Pennsylvania Oil & Gas Lease Cancellations – CASE TRACKER SERIES (Part 1)
In Pennsylvania…
a significant case for the Oil and Gas Industry is presently unfolding in SLT Holdings, LLC v. Mitch-Well Energy, Inc., No. 542 WDA 2018 (Pa. Super. Ct. 2019). This case could prove pivotal for both landowners and oil and gas operators, particularly in the old oil patches in the northern tier and southwestern Pennsylvania.
The Case
SLT Holdings, LLC v. Mitch-Well Energy, Inc. involves two tracts of land in Warren County, PA that were leased for oil and gas development by landowners in 1985. Subsequent to this, SLT Holdings, LLC, et al acquired ownership of the mineral estate beneath the two tracts and Mitch-Well Energy, LLC was assigned the leases covering the same. Both leases included “drill or pay” clauses, requiring a minimum number of wells to be drilled on the leased premises, and specified a minimum annual payment (delay and shut-in) threshold, such that if royalties did not exceed the minimum payment threshold, the operators under the leases were to pay the difference.
Between 1996 and 2013, the wells that were drilled on both properties did not produce oil and gas in marketable quantities and Mitch-Well did not make the required minimum payments under the leases. Then, in 2013, Mitch-Well entered onto the leased premises, and pumped and sold oil purportedly pursuant to the leases. SLT, et al filed suit against Mitch-Well for conversion and sought a judicial determination that the leases had been canceled as a result of abandonment. Mitch-Well argued that the leases contained a procedure for breach, which included notice and an opportunity to cure, and that SLT, et al did not follow the requisite procedure. Additionally, Mitch-Well argued that whether a well was capable of producing in paying quantities was a determination solely in the discretion of the Lessee.
The trial court ruled in favor of SLT, et al and the Superior Court affirmed, holding that abandonment was proper and restating the implied covenant to produce, which follows from the principle that “the clear purpose of an oil and gas lease providing for production royalties...is to develop the property for the mutual benefit of both parties, regardless of whether the lease contains an expressed provision obligating the lessee to do so.” Jacobs v. CNG Transmission Corp., 332 F. Supp. 2d 759, 789 (W.D. Pa. 2004) (citing Ray v. Western Pennsylvania Nat’l Gas Co., 138 Pa. 576, 20 A. 1065 (Pa. 1891)). The Superior Court further opined that an obligation to make payments in lieu of production royalties is only intended to spur the Lessee toward development and compensate the Lessor for the delay; construing the minimum royalty payment provision in the leases as incentive to spur production, rejecting the proposition of infinite delay, which would undermine the covenant to produce. Mitch-Well appealed the Superior Court’s holding, which was accepted by the Pennsylvania Supreme Court.
What does this mean for oil and gas operators and mineral owners?
The ruling in this case could affect thousands of parcels of land held by legacy leases and older, marginal or non-producing wells. Should the Court side with SLT, et al, that holding would clear the way for easier cancellation of leases that are abandoned and in default, which could potentially free thousands of acres for newer leases from hungrier producers. Such a decision would also harm the older, smaller oil and gas producers that have been surviving at the margins in the oil and gas fields of Pennsylvania for generations.
The parties’ briefs were filed with the Supreme Court in August and the oral arguments are scheduled to take place on October 22. Martin Legal Group will continue to track the status of this case and will post an update on this topic after the conclusion of the oral arguments.