Zehentbauer Family Land LP. v. Chesapeake Exploration, LLC

• Decision Date: 30 March 2020
• Docket Number: CASE NO. 4:15CV2449
• Citation: 450 F.Supp.3d 790
• Parties: ZEHENTBAUER FAMILY LAND LP., et al., Plaintiffs, v. CHESAPEAKE EXPLORATION, LLC, et al., Defendants.
• Court: U.S. District Court — Northern District of Ohio

450 F.Supp.3d 790

ZEHENTBAUER FAMILY LAND LP., et al., Plaintiffs,

v.CHESAPEAKE EXPLORATION, LLC, et al., Defendants.

CASE NO. 4:15CV2449

United States District Court, N.D. Ohio, Eastern Division.

Signed March 30, 2020

Dennis E. Murray, Jr., William H. Bartle, Murray & Murray, Sandusky, OH, Gregory W. Watts, Scott M. Zurakowski, Terry A. Moore, Krugliak, Wilkins, Griffiths & Dougherty, Canton, OH, for Plaintiffs.

Andrew P. Guran, Jessica Knopp Cunning, Vorys, Sater, Seymour & Pease, Akron, OH, Andrew P. Reeve, William M. Connolly, Drinker Biddle & Reath, Seamus C. Duffy, Akin Gump Strauss Hauer & Feld, Philadelphia, PA, Daniel T. Donovan, Kirkland & Ellis, Washington, DC, Peter A. Lusenhop, Timothy B. McGranor, Vorys, Sater, Seymour & Pease, Columbus, OH, Christopher A. Brown, K & L Gates, Dallas, TX, David H. Ammons, Haynes & Boone, Houston, TX, J. Nicholas Ranjan, Kristen M. Del Sole, Travis L. Brannon, K & L Gates, Pittsburgh, PA, Jeffrey C. King, K & L Gates, Fort Worth, TX, for Defendants.

MEMORANDUM OF OPINION AND ORDER

[Resolving ECF Nos. 168, 177, and 179]

Benita Y. Pearson, United States District Judge

Pending is Plaintiffs' Motion for Partial Summary Judgment (ECF No. 168) on liability for breach of contract.¹ Also pending is Defendant Total E&P USA, Inc.'s ("TEPUSA") Motion for Summary Judgment (ECF No. 177). In addition, pending is Defendants Chesapeake Exploration, L.L.C., Chesapeake Operating, L.L.C., and CHK Utica, L.L.C.'s ("the Chesapeake Defendants") Motion for Summary Judgment (ECF No. 179).² The Court has been advised, having reviewed the record, the parties' briefs, and the applicable law. For the reasons that follow, the Court agrees with Defendants' interpretation of how payment of oil and gas royalties are to be calculated and then paid to Plaintiffs in accordance with the Gross Royalty Leases. Therefore, there is no breach of contract or breach of the express covenant to "act as a reasonable prudent operator exercising good faith." The Court grants Defendants' motions, and denies Plaintiffs' motion.

Defendants are exploration and production companies that have contracted with landowners to drill for oil and gas on the leased properties, and Plaintiffs are a class of such landowners. Between 2010 and 2012, Plaintiffs and Defendants entered into hundreds of oil and gas lease agreements that provide for royalty payments to Plaintiffs based on the gross proceeds received by Defendants from the sale of each well's oil and gas production.

Defendants sell the oil and gas extracted from the leased properties to so-called midstream companies affiliated with Defendants. To calculate the price that an unaffiliated entity would have presumptively paid for the oil and gas, Defendants use the "netback method." That method takes a weighted average of prices at which the midstream affiliates sell the oil and gas at various downstream locations and adjusts for the midstream company's costs of compression, dehydration, treating, gathering, processing, fractionation, and transportation to move the raw oil and gas from the wellhead to downstream resale locations. See Brief of Bruce M. Kramer Amicus Curiae in Support of Petitioner filed in Lutz (ECF No. 179-4) at PageID #: 5862. The "netback price" is essentially the downstream price of the oil, gas, and natural gas liquids ("NGLs") less the post-production costs incurred to obtain that enhanced downstream price. According to Plaintiffs, Defendants failed to tender full and complete royalty payments to Plaintiffs during the years in question because the netback method (1) does not accurately approximate an arms-length transaction price, and (2) improperly deducts post-production costs from the price. Defendants admit that post-production expenses were deducted before calculating Plaintiffs' royalty payments.

I. Stipulated Facts

The stipulated facts³ are as follows:

1. The oil and gas leases for the three (3) named Plaintiffs -- Zehentbauer Family Land Limited Partnership, Hanover Farms Limited Partnership, and Robert Milton Young Revocable Trust, dated May 14, 1998 by Evelyn Frances Young as Successor Trustee -- represent the at-issue oil and gas lease forms for this matter.

