State v. Davis Oil Co.

• Decision Date: 25 November 1986
• Docket Number: Nos. 86-70,86-71,s. 86-70
• Parties: The STATE of Wyoming, Ed Herschler, Thyra Thomson, James B. Griffith, Stan Smith and Lynn Simons, as members of the Board of Land Commissioners, and James B. Griffith, as State Auditor, and Howard Schrinar, as Commissioner of Public Lands, Appellants (Defendants), v. DAVIS OIL COMPANY, Appellee (Plaintiff). DAVIS OIL COMPANY, Appellant (Plaintiff), v. The STATE of Wyoming, Ed Herschler, Thyra Thomson, James B. Griffith, Stan Smith and Lynn Simons, as members of the Board of Land Commissioners, and James B. Griffith, as State Auditor, and Howard Schrinar, as Commissioner of Public Lands, Appellees (Defendants).
• Court: Wyoming Supreme Court

Page 1107

728 P.2d 1107

The STATE of Wyoming, Ed Herschler, Thyra Thomson, James B. Griffith, Stan Smith and Lynn Simons, as members of the Board of Land Commissioners, and James B. Griffith, as State Auditor, and Howard Schrinar, as Commissioner of Public Lands, Appellants (Defendants), v. DAVIS OIL COMPANY, Appellee (Plaintiff).

DAVIS OIL COMPANY, Appellant (Plaintiff), v. The STATE of Wyoming, Ed Herschler, Thyra Thomson, James B. Griffith, Stan Smith and Lynn Simons, as members of the Board of Land Commissioners, and James B. Griffith, as State Auditor, and Howard Schrinar, as Commissioner of Public Lands, Appellees (Defendants).

Nos. 86-70, 86-71.

Supreme Court of Wyoming.

Nov. 25, 1986.

A.G. McClintock, Atty. Gen., Michael L. Hubbard, Senior Asst. Atty. Gen., and Vicci M. Colgan and Clinton D. Beaver, Asst. Attys. Gen., and Michael R. O'Donnell, Sp. Asst. Atty. Gen., for appellants in Case No. 86-70 and appellees in Case No. 86-71.

Jack D. Palma, II and Donald I. Schultz of Holland & Hart, Cheyenne, and James P. Regan and Patrick B. Seferovich of Davis Oil Co., Denver, Colo., for appellee in Case No. 86-70 and appellant in Case No. 86-71.

Before THOMAS, C.J., and BROWN, CARDINE, URBIGKIT and MACY, JJ.

MACY, Justice.

These are the second and third in a series of cases before this Court involving the interpretation of the royalty clauses contained in State of Wyoming oil and gas leases. The district court granted partial summary judgment in favor of the State, and both parties have appealed.

We reverse in part and affirm in part.

Davis Oil Company is the leasehold owner of certain oil and gas interests owned by the State of Wyoming in Converse County, Wyoming. Davis produces oil from two wells on the leased premises, Concamp State No. 1 and Concamp State No. 2. Associated with the production of oil from the wells is the production of casinghead gas, which is the subject of this appeal. As it is produced, the gas is transported by Davis to a separator on the leased premises where water and other impurities are removed. Then, pursuant to gas purchase contracts with Davis, Phillips Petroleum Company transports the gas from the separator via pipeline to a processing plant near Douglas, Wyoming. Both the pipeline system and the processing plant are owned by Phillips. Before the gas leaves the leased premises, it is metered and tested by Phillips. It then enters the pipeline where it is commingled with gas produced from other nearby fields. At the plant, natural gas liquid is separated and transported by Phillips to its refinery in Texas. The remaining gas is sold by Phillips at its Douglas plant.

Phillips pays Davis for the gas by first calculating the amount of gas contributed to the pipeline system by Davis according to the measurements taken on the leased premises. That amount is then multiplied by a percentage of the price received by Phillips for the sale. Using the resulting figure, Phillips computes the royalty due the State and deducts it from the amount paid to Davis.

Royalties from the sale of casinghead gas produced under the Concamp lease have been paid to the State on the basis of the amount realized from such sales. When the State advised Davis that it believed the royalty payments to be inadequate, Davis filed a complaint in district court seeking a declaratory judgment that royalties due the State for production under the Concamp lease had been properly calculated in accordance with the lease terms. The pertinent portion of the lease provides as follows:

"(d) ROYALTIES. The royalties to be paid by lessee are: * * * (ii) on gas, including casinghead gas or other hydrocarbon substance, produced from said land saved and sold or used off the premises or in the manufacture of gasoline or other products therefrom, the market value at the well of one-eighth of the gas so sold or used, provided that on gas sold at the wells the royalty shall be one-eighth of the amount realized from such sale." (Emphasis added.)

