The Language in Oil & Gas Agreements Governs the Royalty Caclulation

The Texas Supreme Court issued its opinion in the most closely watched case involving royalty agreements since Chesapeake Exploration, L.L.C. v. Hyder.  In Burlington Resources Oil & Gas Company LP v. Texas Crude Energy, LLC and Amber Harvest, LLC, Number 17-0266 (Tex. 2019), the Texas Supreme Court held that overriding royalties paid by Burlington Resources Oil & Gas Company LP (“Burlington”) to Texas Crude Energy, LLC and Amber Harvest, LLC (together, “Texas Crude”) are burdened by post-production costs under the parties’ overriding royalty interest assignments. At the trial court, both parties filed motions for partial summary judgment on this contract-interpretation question. The trial court found in Texas Crude’s favor and the court of appeals agreed. The Texas Supreme Court reversed and remanded the court of appeal’s judgment.

The question in Burlington Resources resembled the question in Hyder. In Hyder, the Texas Supreme Court determined that the overriding royalties should be free from post-production costs, construing the overriding royalty provision as an agreement to pay royalties on gross proceeds because the parties agreed that the only cost that would burden the royalty would be taxes. 

But the Court in Burlington Resources determined that the language at issue differed from the language at issue in Hyder.  While the Court noted that a provision to pay royalties on the “amount realized” at sale might typically prevent the deduction of post-production costs, the parties’ agreement modified that rule.  Because the granting clause and valuation clause in the parties’ agreement provided for delivery “into the pipelines, tanks or other receptacles,” the Court reasoned that the overriding royalty was cost-free only to that point.  And based on the facts at issue and industry practices, the Court further determined that language calls for a valuation of the royalty at delivery “into the pipeline” is similar to a valuation of the royalty “at the well.” 

Notably, the Court did not find Texas Crude’s interpretation—that the overriding royalties were free of post-production costs—to be unreasonable.  But when applied to other provisions within the assignments and other agreements between the parties, the Court held that Texas Crude’s interpretation lacked harmony with those other provisions and agreements, whereas Burlington’s interpretation did not.  Because the overriding royalty agreement was unambiguous, however, the Court determined it did not need to consider the parties’ course of performance leading up to the dispute. 

The take away for practitioners is that the decisive factor in each case is the language chosen by the parties to express their agreement.  A few words can make the difference on whether a royalty is free from post-production costs. Notice:  Wick Phillips represented the royalty owners in Hyder.

By: Schyler Parker

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