Cameron v. Lebow

• Decision Date: 06 May 1960
• Citation: 338 S.W.2d 399
• Parties: H. B. CAMERON et al., Appellants, v. Simon LEBOW et al., Appellees.
• Court: United States State Supreme Court — District of Kentucky

Page 399

338 S.W.2d 399

H. B. CAMERON et al., Appellants, v. Simon LEBOW et al., Appellees.

Court of Appeals of Kentucky.

May 6, 1960.

Rehearing Denied Oct. 14, 1960.

Sandidge & Sandidge, Owensboro, for appellants.

Byron, Sandidge, Holbrook & Craig, Owensboro, for appellees.

CLAY, Commissioner.

This is a suit for a declaration of rights between parties having conflicting lease interests in oil and gas underlying a 55 acre tract in Daviess County. The trial court sustained a motion to dismiss the complaint as amended. We have pointed out in the past that this is not the best method of disposing of a declaratory judgment action if the complaint presents a justiciable controversy. Hedden v. Hedden, Ky., 312 S.W.2d 891.

It is apparent the judgment decided an issue of law and in effect was a declaration of rights unfavorable to appellants. We will treat the judgment as one entered on the pleadings under CR 12.03, and will determine whether or not appellees were entitled to judgment on the allegations of the complaint as amended.

One Shaffer owned an oil and gas lease on 160 acres of land. In 1939 appellants (hereinafter designated 'assignee') were assigned a part of this leasehold covering 55 acres of the original 160 acre tract.

The terms of the lease on the remaining 105 acres have been complied with. Wells have been drilled thereon and are producing oil. On the 55 acre tract a dry hole was drilled in 1939, but there has been no further development activity on that portion of the leasehold by assignee. Assignee has been given no notice by the lessors de manding development of this assigned 55 acre tract.

Assuming that assignee's leasehold interest in the 55 acres had been forfeited or abandoned, the lessors in 1956 executed a new lease thereon to appellees, referred to as a 'top' lease. (Since appellees' rights are derived through the lessors, they will hereinafter be referred to as 'lessor.') The lessor has retaken possession and assignee seeks as incidental relief a decree enjoining this alleged trespass.

The parties have practiced this case on the issue of whether or not the assignee of a part of an oil and gas lease has breached an implied covenant to develop the assigned portion by failure to produce either oil or gas thereon for several years (17 had elapsed when the 'top' lease was executed; 19 at the time suit was filed.) The principal controversy has raged over the nature of the implied obligation of the assignee and whether or not, before his interest may be terminated, he is entitled to notice and demand to develop from the lessor.

Before reaching the rights and duties of an assignee, as such, it is necessary to examine the relationship between the lessor and lessee of a mineral lease. The development of the implied covenant theory in the oil and gas law of Kentucky (as elsewhere) is somewhat disjointed and elusive. It apparently originated in Berry v. Frisbie, 120 Ky. 337, 86 S.W. 558, which, as a matter of fact, simply involved the construction of a contract and the only thing the court implied was what the parties intended.

That decision was followed by our leading case of Monarch Oil, Gas & Coal Co. v. Richardson, 124 Ky. 602, 99 S.W. 668. It was there held that even though a mineral lease provided for the payment of a nominal rental if nothing was produced on the property, there was an implied obligation to commence development as speedily as possible and the lessor might have the lease cancelled (short of the term therein prescribed) if reasonable development was not forthcoming after notice to develop. This principle, which is our basic rule, was applied in Flanagan v. Marsh, 105 S.W. 424, 32 Ky.Law Rep. 184, and Warren Oil & Gas Co. v. Gilliam, 182 Ky. 807, 207 S.W. 698, and has been consistently followed in many other cases.

The assumed existence of an implied obligation after notice to commence development has been logically extended to cases where the lessee was producing from the property and the lessor wanted increased or improved development of the leasehold. Johnson v. Dodson, 227 Ky. 132, 12 S.W.2d 310; Leeper Oil Co. v. Rowland, 239 Ky. 295, 39 S.W.2d 486.

The established principle of the foregoing cases is thus summarized in the Johnson case (12 S.W.2d 312):

'Forfeiture for nondevelopment, or delay in development, or for a failure to reasonably develop, is highly essential in the business of producing oil, but the law does not favor forfeitures, and none should be allowed without the one claiming the right shall have first placed the other party on notice that a forfeiture will be demanded, unless the terms of the lease as to development are carried out.' (Our emphasis.)

