Hunting for Resolution: The Surface and Mineral Estates - Part IV
Surface Use Agreements
Here we are! Finally! After three weeks of posts giving a broad rundown of how the surface and mineral estates in Texas can interact when there’s oil and gas to be had, it’s time to read all about surface use agreements in Part IV of this series. I’m sure you’re just as excited as I am to dig into them.
“Haven’t we suffered enough?”
Surface use agreements come in many forms and are called many things. They can be separate, standalone agreements detached or unrelated from an oil and gas lease, or they can be separate agreements that refer to and integrate an oil and gas lease. Surface use terms can even be integrated into the oil and gas lease itself. Regardless of form, surface use agreements, at their core, are contracts. As contracts, the content of a surface use agreement can have virtually infinite variation and can range from the simplest one-page documents to Stephen King-esque volumes that leave you with feelings of dread and despair just like most Stephen King novels do.
“He’s one to talk with blog posts that unintentionally invoke feelings of dread and despair.” False. It’s intentional. I am the Stephen King of Texas oil and gas blogs that use bad words.
Why get a surface use agreement?
The need for a surface use agreement can arise when there’s a mineral severance or when the minerals are not severed but the controlling oil and gas lease is silent or unspecific as to surface use. In either case, you may be running up against a competing use of the surface by the surface owner who may also be your lessor. Parts I, II, and III of this series should make it clear that, while you may ultimately have the legal right to use the surface as you see fit, you’re going to be exposing yourself to varying levels of risk (a/k/a litigation) if you end up at odds with the surface owner. Even if your relationship seems amicable initially, any of us with enough experience in this industry knows that the chummiest of relationships can quickly sour before the rig even rolls onto the property. Additionally, there’s no guarantee that your new surface BFF won’t sell off the property to a less amenable surface owner at some point in the future. And they might kick the bucket. Which is obviously guaranteed if you wait long enough. Whatever. You get the point.
That’s why it’s so important to write down what you’re going to say before you publish it to your blog. Wait. Shit. That doesn’t sound right.
When relationships are destined to fall apart or disappear (I mean with surface owners—totally not projecting some abandonment issues here), it’s simply imprudent business to rely on the imprecise default rules developed by the courts when you have an alternative that can clearly define and establish your relative rights and obligations for now and into the future.
It may seem from this series that I’m making the argument that the default rules are necessarily insufficient or faulty, but that just isn't so. The default rules are generally adequate to resolve disputes between the parties, but they are unquestionably not the best means to do so. Their creation can be sourced from cases where the parties failed to come to an agreement amongst themselves. They are retrospective, not prospective. There’s no getting out in front of the potential conflicts with them. As such, the default rules should only be considered a fallback when other options have failed.
“You miss 100% of the shots you don’t take. - Wayne Gretzky” - Michael Scott
Good business in the long term will skew towards certainty, and certainty requires a written agreement. Or at least it should. Prudence dictates that agreements should be put on paper to not only protect the rights of each party but also to clearly define expectations. We can see this with the plethora of implied covenants at common law that are imposed on lessees when the terms of an oil and gas lease are silent, like the implied covenants to develop, protect against drainage, market, diligently operate, and so on. Like the default rules for surface use, these default rules are not insufficient or faulty, but are retrospective. Each was developed by Texas courts with "reasonableness" and "equity" in mind to promote a relationship where the oil and gas can be efficiently extracted such that both the lessor and lessee profit. But, if it isn't already obvious, anything in law tied to "reasonableness" or "equity" does little to promote certainty in a business transaction. As a result, these implied covenants have been integrated over time into the most common lease forms, where each is more clearly defined, altered, or outright negated (when possible). Those integrations have become so commonplace and basic that you’d likely get some sidelong glances from your colleagues for leaving them out of your lease form. Heck, I’d probably be committing malpractice if I didn’t have them in my lease form.
I’d also probably be committing malpractice if I didn’t clean up the Frankensteined lease forms that overzealous landmen and incompetent attorneys cobble together for negotiations.
