Smith v. Amoco Production Company

• Citation: 272 Kan. 58,31 P.3d 255
• Decision Date: 21 September 2001
• Docket Number: No. 84,076.,84,076.
• Parties: GEORGE SMITH, Individually, and on Behalf of a Class Composed of all Oil and Gas Royalty Owners Whose Royalty Payments for Natural Gas were Reduced on a per MMBTU Basis Due to Renegotiation, Amendment to or Termination of the Gas Purchase Contract[s] between Amoco Production Company and Williams Natural Gas after the Effective Date of Order 451 Issued by the Federal Energy Regulatory Commission, Appellants/Cross-appellees, v. AMOCO PRODUCTION COMPANY, Appellee/Cross-appellant.
• Court: United States State Supreme Court of Kansas

272 Kan. 58

31 P.3d 255

GEORGE SMITH, Individually, and on Behalf of a Class Composed of all Oil and Gas Royalty Owners Whose Royalty Payments for Natural Gas were Reduced on a per MMBTU Basis Due to Renegotiation, Amendment to or Termination of the Gas Purchase Contract[s] between Amoco Production Company and Williams Natural Gas after the Effective Date of Order 451 Issued by the Federal Energy Regulatory Commission, Appellants/Cross-appellees, v. AMOCO PRODUCTION COMPANY, Appellee/Cross-appellant.

No. 84,076.

Supreme Court of Kansas.

Opinion filed September 21, 2001.

Lee Thompson, of Triplett, Woolf & Garretson, L.L.C., of Wichita, argued the cause, and Gordon Penny, of Lawrence, was with him on the briefs for appellants/ cross-appellees.

Richard C. Hite, of Hite, Fanning & Honeyman, L.L.P., of Wichita, argued the cause, and Dennis V. Lacey, of the same firm, Eric L. Nitcher and Tom Winkler, of Amoco Production Company of Houston, Texas, Steven D. Gough, of Powell, Brewer & Gough, L.L.P., of Wichita, and Eric B. Smith, of Brollier & Wolf, of Hugoton, were with him on the briefs for appellee/cross-appellant.

The opinion of the court was delivered by

SIX, J.:

This case resolves whether a 3- or 5-year statute of limitations applies to an alleged breach of implied covenants in an oil and gas lease. The actions of defendant Amoco Production Company. (Amoco), the producer lessee, under an implied covenant to market in a government-controlled gas price environment are also at issue. Although other jurisdictions have addressed the statute of limitations issue, Kansas has not. Also, we may be the first appellate court to be presented with the type of lessor royalty owner claims asserted here, i.e., breach of the implied covenant to market arising in a factual setting under the Natural Gas Policy Act (NGPA), where the Federal Energy Regulatory Commission's (FERC) Order 451 has been invoked by the lessee.

The class action representative plaintiff, George Smith, and others (either the Smith Class or lessors) are lessors under a minority of natural gas leases held by defendant Amoco in the Kansas Hugoton and Panoma Council Grove fields (Hugoton area). This equitable action for an accounting is based on alleged breaches of the implied covenant to market and the implied duty of good faith and fair dealing, in each lease independently, between Amoco and each lessor.

The lessors claim that from November 1, 1990, through December 31, 1992, Amoco should either have sold all the lessors' natural gas for maximum lawful prices or paid them compensatory royalties. According to the Smith Class, "[a]n equitable accounting was sought to require that Amoco share equitably the economic benefits of the strategic plan it successfully employed at the expense of this class of royalty owners." The difference between maximum lawful prices and the market prices for which the gas was sold would be the basis for computing the royalty owed. The leases called for royalties to be paid on either market value of the gas or proceeds of sale.

In applying K.S.A. 60-512, a 3-year statute of limitations, the district court limited its time frame for viewing Amoco's duty to act as a prudent operator. In holding that Amoco was a prudent operator, the district court only considered Amoco's actions from August 11, 1990, forward. August 11, 1990, was 3 years from the date this action was filed. The district court held that the lessors failed to prove that Amoco, within the 3-year period, either could have sold the gas for maximum lawful prices or that Amoco could have obtained a greater-than-market price for the gas. The lessors appeal.

The district court also found that Amoco had an implied duty to obtain the best possible price for gas produced from the lessors' leases and that it had done so. Amoco cross-appeals the best possible price finding.

The issues for review on the lessors' appeal are whether the district court erred in finding that: (1) K.S.A. 60-512, a 3-year statute of limitations, applies and (2) Amoco acted as a prudent operator.

The issue on the cross-appeal is whether the district court erred in concluding that there was an implied duty for Amoco to obtain the best possible price for gas.

We have jurisdiction under our order of transfer. K.S.A. 20-3018(c).

