Senior-G & A Operating Co., Inc., Matter of, SENIOR-G

• Court: United States Courts of Appeals. United States Court of Appeals (5th Circuit)
• Citation: 957 F.2d 1290
• Docket Number: SENIOR-G,No. 91-4026,91-4026
• Parties: Bankr. L. Rep. P 74,541 In the Matter of& A OPERATING CO., INC., Debtor. PSI, INC. OF MISSOURI, Appellant, v. H. Kent AGUILLARD, et al., Appellees.
• Decision Date: 13 April 1992

Page 1290

957 F.2d 1290 Bankr. L. Rep. P 74,541 In the Matter of SENIOR-G & A OPERATING CO., INC., Debtor.
PSI, INC. OF MISSOURI, Appellant,
v.
H. Kent AGUILLARD, et al., Appellees. No. 91-4026. United States Court of Appeals,
Fifth Circuit. April 13, 1992.
Rehearing Denied May 26, 1992.

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Douglas F. Pedigo, Mangham, Hardy, Rolfs & Abadie, PSI, Inc., Omaha, Neb., for appellant.

Stephen P. Strohschein, Rubin, Curry, Colvin & Joseph, Baton Rouge, La., H. Kent Aguillard, Young Hoychick & Aguillard, Eunice, La., John W. Grant, Pugh & Boudreaux, Lafayette, La., for Aguillard and Sandoz.

Appeal from the United States District Court for the Western District of Louisiana.

Before WISDOM, JOLLY, and SMITH, Circuit Judges.

E. GRADY JOLLY, Circuit Judge:

PSI appeals from an order of the bankruptcy court, affirmed by the district court, holding it liable, as a secured creditor receiving a benefit, for a portion of the cost of reworking an oil well in which Senior, the bankrupt debtor, held a working interest. For the reasons set out below, the judgment of the district court is AFFIRMED in part, REVERSED in part, and REMANDED for further proceedings in accordance with this opinion.

I A

Senior owned a number of oil and gas producing properties, among which was the U. Richard No. 2, 2-D Well. In July of 1988, Senior needed cash. In return for the sum of $5,100,000 from PSI, Senior entered into what was called by the parties a "Production Payment Loan Agreement" (the Agreement). Under the terms of the Agreement, Senior conveyed PSI the right to production payments totalling $12,750,000 from a number of wells owned by Senior, including the U. Richard No. 2, 2-D Well (the well). The Agreement specified that the arrangement was to be treated as a loan for tax purposes. The Agreement also specifically stated that "[t]he Production Payment granted hereby shall constitute a lien upon the Subject Minerals covered hereby."

At the time of the Agreement, the well was subject to a 30% royalty burden; Senior owned a 70% working interest. The Agreement gave PSI the right to production payments amounting to 85% of the 70% working interest revenues or a net

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revenue interest of 59.5%. Sometime after entering the Agreement, Senior conveyed most of its working interest in the well to Baxter Drilling and Exploration and its affiliates (Baxter) and retained only 10% of the 70% working interest. At this point, ownership under the well was as follows:

Royalty burden 30 %
                Baxter 80% x 70% Working Interest 56
                Senior 10% x 70% " " 7
                Others 10% x 70% " " 7
                 ----
                 100 %
                

The working interest owned by Senior and "others" was a "carried" interest, i.e., free of expenses of drilling, production, maintenance, etc. However, the working interest, including that conveyed to Baxter, was still subject to Senior's agreement with PSI, so that 85% of production revenues attributable to each interest went first to PSI. Thus, for example, Senior received only 15% of 7% or 1.05% of any production from the well. Significantly, Baxter, the owner of that portion of the working interest responsible for all costs associated with the well, received only 8.4% (15% of 56%) of the revenue produced by the well.

Sadly, some months later, production from the well diminished. Senior advised PSI that a workover of the well was needed in order to restore production. Senior did not have the funds to pay for the workover and Baxter was unwilling to do so in view of its slender cut of any revenue. After negotiation, PSI agreed that it would loan Senior and Baxter the needed funds for this workover and some work to be done on another well subject to the Agreement. In November 1988, the parties entered into a separate loan agreement and PSI deposited $250,000 in escrow to cover these workover costs. The workover commenced and hopes for further production were renewed. Indeed, by February 1989 production was restored, at least to some extent.

Things were not improving on all fronts, however. In December 1988, Senior filed a Chapter 11 bankruptcy petition. Furthermore, because of a dispute with Baxter, PSI refused to release from escrow the funds needed to pay for the workover. There is some indication in the record that the total workover cost was over $335,000. Timco Well Service (Timco), one of the contractors that had performed services during the workover of the well, sought payment of its total charges of $96,868.19 from Senior (who had contracted for the services) and from Baxter. Timco was not paid.