Take the Temporary Cessation of Production Doctrine for an additional example, which courts read into oil and gas leases to avoid the harsh consequence of automatic lease termination for any lack of production outside of the primary term regardless of the cause. The lease will be saved if the cessation was temporary and due to a sudden stoppage of the well or a mechanical breakdown. Seems useful for the courts to imply a safeguard like this into the lease, right? Sure, it has no doubt saved some leases from termination, but when you look at the cases applying the Doctrine you’ll find that what constitutes “temporary” can range from just a few days to several months, and the valid causes for stoppage or mechanical breakdown aren’t clear or consistent. You also have to litigate to know if your lease is saved (failure of a lease condition is automatic termination). Unsurprisingly, most modern lease forms include clauses that clearly define a period where the lease will not terminate if production temporarily ceases. The same forms will typically include a clear means by which the lease may be held beyond the cessation period if the lessee is attempting to reobtain production but fails to do so by the end of the period (usually by actual drilling operations). The lessee loses a little ground to gain a little position. There’s a defined window for the lessee to act accordingly, and risk is managed. A well-drafted surface use agreement should do much the same thing for you and your surface activities.
Because you’re only ever dealing with one well under a single lease producing from acreage in a single tract, it should be easy to keep track of all of your drilling and surface obligations.
Even if you are not initiating talks for an SUA, the surface and mineral owners (whether the same or different parties) have increasingly sought surface use protections or outright prohibition on using the surface as time has gone on. Something that used to be limited to urban tracts ('member the Barnett Shale? I 'member) has now crept out into rural tracts. This can even extend beyond the attitudes of individual surface and mineral owner(s)—more and more are we seeing outright surface waivers when the minerals are severed (that is, the minerals are severed but the right of ingress and egress on the surface to obtain them is "waived" and left with the surface owner), which will flow down the chain of title to parties who had nothing to do with the initial severance. In addition to the obvious hurdle of having to go to the surface owner for an SUA if you’re dealing with a surface waiver tract, you might need to get clearance to even drill under the tract—in the 2017 Texas Supreme Court case Lightening Oil v. Anadarko E&P Onshore, LLC, 520 S.W.3d 39, the court expanded the Accommodation Doctrine to encompass subsurface activities. See, in typical fashion of concocting a beloved legal fiction, when attorneys (and therefore judges) use the term "surface", what they really mean is "everything under your feet except certain minerals".
Don’t forget that the word “minerals” in Texas definitely includes the oil and gas, but not caliche or sand, and sometimes can include coal depending on how it’s situated on the property and what legal test applies to its (potentially) severing instrument. It depends!
In a topic that could fill its own series of OG Energy Blog posts, Texas courts have grappled with the definition of "surface" (and by extension, “minerals”) for as long as there have been Texas courts. Sufficient for our discussion here is that the surface owner has been ruled to own the "subsurface matrix" ... under the surface. In other words, the mineral owner owns the oil and gas as it sits in the ground, but the surface owner owns the formations surrounding the oil and gas. Makes perfect sense, right? In light of the Lightening case, this could mean that, in addition to having no right to use the literal surface of the property as every sane person (and many insane persons) understand it, a surface waiver could prohibit you from even drilling through the subsurface of the tract (… which is legally considered the surface) from an off-site surface location. While it would make little sense to strand mineral interests in this way from both a logical and policy perspective, such an outcome is not yet ruled out based on currently reported cases. When considering the unyielding penchant of modern courts to restrict their review of instruments of conveyance to the sterile "four corners" of the document (actual intent be damned!) and the overabundance of poorly drafted deeds sitting in county courthouses across the state, you start to wonder what a ruling might look like. All of this is a verbose way of suggesting that, when in doubt, get an SUA. As we discussed in Part III of this series, you don't want to be the litigation guinea pig if you can avoid it.
“Hot damn, we got sued again! I love it when we get sued!
