Important Developments in Retained Acreage Law: Texas Supreme Court Releases Two Proration Unit Opinions

The Texas Supreme Court recently issued two opinions interpreting retained-acreage clauses in oil and gas conveyances. The lessees in both cases filed proration units with the Texas Railroad Commission (“RRC”) and assigned less than all of the acreage covered by the leases to the proration units. In each case, the issue revolved around whether the lessee retained only the acreage assigned to the proration units or all of the leased premises. Different contractual language led the Texas Supreme Court to reach separate, but consistent results.In the first case, Endeavor Energy Resources LP v. Discovery Operating, Inc., No. 15-0155, 2018 WL 1770290 (Tex. Apr. 13, 2018), the retained acreage clause provided that at the end of the primary term or “upon the cessation of the continuous development … whichever is later,” the leases would automatically terminate “as to all lands and depths covered herein, save and except those lands and depths located within a governmental proration unit assigned to” a producing well. Endeavor, the current lessee, drilled four wells on the lease and assigned approximately 80 acres to each well, even though the field rules for the area permitted proration units of up to 160 acres.After the primary term expired and Endeavor ceased its continuous development program, Discovery’s predecessor reviewed Endeavor’s leases and proration plats and determined that Endeavor’s leases had terminated as to all lands not included in the 80-acre proration units. The predecessor took leases on the terminated areas and assigned the leases to Discovery, which drilled two wells. Endeavor sued Discovery, and attempted to file new proration plats with the RRC, assigning 160 acres to each well, which included the acreage described in Discovery’s leases, but the RRC declined to amend the plats due to the pending litigation. The trial court granted summary judgment for Discovery, and the court of appeals affirmed.The Supreme Court also affirmed, holding that the phrase “assigned to” is unambiguous, is a term of art in the oil and gas industry, and can only be reasonably understood as the filing of a proration unit with the RRC. Thus, while the RRC does not have the power to adjudicate and determine property rights, lessors and lessees are free agree upon what leasehold acreage will be retained by the lessee upon lease termination by referencing proration units filed with the RRC. Because the lessor and lessee did so in this case, Endeavor lost all of its acreage not assigned to the proration unit of a producing well.In the second case, XOG Operating, LLC v. Chesapeake Exploration Limited Partnership, No. 15-0935, 2018 WL 1770506 (Tex. Apr. 13, 2018), the retained acreage clause provided that the operator’s assigned interest would revert after the primary term “save and except that portion … included within the proration unit or pooled unit of each well drilled … and producing or capable of producing oil and/or gas in paying quantities.” The term “proration unit” was then defined as “the area established or prescribed by field rules … for the reservoir in which each well is completed.” The clause further provided that where there are no field rules, “each proration unit shall be deemed to be 320 acres.”The operator drilled six wells on the 1,600 acres covered by the assignment, one of which was located in an area without field rules. It filed proration units for four of the wells, assigning a total of 800 acres to those wells. After the expiration of the primary term of the assignment, XOG asserted that the assignment had terminated as to all acreage not covered by a proration unit and sued the operator when it refused to release the acreage. The trial court granted summary judgment to the operator, and the court of appeals affirmed.Upon review, the Supreme Court also affirmed. Because the field rules provided that “for allowable assignment purposes, the prescribed proration unit shall be a [320] acre unit” and the assignment provided that the proration unit for the single well drilled in an area without field rules was also 320 acres, the total acreage in the six proration units exceeded the assigned acreage, so that none of it reverted to XOG. The Court noted its contemporaneous decision in Endeavor, but distinguished the retained acreage clauses in the Endeavor leases from the clause in the XOG assignment because the Endeavor clauses required the operator to affirmatively assign acreage to a proration unit in order to retain such acreage upon termination of the lease. By contrast, the clause in the XOG assignment allowed the operator to retain acreage by reference to the field rules, which prescribed the size of the proration unit. No formal assignment of acreage to a proration unit was required..Ultimately, the Court rejected contentions that the apparently divergent results in Endeavor and XOG will cause confusion, noting that the two cases apply the same principles and “ascribe the words the parties chose their plain meaning.” These two cases can be read in harmony, and together emphasize the need to focus carefully on the precise wording of retained acreage clauses in oil and gas leases and other instruments conveying an interest in oil and gas leases.Conrad D. Hester, Christopher O. Dachniwsky, and Alix D. AllisonThompson & Knight LLP