Exxon Mobil v. Ala. Dept. of Conservation

Decision Date01 November 2007
Docket Number1031167.
CourtAlabama Supreme Court

David R. Boyd and W. Joseph McCorkle, Jr., of Balch & Bingham, LLP, Montgomery; Sam C. Pointer, Jr., Samuel H. Franklin, and M. Christian King of Lightfoot, Franklin & White, LLC, Birmingham; Ernest C. Terry of McGinnis, Lochridge & Kilgore, LLP, Houston, Texas; and Walter E. Dellinger III, John F. Daum, and Charles C. Lifland of O'Melveny & Myers, LLP, Washington, D.C., for appellant.

Troy King, atty. gen.; Charles J. Cooper, deputy atty. gen., and Vincent J. Colatriano, Derek L. Shaffer, and Nicholas A. Oldham of Cooper & Kirk, PLLC, Washington, D.C.; Jere Locke Beasley and J. Cole Portis of Beasley, Allen, Crow, Methvin, Portis & Miles, PC, Montgomery; John T. Crowder, deputy atty. gen., and Robert T. Cunningham, Jr., Richard T. Dorman, David G. Wirtes, Jr., and George M. Dent of Cunningham, Bounds, Yance, Crowder & Brown, LLC, Mobile, for appellees.

Robin Stead, Noble, Oklahoma, for amicus curiae National Association of Royalty Owners, Inc., in support of the appellees.

William T. Stephens, Montgomery, for the Retirement Systems of Alabama; Mac McArthur, Montgomery, for the Alabama State Employees' Association; and Joseph P. Borg, Montgomery, for the Alabama Securities Commission, for amici curiae the Retirement Systems of Alabama consisting of the Employees' Retirement System of Alabama and the Teachers' Retirement System of Alabama; the Alabama Securities Commission; and the Alabama State Employees' Association, in support of the appellees.

Erik S. Jaffe, Washington, D.C., for amicus curiae Taxpayers Against Fraud Education Fund, in support of the appellees.

Aleta Pillick, asst. atty. gen., State of Alaska, for amici curiae States of Alaska, Oklahoma, West Virginia, Delaware, Illinois, New Mexico, South Carolina, Louisiana, Mississippi, Florida, and Massachusetts, in support of the appellees.

PARKER, Justice.

Exxon Mobil Corporation formerly known as Exxon Corporation ("Exxon") appeals from a judgment in favor of the Alabama Department of Conservation and Natural Resources ("DCNR") and the commissioner of DCNR (hereinafter referred to collectively as "the State") in a declaratory-judgment action filed by Exxon. The State filed a counterclaim in that action alleging breach of contract and fraud in Exxon's performance under certain oil and gas leases. The award exceeds $100 million in compensatory damages (including interest) and $3.5 billion in punitive damages after the trial court ordered a remittitur of $8.3 billion of the punitive-damages award of $11.8 billion.

I. Background

After the discovery in 1979 in Mobile Bay of one of the largest reserves of natural gas ever found in the United States Exxon competed with other oil and gas companies in bidding to lease the Mobile Bay natural gas fields from the State. The successful bidder would develop the leasehold and extract from it hydrocarbons for use in its oil and gas business. The lessee would pay the State a royalty on the value of the extracted materials. In anticipation of what was expected to be a major sale of leases, then chief legal counsel of DCNR, Robert Macrory, revised the standard lease form from one whose terms were more favorable to the lessee (i.e., the oil company) to one that was more friendly to the lessor (i.e., the State) insofar as apportionment between the oil companies and the State of the proceeds from the leasehold was concerned. In so doing he devised a uniquely state-friendly lease in an effort to maximize royalty interests for the State.

Until Macrory's revision of the form, most of the standard lease forms used in such situations had been prepared by the oil companies. They included provisions that based royalty payments on the profits the lessee accrued after deductions for the costs of extracting, gathering, treating, and then processing the product into a marketable form. This was often called valuation "at the well" or "at the wellhead." To ascertain the "at the well" value of the product, the old lease forms allowed the lessee to "cost-net," i.e., to deduct gathering, processing, and treatment costs from sales proceeds. The old lease forms also allowed lessees to use gas as fuel for the production process royalty-free, as an "input to production," under a "free use of fuel" clause.

The new lease form was intended to assign those costs the oil companies had previously been allowed to "cost-net," as well as the cost of fuel used in production, to the oil company by requiring that royalties be calculated on the oil company's "gross proceeds" from gas and condensate produced. Thus the royalty provisions of the form lease drafted by DCNR were the "polar opposite" of those in the old standard lease forms.