Surface Use Terms in Leases
If you already have a lease from an unsevered mineral owner, take a look at the terms of your lease. It is not uncommon for leases, whether modern or not, to include some amount of surface use provisions, and many of the widely used lease forms today include broad, non-specific surface use provisions. Here's a typical granting clause of an oil and gas lease with surface use provisions baked into it [emphasis added]:
These terms are broad and definitely reinforce the default authority of the mineral lessee to enter upon the premises to drill, and entering upon such under this authority certainly should give you some confidence that you'll be "in the right" while conducting your prudent operations. But much like the default rules, general terms like those above will leave far too many potential points of conflict open to interpretation and argument. Put bluntly: terms that lack specificity aren't usually worth the paper they're printed on.
You’ll likely find yourself in a risk analysis similar to the one you'd go through under the default "reasonable use"/Accommodation Doctrine analysis: What is the scope of your currently planned operations? How might that change? What about future operations? How comfortable are you with your lessor being amenable to your operations? Is your lessor using the surface for a specific purpose that your operations might interfere with? What are the chances that ownership of the surface changes hands (and the new owner being much less agreeable than the former)? If you’re in the process of obtaining an oil and gas lease from an unsevered mineral owner, and you want to roll surface use terms into the oil and gas lease (or your lessor requires it as a condition to signing the lease), don’t throw in something generic like the following:
This language does nothing to get you to beyond the generalities of the default rules. What’s worse, you've just taken on a boatload of additional obligations that may result in extra headache and require you to pay considerable sums of money that you won't be determined until you've agreed to a number with the lessor or the lessor has sued you and a court determines it for you. To add to the disadvantage, this process will repeat indefinitely with each separate surface operation—what might be "reasonable" in one instance may not in another (at the very least, in the lessor's eyes). So, if something like the above makes its way into your lease:
Let’s pretend like this is also a gif from The Office.
Under the default rules, there's no specific obligation to pay damages for most of the specific items listed in the language above. In lieu of clearly laying out “X” activity costing “Y” dollars or what standard applies to any given surface use, terms like "reasonable and prudent operator", "reasonable amount of damages" (for "each drill site location," no less), and "best efforts" are used. So, instead of operating under the default rules (rules that lean in favor of the operator and require the surface owner/lessor to initially prove the case), the lessee under this lease may have to defend a lawsuit under a contract theory where the burden to prove the case may not necessarily fall on the surface owner/lessee initially. It should be clear, then, that if you're going to put surface use provisions in your lease, keep them specific. Define the activities, the scope and time frames for the activities, and the cost for such. Tailor your lease to the particular surface use.
Official Childers Hewett Slagle company policy.
Keep in mind that the nature of negotiating an oil and gas lease and the resulting form and content of the lease will make it harder to include comprehensive surface use provisions. While there's certainly oil and gas leases out there that are dozens of pages long (God help you if you come up against certain big bank reps for lessors playing oil and gas lawyer in your lease negotiations on behalf of a lessee—you know who you are), most leases aren't. And even the beefier custom lease forms will primarily focus on pretty much everything else besides surface use. In contrast, it's not uncommon for an independently drafted and executed SUA to be dozens of pages long. So, it's no surprise that surface use provisions in oil and gas leases, even when substantial, are usually not going to be comprehensive. Putting these provisions in the lease itself can also inject some ambiguity when specific terms are interpreted in a certain way in oil and gas leases. For example, "in paying quantities" is generally read into the term "production" in an oil and gas lease, but would that apply here in a surface use provision in an oil and gas lease? In an independent SUA, this type of interpretation question is less likely to arise.
Separate Surface Use Agreement
You might be thinking that whether you get an SUA or not doesn't make a difference in a majority of circumstances. You might be right. But, if you can avoid the risk, why wouldn't you? If you think I'm being pedantic in advocating for SUA’s (the J.D. on the wall of my office all but confirms your assessment), just wait until you have to hire a litigator to take these kinds of issues to court. Those attorneys subsist on pedantry.
It’s a harmless joke, litigators! Please don’t sue me.
