economic waste would have. Further, if the lessee is given discretion to determine what constitutes economic waste, and therefore, keeps an oil and gas lease in effect during an extended shut-in, then the lessee in theory has the control to shut in a well indefinitely without the lease terminating. There is uncertainty whether a lessee may be given unilateral authority to determine when the oil and gas lease terminates in this manner. Moreover, if a lessee asserts that economic waste is occurring, has the lessee implicitly admitted there is no production in paying quantities?

Fourth, the Commission has not made any determination that economic waste is occurring in any specific circumstance. The implied covenant to market generally imposes a duty on the lessee to use due diligence to market oil and gas produced within a reasonable time and at a reasonable price. Failure to do so could result in termination of the lease. However, whether the lessee has failed to meet its implied covenant to market is a fact-driven analysis. The generality of the Emergency Order may not be a sufficient showing that waste is actually occurring so as to save a lease in a particular circumstance. Moreover, the Emergency Order does not actually provide lessees with any new authority or course of action that the lessees did not previously have. Operators were empowered to shut-in their wells before the Emergency Order, as they are now.

Operators are struggling and the Corporation Commission is taking its duties seriously during these trying times. That said, operators should be thoughtful before relying on the Emergency Order to suspend contractual obligations in the manner the applicant described at the emergency hearing.

[1] On April 20, 2020, the Commission voted on entry of the proposed emergency order which would become Emergency Order No. 710884. Chairman J. Todd Hiett and Commissioner Dana L. Murphy voted in favor of the proposed emergency order. Vice Chairman Bob Anthony was present but abstained from signing the order.

[2] There was significant discussion regarding whether the Applicant complied with notice requirements in regard to the hearing on the application for emergency order, with the Administrative Law Judge expressing concern at the manner in which notice was provided. However, Emergency Order No. 710884 includes a finding by the Commission that notice was proper.

[3] The lessee’s performance under the implied covenant to market is tested b a reasonable diligence standard. However, before a court of equity will grant a forfeiture, the lessor must demand the covenants be complied with and give reasonable time for compliance. Crain v. Hill Resources, Inc., 1998 OK CIV APP 193, 972 P.2d 1179, 1181.

[4] See Nilsen v. Ports of Call Oil Co., 711 P.2d 98, 102 (Okla. 1985); see also Tucker v. Special Energy Corp., 187 P.3d 730, 734 (Okla. 2008).