In 1981 and again in 1984, Exxon successfully bid on and subsequently developed several leaseholds in the Mobile Bay fields, as did several other major oil companies. It executed multiple leases both in 1981 and in 1984; all of those leases were the new standard form lease drafted by DCNR, and all contained substantially identical provisions. Exxon paid a total of $573.3 million in nonrefundable bonuses and agreed to pay royalties based on the production from the wells it drilled in the areas it leased. In 1993, during audits of other oil companies, DCNR took exception to certain of the practices the oil companies used in calculating the royalties payable to the State under the new lease form.

In October 1994, DCNR, the State agency that oversees the leases of the Mobile Bay fields, hired Nancy Cone, a revenue analyst, to administer the receipt of the royalty payments. In a January 1995 letter, Cone advised Exxon of anomalies in the documents supporting Exxon's royalty payments. The anomalies resulted in part from the lack of any State-prescribed reporting format to be used. Exxon and Cone worked together to agree on a reporting format.

Meanwhile, because DCNR lacked confidence in the capabilities of its own audit staff, it began a search for a specialist to audit royalty payments it received from the oil companies under the leases. DCNR was aware in January 1995 that Exxon had not provided the information the lease required, but it did not begin its audit until late in the summer of 1996. The audit brought to the forefront the ongoing disagreement over Exxon's method of calculating royalties. DCNR forwarded to Exxon its demands for additional moneys, in apparent disregard of the contractual remedies in the leases. In a letter dated February 4, 1997,1 from James D. Martin, then commissioner of DCNR, to Jim House at Exxon, DCNR stated that Exxon had paid $102,915,386 in royalties for the period beginning October 1, 1993, through December 31, 1995, and that Exxon owed the State an additional $50,495,418. DCNR based its claim on the exceptions summarized in a schedule attached to the letter. Exxon and DCNR maintained an ongoing negotiation regarding the correct interpretation of the leases, but no mutually acceptable settlement was reached.

On July 28, 1999, Exxon sued the State to obtain judicial resolution of the dispute over the method of calculating royalties. The State sued Exxon a day later but dismissed its complaint after it became aware of Exxon's declaratory-judgment action. A month later, the State filed a counterclaim in Exxon's action, alleging breach of contract and fraud, claiming that Exxon had fraudulently underpaid royalties from October 1993, when production began. The State subsequently amended its counterclaim to include a demand for punitive damages. Over Exxon's objection, the trial court realigned the parties, naming the State as the plaintiff and Exxon as the defendant. The trial court denied the parties' motions for a summary judgment without a written order, and the case was tried before a jury.

On December 19, 2000, the jury awarded the State $60,194,174 in additional royalties for the 75-month period from October 1993 through December 1999, plus $27,498,521, representing interest at the statutory rate of 12%. The jury also awarded the State punitive damages of $3.42 billion. The trial court held a Hammond hearing2 but declined to reduce the damages, and it denied all Exxon's posttrial motions. Exxon appealed. On December 20, 2002, in Exxon Corp. v. State Department of Conservation & Natural Resources, 859 So.2d 1096 (Ala.2002), this Court reversed the judgment and remanded the case, holding that the trial judge had impermissibly admitted into evidence a confidential letter written by Exxon's in-house counsel. This Court denied the State's application for a rehearing, and the trial court set the case for retrial in October 2003.

After a 14-day trial,3 the jury awarded the State $63,769,5684 (before interest) in additional royalties for the 111-month period from October 1993 through December 2002. The jury found that $23,449,186 of that amount resulted from Exxon's fraudulent suppression of information relating to royalty payments through February 1997. The jury also awarded the State punitive damages of $11.8 billion. On November 19, 2003, the trial court added $39,235,154 to the compensatory damages representing statutory interest at a rate of 12% and entered a judgment against Exxon for the full verdict amount of $11,902,827,801.5

On December 1, 2003, Exxon requested a hearing to obtain guidance on how to apply the jury's verdict to future royalty computations. On December 5, 2003, the trial court denied Exxon's request and entered an order directing Exxon to pay the royalties "according to the plain, unambiguous language of the leases as reflected in the jury's verdict." Exxon filed posttrial motions for a judgment as a matter of law ("JML") and, alternatively, for a new trial or a remittitur. The trial court held a Hammond hearing to consider whether the punitive damages were excessive....

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