A less pedantic, more practical benefit to the lessee of a separate SUA is the partial or complete decoupling of surface use negotiations from oil and gas lease negotiations. As anyone knows who has slogged through the back-and-forth of redlining a lease, the whole process is an exercise in "What hills do I want to die on?", and the hills will invariably change as the negotiations play out. Surface use provisions commonly take a back seat (and rightfully so in many circumstances) to provisions addressing royalty amount and calculation, lease perpetuation, pooling, continuous development, retained acreage, and pretty much any other provision that touches on production and getting money into the lessor's pocket. Depending on your circumstances and the complexion of your lessor, it may prove beneficial to lease negotiations to take surface use off of the table. Getting a lease that is silent on surface use (or that includes the general terms discussed above) and then negotiating a separate SUA could be your best course. But it may be necessary in your negotiations to concede to a surface use prohibition clause in the lease with the understanding that a separate SUA will be entered into separately. If this is the case, make sure the lease and SUA are executed concurrently. You don’t want to end up getting an oil and gas lease that prohibits surface use and then not being able to subsequently agree to an SUA.
I wouldn’t tempt fate. “Risk aversion” is framed as preparing for the worst, but it’s mostly just an attorneys way of trying to use reverse psychology to cheat fate.
If your minerals are severed, then a separate SUA with the surface owner is a necessity to effectively address and avoid the issues we've discussed in this series. Without an SUA, your surface use will be subject to the default rules. The terms of an oil and gas lease granted by a severed mineral owner will do nothing to modify those default rules.
Anatomy of a Surface Use Agreement
Much like an oil and gas lease, the terms of an SUA can vary wildly. Similar issues can be addressed effectively in multiple ways and by differing terms in any given SUA, and the circumstances surrounding the drafting and execution of the SUA are likely to dictate its form and content. With that said, there are a handful of issues and terms that a well-drafted SUA should include. Below are some of those issues. If you want the terms, well, those ain’t free.
What? This ain’t a charity. At least in theory.
The Cost of Doing Business
Speaking of ain’t free, many SUA’s will lay out the specific amount of money that the surface owner should be paid for a given activity or use of the surface. Sometimes called “liquidated damages” (a fancy way of saying “pre-set costs”), these can be scattered about in the many provisions of the SUA or can be in a singular provision, which might look like the following:
Whichever way it is done, defining costs for planned activities helps with certainty for both lessee and lessor—the lessee knows roughly what it will cost to use the surface and the surface owner knows roughly how much money is coming his or her way. Consider setting costs for as much as possible, including defining costs for damages to cattle and crops with specific metrics for measuring the damages. The more you define—even down to the diameter of tree that you have to pay for—means less chance that your surface owner raises hell because you did something as awful as cut down a few saplings.
Avoid Hard Consents
Sometimes you’re just not going to get what you want without a consent provision in your SUA. Consent provisions can be found anywhere in the SUA, and surface owners will commonly want to you to get their consent for the location, size, and type of surface facilities. If at all possible, make sure that you are not subject to any hard consents—that is, instances where the surface owner can unilaterally refuse consent for any reason, even an unreasonable reason. If you’re subject to such a consent, then you are out of luck if the surface owner won’t play ball, regardless of how reasonable you are being. You’d be better off under the default rules. Instead, claw back any consent requirement to not be unreasonably withheld, delayed, or conditioned. This won’t prevent a surface owner from still withholding consent or, potentially, requiring you to go to court to enforce your rights, but it’s certainly more desirable than being SOL with a hard consent.
And with that, I’ll soon be getting an emailed copy of the employee conduct handbook.
Location, Location, Location (and Size and Type)
It should be no surprise that you’ll want the SUA to clearly set out the parameters for the location, size, and type of your wells, production facilities, new roads, pipelines, padsites, slush pits, powerlines, water pits, water wells, tank batteries, and so on. The level of specificity will depend on your planned operations and the particularness of the surface owner—these provisions can be as detailed as necessary, which may include outlining the materials used, method of construction, and manner of reclamation after initial operations are complete. For example, the SUA might establish the depth at which pipelines must be buried, require the burying of pipelines to be done by the double ditch method, and provide for temporary crossings and long-term maintenance of installed pipelines.
