by Robert J. Burnett, Esq.
In a surprising recent decision, the United States District Court for the Middle District of Pennsylvania refused to apply the doctrine of repudiation to non-producing gas leases. In
Lauchle v. Keeton Group, LLC, 2011 WL 782024 (M.D. Pa. March 8, 2011), the gas producers argued that their leases should be “equitably extended” for a period of time equal to the length of the underlying litigation. Due to the uncertainty caused by the litigation, the gas producers had voluntarily ceased all development on the subject properties. After receiving a favorable outcome in the litigation, the gas producers requested that the doctrine of repudiation be applied to extend the five-year primary term of the disputed leases. The District Court rejected this request and held that the doctrine did not extend the leases. This decision represents a significant departure from the rule in most oil/gas jurisdictions.
The dispute in Lauchle initially arose out of the landowners’ belief that their leases violated Pennsylvania’s Guaranteed Minimum Royalty Act (“GMRA”), 58 P.S §33. Specifically, the landowners asserted that that the net-back method of calculating the royalty was contrary to the “one-eighth” mandate of the GMRA. In the late fall of 2008, the landowners filed a declaratory judgment action seeking a declaration that their leases were invalid under the GMRA (“GMRA Litigation”). In reaction to the GMRA Litigation, the gas producers voluntarily ceased all oil/gas development on the subject properties. Two years later, on October 6, 2010, the District Court granted the gas producers’ Motion to Dismiss and rejected the landowners’ GMRA claim.
Before the Motion to Dismiss was granted, however, the gas producers filed a Counterclaim seeking an equitable extension of their leases under the doctrine of repudiation. Essentially, the gas producers argued that the five-year primary term should be “extended” to account for the period of time during which the landowners had contested the leases. No drilling operations had occurred while the GMRA Litigation was pending. The landowners disputed application of the repudiation doctrine and filed a Motion for Summary Judgment seeking dismissal of the gas producers’ Counterclaim. On March 8, 2011, the District Court granted the landowners’ Motion and rejected application of the doctrine. The District Court opined that “oil companies...wield significant, if not exclusive power, in the drafting of oil and gas leases” and “a determination that Plaintiffs had repudiated their leases with the filing of [the declaratory judgment actions] further tips the balance of power in favor of the oil companies.” The District Court further observed that applying the doctrine would “likely dissuade lessors from bringing potentially meritorious actions....” As a result, the primary terms were not extended.
The doctrine of repudiation is well-established in most oil/gas jurisdictions. The doctrine is an “equitable doctrine” created by the courts to prevent a landowner who wrongfully repudiates a lease from profiting from the wrong. See, NRG Exploration, Inc. v. Rauch, 671 S.W. 2d 649 (Tex. App 1984). Generally, a landowner’s challenge to the validity of a lease “suspends the lessee’s obligation to perform under the lease until that challenge is resolved.” French v. Tenneco Oil Co., 724 P.2d 275, 276 (Okla. 1986); see also, Cheyenne Res. Inc. v. Criswell, 714 S.W.2d 103, 105 (Tex. App. 1986) (the doctrine “relieves the lessee from any obligation to conduct any operations on the land in order to maintain the lease in force”); Duerson v. Mills, 648 P.2d 1276, 1278 (Ok. Ct. App. 1982) (“[T]he lessee should not be required to invest in drilling a well when his legal right to drill is in serious legal jeopardy”). In other words, the landowner cannot argue that the lease has “terminated as a result of the leasee’s nonperformance” when the landowner directly contributed or caused that nonperformance. See, Mitchel Energy Corp. v. Samson Res. Co., 80 F.3d 976, 982 (5th Cir. 1996).
When shown to apply, Texas and Oklahoma courts have held that the proper remedy is to declare the lease should remain “in full force and effect for a period (after termination of the lawsuit) that allows the lessee to perform the conditions required to extend/maintain the lease...” See, Tar Heel Energy Corp. v. Menking, 621 S.W. 2d 450, 451 (Tex. App 1981). Litigation commenced by the landowner asserting “cancellation” of a lease is widely recognized as a challenge triggering the doctrine and will generally result in the suspension of the gas producer’s duties under that lease. Hoyt v. Continental Oil Co., 606 P.2d 560, 562 (Okla. 1980). The suspension of duties, including the duty to drill and develop the property, continues throughout the course of the litigation, until the challenge is finally resolved. Elsey v. Wagner, 183 P.2d 829, 830 (Okla. 1946)
Prior to the Lauchle decision, the doctrine was relatively non-existent in Pennsylvania. The Pennsylvania Superior Court in Derrickheim Company v. Brown, 451 A.2d 477 (Pa. Super. 1982) refused to apply the doctrine to a lease challenge filed by the gas producer. The Derrickheim court noted that:
“[S]ince oil and gas was not being produced in paying quantities, the lease did not continue to run past the primary term of four years. The fact that it was prudent for Derrickheim to suspend operations upon learning of the cloud on the title does not justify disregarding the express language of the lease.”
Derrickheim, 451 A.2d at 480. Although the lease challenge in
Derrickheim was filed by the gas producer, as opposed to the landowner, the
Lauchle court nonetheless concluded that
Derrickheim was controlling. The gas producers had argued that
Derrickheim should not apply because the gas producer had started the litigation in that case.
[1] The District Court disagreed and found it “extremely persuasive that the
Derrickheim court declined to equitably extend an oil and gas lease after conclusion of the litigation that impacted the lease.
The Lauchle decision is a major set back for oil and gas companies seeking to develop the Marcellus Shale formation here in Pennsylvania. Lease challenges are not uncommon. Litigation can and does create uncertainty. When faced with such uncertainty, it is unreasonable to expect a gas producer to invest millions of dollars to drill on property that is the subject of a lawsuit seeking a declaration that the producer has no mineral rights. The doctrine of repudiation seeks to balance the rights and interests of both the landowner and the gas producer. The Lauchle decision, however, does not take into account this balance.
[1] In Lauchle, the landowners had commenced the litigation.