Southland Royalty Co. v. Wamsutter LLC (In re Southland Royalty Co.)

• Decision Date: 13 November 2020
• Docket Number: Case No. 20-10158 (KBO),Adv. Proc. No. 20-50551 (KBO)
• Citation: 623 B.R. 64
• Parties: IN RE: SOUTHLAND ROYALTY COMPANY LLC, Debtor. Southland Royalty Company LLC, Plaintiff, v. Wamsutter LLC, Defendant.
• Court: U.S. Bankruptcy Court — District of Delaware

623 B.R. 64

IN RE: SOUTHLAND ROYALTY COMPANY LLC, Debtor.Southland Royalty Company LLC, Plaintiff,

v.Wamsutter LLC, Defendant.

Case No. 20-10158 (KBO)

Adv. Proc. No. 20-50551 (KBO)

United States Bankruptcy Court, D. Delaware.

Signed November 13, 2020

K. Mallory Brennan, Sara Coelho, Randall Martin, Blaine Scott, Deke Shearon, Foteini Teloni, Shearman & Sterling LLP, New York, NY, Jacob R Fields, David R Whittlesey, Shearman & Sterling LLP, Austin, TX, C. Luckey McDowell, Ian Roberts, Shearman & Sterling LLP, Dallas, TX, M. Blake Cleary, S. Alexander Faris, Elizabeth Soper Justison, Michael S. Neiburg, Young, Conaway, Stargatt & Taylor, LLP, Wilmington, DE, Brett Shea Turlington, Andrew R. Workman, Morris Nichols Arsht & Tunnell LLP, Wilmington, DE, for Debtor

OPINION ¹

Karen B. Owens, United States Bankruptcy Judge

I. INTRODUCTION

The above-captioned adversary proceeding springs from a gas gathering agreement, referred to as the L63 Agreement, between plaintiff-debtor Southland Royalty Company LLC ("Southland") and defendant Wamsutter LLC ("Wamsutter") pertaining to Southland's assets in the Wamsutter field of the Greater Green River Basin of southwestern Wyoming. Following the commencement of Southland's chapter 11 bankruptcy proceeding, Southland began a sale process for such assets but suspended it after receiving no binding offers. Attributing this lack of success to a burdensome minimum volume commitment and associated deficiency fees contained in the L63 Agreement, Southland commenced this action to gain clarity as to its options with respect to the agreement so that it can move forward with its bankruptcy proceeding and maximize value for its stakeholders.²

More specifically, Southland seeks to determine (1) whether it can eliminate the minimum volume commitment from the L63 Agreement so that the remainder of its terms may be assumed and assigned, (2) whether under section 363(f)³ it may sell its assets free and clear of any interests that Wamsutter has as a result of the L63 Agreement, and (3) whether it may reject the L63 Agreement and flow all of its gas currently serviced by Wamsutter under such agreement to an earlier, less onerous gas gathering agreement between the parties referred to as the L60 Agreement. A threshold determination for the Court in deciding these issues is whether the L63 Agreement is in whole or in part a real covenant binding Southland's successors under Wyoming law as either a covenant running with the land or an equitable servitude. The Court finds that the L63 Agreement is not and does not contain a real covenant. This and the remainder of the issues presented by the parties are addressed more thoroughly herein.

II. FACTS

A. The Parties

On January 27, 2020 (the "Petition Date"), Southland filed a voluntary petition under chapter 11 of the Bankruptcy Code. Southland is an upstream energy company focused on the acquisition, development, and exploitation of oil, natural gas, and natural gas liquid reserves in North America. Southland owns interests in thousands of operated and non-operated oil and gas wells covering more than 500,000 net working interest acres in the Wamsutter field of the Greater Green River Basin in Carbon and Sweetwater County, Wyoming (the "Wamsutter Field"). Southland acquired its interests in the Wamsutter Field from Anadarko E&P Onshore LLC, Anadarko Land Corp., and Kerr-McGee Oil and Gas Onshore, LP (together, "Anadarko") in a transaction that closed on June 24, 2016.⁴

Wamsutter⁵ is a provider of midstream services to Southland in the Wamsutter Field pursuant to various agreements. To provide its services, it constructed and owns a gathering system in the Wamsutter Field (the "Wamsutter Gathering System"). The Wamsutter Gathering System is a large highway of pipes, compressors, dehydrators, processing plants, and other facilities that enable Wamsutter to gather, transport, process, and treat the gas produced from Southland's wells so that it can be taken downstream for sale. As it currently stands, the Wamsutter Gathering System is comprised of, among other things, thousands of miles of pipelines, numerous gas compressor stations, and a gas processing plant. Infrastructure, facilities, and services of the kind Wamsutter provides are critical to upstream producers such as Southland who do not own or otherwise have access to such provisions, and are therefore reliant on third parties to monetize the gas produced from their wells.