Can I Use Your Stuff?
Your leased premises/proposed surface location might have existing roads, fences, gates, water wells, powerlines, and the like, and it might have dirt and caliche that you may want to use in your operations. The SUA is a great tool to define what you can and can’t use, in what manner, and to what degree. These provisions should also provide for clear means of reclamation for any damage your use causes.
I’m Thirsty
Additionally, remember how the “surface” is more than just the surface? Well, part of that wider definition is ownership of the groundwater. If you want to drill a water well under a lease, you can do so as part of your operations under a lease but you can only use a “reasonable” amount and the water can only be used for the benefit of the leased tract. Run afoul of being reasonable or use the water anywhere else, and you’re stealing from the surface owner. Oh, and the “reasonable” is tied into the same standard as like any other surface use—so it’s not clearly defined.
Say “reasonable” again. I dare ya. I double dare ya, motherf… Yeah I’ve got a handbook to adhere to, sorry.
I’ve Drank Too Much
Got produced water? Would it be convenient for you to inject it back into the ground? Well, because the surface owner owns the “subsurface matrix,” you have no authority to do so as an oil and gas lessee unless the lessor also owned the surface and granted you that right or you have a disposal lease from the surface owner or an SUA that grants similar authority. That authority can also include the right to inject water from off of the premises.
Leave It Better Than You Found It
Reclamation and restoration provisions can be big sticking points for surface owners. It’s common for the operator to be obligated to restore the land to a condition as near as practicable as it was before any operations. The level of restoration can vary, from something as simple as the removal of gates/cattleguards and restoration of the cut fence to requiring specific species of grass being seeded on and around removed and regraded surface facilities within a set timeframe. Often, these provisions can be conditioned on written request by the surface owner rather than an automatic requirement. Whatever the terms, keep in mind that the default rules for restoration of the surface are heavily favorable to the oil and gas lessee, so any obligation you take on in this regard is likely above and beyond what you’d regularly be required to do. Since you’re not in the business of making friends, consider using this kindness as a bargaining tool in the negotiation of an SUA.
Thank God everybody loves the oil and gas industry!
Pimp My Farm
You may be able to reduce or eliminate excessive reclamation and restoration obligations if you agree to carry out certain upgrades to the surface. This could be upgrading a dirt road with a nice caliche road, drilling water wells that the surface owner has an option to take over once you’re done with them, installation of upgraded or new fences and gates, and anything else that might be attractive to a surface owner. Use your imagination. Hold that carrot out on a stick.
Uno Reverse Card
Most of the SUA will obligate the operator, but there are some provisions you might want to negotiate that limit the surface owner’s use of the surface. Left undefined, the reasonable use of the surface runs both ways—the surface owner is free to install roads, fences, operate heavy equipment, construct buildings and facilities, grant easements to third parties (including subsurface easements), hunt and fish, farm and ranch, and otherwise enjoy the surface up to the point where you, as the mineral lessee, are using it.
Of course, as we’ve hammered in this series, the mineral estate is the dominant estate and, in the end, you’ve got a good chance of prevailing in a court battle based on a 1:1 use of the surface. But what if you defined some boundaries in the SUA to eliminate any doubt? The surface owner could be prohibited from conducting certain activities within a certain distance from yours or in a certain area. If you have long-term plans for the tract, these types of provisions can be very valuable and can even outlast any oil and gas lease you may have.
Let’s see how the surface owner likes not being able to fish in your sludge pond or shoot your tank batteries! That’ll show ‘em!
Go Beyond the Lease
Because you are executing a separate agreement from the oil and gas lease, you can fashion the SUA to grant you rights that are independent of the lease. This can include perpetual or long-term rights like surface and subsurface easements and grant ancillary use of the surface not tied to any given lease.
Conclusion
That’s just a taste of the infinite permutations of an SUA, and this marks the end of our series, Hunting for Resolution – The Surface and Mineral Estates. I hope you enjoyed reading it as much as I enjoyed writing it. Until next time!