This then, is our basic rule, which is accurately described as 'forfeiture.' It is generally followed in other jurisdictions. See Pohlemann v. Stephens Petroleum Co., D.C., 99 F.Supp. 875; Doss Oil Royalty Co. v. Texas Co., 192 Okl. 359, 137 P.2d 934.

Subsequent to the establishment of the basic rule two cases departed from the requirement of notice, establishing an exception to the rule. They are Eastern Kentucky Mineral & Timber Co. v. Swann-Day Lumber Co., 148 Ky. 82, 146 S.W. 438, 46 L.R.A.,N.S., 672, and Breckenridge Asphalt Co. v. Richardson, 147 Ky. 834, 146 S.W. 437. (They apparently were decided at the same time.) These cases differ from those previously cited in the essential fact that no delay rental was provided and the only consideration flowing to the owner was the payment of royalties which obviously depended upon actual production. In the Eastern Kentucky case (where a 'deed' was construed as a lease) it was held there was an implied condition that the grantee of mineral and timber lands should begin operations within a reasonable time so that the grantor might receive the prescribed consideration. The Court interpolated this condition into the agreement as conforming with the intention of the parties. (Otherwise the contract would lack mutuality.) It was held that after a lapse of 13 years with no action taken, the grantees had abandoned their rights and forfeited their interests in the estate. (This confusion of terms runs throughout the cases, and accounts in large measure for the confusion of controlling principles.)

The Breckenridge Asphalt case applied the same concept where production of an asphalt mine had been commenced but had been discontinued for several years.

For practical purposes these two cases are obsolete for the reason that modern leases provide other consideration than the payment of royalties, and neither the lack of mutuality theory nor this particular implied covenant theory may be invoked.

A third line of cases, initiating a second exception, constitutes the principal source of compounded confusion in the present controversy. The difficulty is caused because the opinions in those cases indicate the court is drawing upon settled principles, whereas instead the court was introducing a new implied obligation and creating another exception to the basic rule. It was: if the lessee (or assignee) has operated producing wells on the leased premises and discontinues operations for an unreasonable time, he loses his interest because he has breached an implied obligation to continue production. The cases which invoke this reasoning are American Wholesale Corporation v. F. & S. Oil & Gas Co., 242 Ky. 356, 46 S.W.2d 498; and Tanner v. Reeves, Ky., 249 S.W.2d 526.

These two decisions properly could and perhaps should have been bottomed on the principle of abandonment, the intention to abandon being inferred from the circumstances. However, as a throw-back to the older cases, all of which involved different significant fact situations, it was deemed expedient to find a breach of some implied condition. So these two opinions did lip service to an implied obligation to continue producing from proven wells. Such a legal theory was not required to reach the same result in view of the earlier case of Hails v. Johnson, 204 Ky. 94, 263 S.W. 679, and was in effect repudiated in the subsequent case of B. & B. Oil Co. v. Lane, Ky., 249 S.W.2d 705, both of which we will refer to later.

Let us now recapitulate the implied obligations of the lessee with respect to development as set forth in the foregoing cases. Those obligations are: (1) where delay rental is provided in the lease, to commence or increase development after notice and demand; (2) where no delay rental is provided, to begin or continue operations within a reasonable time; (3) where productive operation has been commenced, to continue that operation. Ignoring for the moment the matter of assignment, it is obvious in this case the lessor would not be entitled to claim a forfeiture of the leasehold interest in the 55 acre tract on any implied covenant theory recognized in the foregoing cases. This is so because the terms of the lease and the conduct of the lessee do not conform with the prescribed conditions under which forfeiture may be decreed. The terms of the lease fall within the scope of the basic rule and not under the first exception. There having been no production on the 55 acre tract, the second exception does not apply. We cannot logically, as lessor would have us do, apply half of the basic rule and half of the second exception, thereby ignoring the limitations of those two legal theories.

There is consequently no authority for adjudging that a lessee, under a lease such as we have before us, has an implied obligation to begin operations on a particular part of the leasehold (where the terms of the lease are being complied with elsewhere on the premises) without notice and demand from the lessor to so proceed. Therefore, the assignment of that part to assignee was not burdened with such an implied obligation of the lessee.

Our next question is, did the assignment create a new implied obligation as between the lessor and the assignee? The lease in this case expressly authorized an assignment in...