At issue in this dispute are two gas gathering agreements between Southland and Wamsutter governed by Wyoming law. The first is dated June 1, 2016 and entitled Gas Gathering, Processing, Dehydrating and Treating Agreement (the "L60 Agreement"). The second is effective November 1, 2018 and also entitled Gas Gathering, Processing, Dehydrating and Treating Agreement (the "L63 Agreement" and, together with the L60 Agreement, the "Gas Gathering Agreements").

B. The L60 Agreement

Wamsutter and Anadarko E&P Onshore, LLC entered into the L60 Agreement shortly before the Anadarko-Southland sale. At that time, the agreement was known as the L09 Agreement. The L09 Agreement served in part to update and replace gas gathering agreements in place between the parties since 1993. The execution of the agreement followed months of negotiations between Anadarko and Wamsutter. Towards the end of the negotiations, Southland became involved. Following the Anadarko-Southland sale, the L09 Agreement was partially assigned to Southland and renamed the L60 Agreement.⁶ The primary term of the L60 Agreement expires on December 31, 2031.

In the L60 Agreement, Southland dedicated (the "L60 Dedication") its gas within a specified geographic area of the Wamsutter Field (the "L60 Area of Interest") for Wamsutter's exclusive right to gather, process, dehydrate, and treat.⁷ Wamsutter agreed to gather Southland's gas at certain specified locations within the L60 Area of Interest called receipt points (the "L60 Receipt Points") and to process it in exchange for the payment of volumetric gathering and processing fees.⁸ At the time of contracting, the parties agreed on a defined set of L60 Receipt Points corresponding to existing wells.⁹ They also agreed on procedures for future drilled wells. For example, if Southland plans to drill an additional well in the L60 Area of Interest, it must deliver notice to Wamsutter of, among other things, the well's location and a reasonable estimate of its production and gas quality. Wamsutter must then accept or reject the new well. If accepted, the L60 Agreement is automatically amended to include the new well within the L60 Dedication and to identify the new L60 Receipt Point for the well. If rejected, the new well and the gas produced therefrom are removed from the L60 Dedication and Southland is free to contract with a new midstream provider.¹⁰ A similar procedure applies to future gas acquired by Southland within the L60 Area of Interest.¹¹

C. The Chain Lake Amendment

Wamsutter and Southland amended the L60 Agreement multiple times, including on September 1, 2017 (the "Chain Lake Amendment").¹² As discussed further herein, Southland desired to increase its horizontal drilling activities in the L60 Area of Interest. Because the then-existing Wamsutter Gathering System was designed to accommodate vertical wells, it was determined that modifications were needed to provide incremental capacity to accommodate Southland's future horizontal wells. Horizontal wells typically produce gas at a much higher volume than vertical wells. As a result, if not updated, a gathering system servicing vertical wells may be incapable of handling the additional volume from horizontal wells. The resulting increased pressure on the system could reduce or completely stop production from the vertical wells.

To address these potential problems, Wamsutter agreed in the Chain Lake Amendment to enhance certain components of the Wamsutter Gathering System, including the installation of a new compressor station and several larger pipelines. To compensate Wamsutter for its services and investment undertaken by this project, Southland and Wamsutter negotiated a comprehensive fee structure in which Southland agreed to pay a project volumetric fee, a one-time payment of $5 million, and deficiency fees calculated on an annual basis if Southland failed to deliver to Wamsutter certain agreed-upon minimum volumes of gas during a ten-year period.¹³ Additionally, Southland and Wamsutter agreed that certain existing receipt points in an overlapping dedicated area of interest established by a separate gathering agreement, referred to as the G36 Agreement, would be removed and added to the L60 Agreement.¹⁴

D. The L63 Agreement

At the time of the Anadarko-Southland sale, most of the producing wells in the L60 Area of Interest were traditional vertical wells. Thereafter, Southland developed its extensive horizontal drilling program. Southland envisioned hundreds of future horizontal wells and significant forecasted production. As a result, Wamsutter needed to further expand, at great cost, the Wamsutter Gathering System by designing and constructing tailored infrastructure, including two compressor stations called the Hansen Lake Compressor Station and the High Point Compressor Station as well as associated pipelines and equipment (the "Hansen Lake/High Point Infrastructure"). Other producers in the Wamsutter Field may use some of the Wamsutter Gathering System, but only Southland uses the Hansen Lake/High Point Infrastructure.

To accommodate this major project and Wamsutter's approximate $350 million investment, the parties entered into the L63 Agreement. Negotiations began in 2017. The parties signed in June 2018 and made the agreement effective November 1, 2018. The primary term of the L63 Agreement expires on October 1, 2038. On January 8, 2020, Wamsutter recorded in the real property records of Carbon and Sweetwater Counties, Wyoming the Memorandum of Gas Gathering Processing,...