We hold the implied covenants at issue here are implied in fact; thus K.S.A. 60-511, a 5-year limitation statute, applies. Our ruling on the statute of limitations issue expands the window for viewing Amoco's conduct, and, thus, the prudent operator issue will be decided by the finder of fact on remand. The standards for measuring whether Amoco has met its prudent operator duty to the lessors will include the effect of a government-controlled price environment, as more fully discussed in the opinion.

Our statute of limitations ruling also affects the cross-appeal. The district court held that Amoco had marketed at the best possible price. (We have used the phrase "best prices obtainable at the place where the gas was produced." Maddox v. Gulf Oil Corporation, 222 Kan. 733, 735, 567 P.2d 1326 [1977],cert. denied 434 U.S. 1065 [1978].) On remand the trier of fact, applying K.S.A. 60-511, the 5-year limitations statute, and the rationale of this opinion, will decide if Amoco's activities complied with the standards of conduct of a prudent operator. The prudent operator standard controls the pricing issue raised by the cross-appeal, as Amoco's implied covenant to market is contained within the duty to act at all times as a reasonably prudent operator.

We reverse and remand.

FACTS

This case was tried over a 7-day period by experienced counsel before an able judge. The record consists of 59 volumes, over 3,700 pages, plus numerous depositions, and over 200 exhibits. The parties before trial entered into 83 separate written stipulated facts. All of the stipulated facts were incorporated into the findings of the district court. In order to convey the historical background and complexity of the case, we have set out the district court's findings in full. The Smith Class does not challenge any of the findings.

"The following facts are those that the Court considers material to its decision herein, which include the 83 stipulated facts submitted by the parties.

"The Plaintiff in this proceeding is George Smith, both individually and as class representative for all oil and gas royalty owners whose royalty payments for natural gas were reduced on a per MMBtu basis due to renegotiation, amendment to or termination of the gas purchase contracts between Amoco Production Company and Williams Natural Gas Company, Inc., after the effective date of Order 451 issued by the Federal Energy Regulatory Commission (FERC).

"The Defendant, Amoco Production Company, is the lessee of an oil and gas lease in which Smith owns a royalty interest covering a tract of land in Finney County, Kansas. At all times relevant, Amoco produced natural gas from the Smith lease.

"The Hugoton natural gas field covers a large portion of Southwest Kansas and extends into Oklahoma and Texas. The Panoma natural gas field underlies a portion of the Hugoton natural gas field. There are in excess of 5,800 wells in the Kansas portion of this field, which produce approximately 80 percent of all the gas produced in the State of Kansas.

"The predecessor to Amoco and the predecessor to Williams entered into a contract dated June 23rd, 1950, which was amended substantially in 1966, 1971, and 1974. Under the terms of this contract Amoco sold all gas from all of its leases covering approximately 600,000 acres in the Hugoton and Panoma fields to Williams for so long as the leases continued to produce.

"Williams owns a gas line which extends from Grant County, Kansas, to Johnson County, Kansas.

"Also on the same date, the predecessors to Amoco and Williams entered into a gas processing agreement, which allows Amoco to process all gas produced in areas A and B covered by the 1950 contract through a gas processing plant located in Grant County, Kansas, where Amoco removes liquids from the gas stream prior to committing the gas stream to Williams pipeline for resale by Williams. A third area known as area C of the Amoco field was not processed by Amoco as a result of the 1950 contract.

"One of the additional terms of the 1950 contract was that the predecessor to Amoco sold to the predecessor to Williams the gathering system that it had constructed for area A, and Williams then constructed a gathering system to connect all of Amoco's wells located on the leases in area B of the Hugoton field to Amoco's gas processing plant. A separate gathering system was built by Williams to connect Amoco's leases in area C to another gas processing company.

"The 1974 amendment to the 1950 contract required Williams to purchase gas from Amoco at the highest price authorized by law.

"In 1938, the United States Congress enacted the Natural Gas Act of 1938, which authorized the Federal Power Commission to regulate pipeline rates for transportation and resale of natural gas. At the time of the 1950 contract and until the late 1980's the primary buyers of natural gas were the pipeline companies such as Williams.

"Between 1970 and 1976, various rulings of the FPC established the maximum lawful price for various classes of natural gas being produced in the Hugoton/ Panoma fields.

"After an extremely cold winter of 1976 to 1977, a natural gas shortage began to develop.

"In response, the United States Congress on November 9, 1978, enacted the Natural Gas Policy Act (NGPA) as a part of a national energy policy. The NGPA defined various categories of natural gas and established maximum lawful prices for those classes.

"The NGPA established a higher price for stripper gas and new gas in order to encourage the production of more natural gas in the United States.

"The NGPA established the following classes of natural gas: section 104 old flowing; section 104

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