B

Timco then moved for an order from the bankruptcy court ordering payment of its charges as an "administrative expense." On May 16, 1989, following a hearing, the bankruptcy court entered its order allowing Timco's charges as an administrative expense. At that time, it also ordered PSI, who had not been a party to the hearing, to appear and show cause why it should not be required to pay a portion of those charges from revenue attributable to the well.

Thus, following a hearing on June 23, 1989, at which PSI appeared, the bankruptcy court entered the following order upon its minutes: "Order to show cause dismissed. Court holds that PSI cannot be surcharged under § 506(c) at this time." (Emphasis ours.) On July 5, the court followed with its order vacating its June 23 order without prejudice to any of the parties. PSI emphatically contends it never received a copy of this order, even though it is listed as having been sent one. PSI, with even greater vigor, contends that the bankruptcy court's ruling following the June 23 hearing finally disposed of Timco's claim and that, under the principles of res judicata, its liability for Timco's claim is a dead issue.

On July 10, 1989, the trustee filed a motion with the bankruptcy court asking the court to reconsider its allowance of Timco's charges as an administrative expense. The bankruptcy judge denied this order on July 17, but gave the trustee an additional forty days to seek reconsideration of the court's allowance of Timco's claim. The trustee then filed a "Motion to Assess Section 506(c) Expenses and for Reconsideration of Allowance of Administrative Expense Claim." The trustee essentially

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argued that Timco's charges should not be allowed as an administrative expense. If they were so allowed, however, then PSI, rather than the estate, should pay its share because PSI would receive the lion's share of the revenue. The Trustee also argued that as a secured creditor PSI should properly be assessed its share under 11 U.S.C. § 506(c). ¹ PSI countered that it was a royalty owner, not a secured creditor. PSI insisted that the Agreement clearly established that it received production payments, a form of royalty, and that the Agreement made clear that its arrangement with Senior was a "loan" only for tax purposes. This motion was heard at an "evidentiary rehearing" on October 20.

On July 30, 1990, the court rendered its memorandum opinion. 118 B.R. 444. In that opinion, the bankruptcy court held that PSI was a secured creditor under the terms of its Agreement with Senior, that the Agreement gave PSI only an in rem interest in the well and no right to proceed against Senior, that PSI had received a benefit from the rework of the well, that the reworking charges of Timco Well Services were properly allowable as administrative expenses, that those charges were both "necessary" and "reasonable," and that 11 U.S.C. § 506(c) authorized charging PSI with its proportionate share of Timco's charges. On August 15, 1990, the court entered its judgment and ordered PSI to pay 59.5% of Timco's $96,868.19 bill, or a net amount of $56,636.57.

PSI appealed this judgment to the district court. On November 27, 1990, the district court affirmed the judgment of the bankruptcy court. This appeal followed.

II A

Findings of fact made by a bankruptcy court will not be set aside unless clearly erroneous. In other words, this Court will reverse only "when[,] although there is evidence to support it, the reviewing court on the entire evidence is left with a firm and definite conviction that a mistake has been committed." [citation omitted]. Conclusions of law, conversely are subject to plenary review on appeal.

In re Delta Towers, Ltd., 924 F.2d 74, 76 (5th Cir.), reh'g denied 1991 WL 8493, 1991 U.S.App. Lexis 4829 (5th Cir.1991). With this standard before us, we examine the issues raised by PSI in its appeal.

B

PSI's status pursuant to the terms of the Agreement is the key issue in this appeal. All parties seem to agree that if PSI owns a royalty interest, it cannot be held responsible under any theory for any portion of the costs of reworking the well. The bankruptcy court held that PSI was a secured creditor within the meaning of 11 U.S.C. § 506(c). The district court affirmed that holding. We review de novo as a question of law the issue of PSI's status under the Agreement.

PSI argues that the transaction between it and Senior was actually a mineral sale and its interest is a royalty. It says that a production payment is by definition a royalty interest--a share of actual product at the wellhead free of costs of extraction, but limited by amount, value or time and expiring when the limit is reached. The only difference, according to PSI, between a royalty interest and a production payment is that a royalty interest continues indefinitely while a production payment terminates when the predetermined limiting factor is met. Thus, PSI argues, the interest granted it by the Agreement is a share of production, free of costs of extraction, which share expires when the monetary limit set out in the agreement is reached; it is therefore a royalty.

PSI does admit that its interest is a "hybrid," as the Agreement gives PSI a lien on Senior's mineral interest under the well. Addressing this point, however, PSI contends that while its production interest in the well is a royalty, the lien created by the Agreement...