Applying this language, Davis' position before the district court was that the sale of casinghead gas from the Concamp wells is a sale "at the wells." On that basis, Davis argued that the royalty should be calculated according to "the amount realized." The State asserted that the sale of gas from the Concamp lease is not a sale at the wells; rather, the gas is "sold * * * off the premises," "used off the premises," and "used * * * in the manufacture of gasoline or other products." Thus, the State argued that the proper standard for calculating royalties is market value. In addition, the State argued that, regardless of the point of sale or the standard for calculating royalties, the lessor-approval and federal-floor provisions of the lease must be satisfied. ¹ The parties stipulated to the facts, and both filed motions for summary judgment.

The district court denied Davis' motion and granted partial summary judgment for the State. In its final declaratory judgment order, the district court found generally that the gas produced from the Concamp lease is not sold "at the wells" for purposes of calculating royalties but is instead "saved and sold or used off the premises or in the manufacture of gasoline or other products." On that basis, the district court found that the royalties are to be calculated according to market value. The district court also found that the lessor-approval and federal-floor provisions of the lease have been supplanted by the market-value/amount-realized provisions.

In its appeal before this Court, the State asserts the following claims:

"I. Must all parts of the royalty clause in this case be reconciled and construed in harmony and thereby avoid rendering the 'Lessor approval' and 'federal minimum' provisions meaningless?

"II. Did the district court misconstrue the nature of the school land trust and its effect upon the royalty clause in this case?"

Our holding in State v. Moncrief, Wyo., 720 P.2d 470 (1986), is dispositive of these claims. In accordance with that opinion, we reverse the district court's order to the extent that it held the lessor-approval and federal-floor provisions are superseded by the market-value/amount-realized provision.

We are left to consider the single issue raised by Davis in its appeal from the district court's order:

"DID THE DISTRICT COURT ERR IN FINDING DAVIS OIL COMPANY'S CASINGHEAD GAS SALES WERE NOT 'AT THE WELLS' WITHIN THE MEANING OF THE STATE OF WYOMING OIL AND GAS LEASE?"

As indicated by the lease language quoted earlier, the standard used for calculating royalties is dependent upon whether the gas is sold "at the wells" or "saved and sold or used off the premises or in the manufacture of gasoline or other products." In claiming that the gas from the Concamp lease is sold "at the wells," Davis relies in part on the following provision of its gas purchase contracts with Phillips:

"Gas shall be delivered at the inlet of Buyer's facilities at the point or points of separation of oil and gas * * *. Upon delivery, title to the gas and all components thereof shall pass to and vest in Buyer without regard to the purposes for which it may thereafter be sold or used by Buyer." (Emphasis added.)

According to Davis, a sale necessarily occurs when title to the gas passes to Phillips. Because the contracts provide that title passes upon delivery and delivery occurs on the leased premises, Davis asserts that the sale is "at the wells." We do not agree.

As the district court stated in its decision letter, there is no question that title to the gas passes from Davis to Phillips at the separator on the leased premises. However, the passage of title does not determine whether gas is sold "at the wells" nor does it trigger the amount-realized provision.

In Piney Woods Country Life School v. Shell Oil Company, 726 F.2d 225, reh. denied 750 F.2d 69 (5th Cir.1984), cert. denied 471 U.S. 1005, 105 S.Ct. 1868, 85 L.Ed.2d 161 (1985), Shell Oil Company leased certain oil and gas interests from Piney Woods pursuant to leases containing royalty provisions identical in all relevant respects to the provision in dispute here. Shell Oil Company thereafter entered into a contract for the sale of gas with MisCoa, which contract provided that title to the gas passes in the field. Despite this provision, the Fifth Circuit Court of Appeals found that the gas was not sold at the well and consequently that the royalties due must be computed on the basis of "market value at the well" rather than the amount realized. In reaching this result, the court reasoned that:

"[T]he purpose of the distinction between gas sold at the well and gas sold off the lease * * * is to distinguish between gas sold in the form in which it emerges from the well, and gas to which value is added by transportation away from the well or by processing after the gas is produced. The royalty compensates the lessor for the value of the gas at the well: that is, the value of the gas after the lessee fulfills its obligation under the lease to produce gas at the surface, but before the lessee adds to the value of this gas by processing or transporting it. When the gas is sold at the well, the parties to the lease accept a good-faith sale price as the measure of value at the well. But when the gas is sold for a price that reflects value added to the gas after production, the sale price will not necessarily reflect the market value of the gas at the well. Accordingly, the lease bases royalty for this gas not on actual proceeds but on market value.

" 'At the well' therefore describes not only location but quality as well. Market value at the well means market value before processing and transportation, and gas is sold at the well if the price paid is consideration for the gas as produced but not for processing and transportation." 726 F.2d at 231.

Applying that reasoning to the facts before it, the court concluded

"that the gas sold by Shell was not 'sold at the well', within the...