2. The Zehentbauer Family Land Limited Partnership oil and gas lease with Ohio Buckeye Energy, L.L.C. is dated January 11, 2011 ("Zehentbauer Lease"), and ECF No. 172-1 is a true and correct copy.

3. The Zehentbauer Lease contains the following provisions related to the sale of oil and gas:

5. ROYALTIES . The Lessee covenants and agrees:

a. Oil Royalty. To pay Lessor seventeen and one half percent (17.5%) royalty based upon the gross proceeds paid to Lessee from the sale of oil recovered from the leased premises valued at the purchase price received for oil prevailing on the date such oil is run into transporter trucks or pipelines. b. Gas Royalty. To pay to the Lessor seventeen and one half percent (17.5%) royalty based upon the gross proceeds paid to Lessee for the gas marketed and used off the leased premises, including casinghead gas or other gaseous substance, and produced from each well drilled thereon, computed at the wellhead from the sale of such gas substances so sold by Lessee in an arms-length transaction to an unaffiliated bona fide purchaser, or if the sale is to an affiliate of Lessee, the price upon which royalties are based shall be comparable to that which could be obtained in an arms length transaction (given the quantity and quality of the gas available for sale from the leased premises and for a similar contract term) and without any deductions or expenses except for Lessee to deduct from Lessor's royalty payments Lessor's prorated share of any tax, severance or otherwise, imposed by any government body. For purposes of this Lease, "gross proceeds" means the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises.

ECF No. 172-1 at PageID #: 5365.

4. The Hanover Farms Limited Partnership oil and gas lease with Ohio Buckeye Energy, L.L.C. is dated December 23, 2010 ("Hanover Lease"), and ECF No. 172-2 is a true and correct copy.

5. The Hanover Lease contains the following provisions related to the sale of oil and gas:

5. ROYALTIES . The Lessee covenants and agrees:

a. Oil Royalty. To pay Lessor seventeen and one half percent (17.5%) royalty based upon the gross proceeds paid to Lessee from the sale of oil recovered from the leased premises valued at the purchase price received for oil prevailing on the date such oil is run into transporter trucks or pipelines.

b. Gas Royalty. To pay to the Lessor seventeen and one half percent (17.5%) royalty based upon the gross proceeds paid to Lessee for the gas marketed and used off the leased premises, including casinghead gas or other gaseous substance, and produced from each well drilled thereon, computed at the wellhead from the sale of such gas substances so sold by Lessee in an arms-length transaction to an unaffiliated bona fide purchaser, or if the sale is to an affiliate of Lessee, the price upon which royalties are based shall be comparable to that which could be obtained in an arms length transaction (given the quantity and quality of the gas available for sale from the leased premises and for a similar contract term) and without any deductions or expenses except for Lessee to deduct from Lessor's royalty payments Lessor's prorated share of any tax, severance or otherwise, imposed by any government body. For purposes of this Lease, "gross proceeds" means the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises.

ECF No. 172-2 at PageID #: 5386-87.

6. The Robert Milton Young Revocable Trust, dated May 14, 1998 by Evelyn Frances Young as Successor Trustee is dated March 14, 2012 ("Young Lease"), and ECF No. 172-3 is a true and correct copy.

7. The Young Lease contains the following Royalty Clause:

9. ROYALTIES . The Lessee covenants and agrees:

a. Oil Royalty. To pay to the Lessor TWENTY percent (20.0%) royalty based upon the gross proceeds paid to Lessee from the sale of oil, including without limitation other liquid hydrocarbons or their constituents and products thereof recovered from the leased premises so sold by Lessee in an arms-length transaction to an unaffiliated bona fide purchaser, or if the sale is to an affiliate of Lessee, the price upon which royalties are based shall be comparable to that which could be obtained in an arms-length transaction (given the quantity and quality of said products available for sale from the leased premises and for a similar contract term) and without any deductions or expenses. For purposes of this Lease, "gross proceeds" means the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises without deductions of any kind except as provided in paragraph 44.⁴

b. Gas Royalty. To pay to the Lessor TWENTY percent (20.0%) royalty based upon the gross proceeds paid to Lessee for the gas marketed and used off the leased premises, including casinghead gas or other gaseous substance, and produced from each well drilled thereon, computed at the wellhead from the sale of such gas substances so sold by Lessee in an arms-length transaction to an unaffiliated bona fide purchaser, or if the sale is to an affiliate of Lessee, the price upon which royalties are based shall be comparable to that which could be obtained in an arms-length transaction (given the quantity and quality of the gas available for sale from the leased premises and for a similar contract term) and without any deductions or expenses. For purposes of this Lease, "gross proceeds" means the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises without deductions of any kind except as provided in paragraph 44.

ECF No. 172-3 at PageID #: 5409-10.

8. TEPUSA purchased an...