We are proud that one of our Fellows, John Burritt McArthur, has authored such a book in the field of mineral law. His book, Oil and Gas Implied Covenants for the 21st Century: The Next Steps in Evolution, addresses some of the implied relationships between landowners and mineral producers. His book will become the standard reference in the field. However, as in other learned treatises, it is not for the faint of heart. For instance, the mineral producer’s “duty to explore” and its “duty to develop” each is addressed in more than 50 pages with footnote-rich references and citations. Yet, McArthur’s extensive experience in mineral litigation and dispute resolution energizes the technical topics.
As background, McArthur connects the link between American industrial growth to the vigorous exploitation of our natural resources. One reason that exploitation has been so vigorous and successful surely is that so much of the motive power has been private initiative. In the United States, unlike almost any other country in the world, the owner of land usually owns the mineral rights. Landowners and entrepreneurs shared, as royalty owners and lessees, the risks of early coal, rock, gold, and silver projects. Entrepreneurs acquired extraction rights by using leases that paid for these rights by sharing returns and thus preserved scarce capital for physical operations. The oil and gas industry, responsible for producing the most valuable of our natural resources, adopted the same structure. When mineral development occurred on public lands, the states and the federal government used leases patterned on private leases.
Ensuring that the mineral lease continues to meet the needs of lessors and lessees is vitally important because developing the country’s newly-economic shale reserves is critical to our future. Whether the issue is job creation, shifting to cleaner natural gas as one step on the road to lower carbon emissions, righting our balance of trade, or meeting the challenge of oil-rich totalitarian regimes that disrupt the world order, it is in our national interest that domestic mineral production continues to increase. And implied covenants have a key role to play, a role McArthur documents, to make sure that it does.
Oil and Gas Implied Covenants for the 21st Century: The Next Steps in Evolution cogently describes the shared interests that have made the American mineral lease such a successful contract. The lease creates an interesting form of joint investment. The lessor contributes the natural resource while lessees bring their expertise and capital to the project. Both get paid by sharing the returns of the project, with the lessee getting the lion’s share for its investment and risk. McArthur shows how lessors and lessees should share the same incentive to have the minerals found as quickly as possible, produced at the lowest cost, and sold for the highest revenue. The strength of the lease relationship is derived from this shared interest.
Implied covenants enter the picture by policing the integrity of the lessor/lessee bargain in areas where lessor and lessee do not share the same interests. As the examples in Implied Covenants show, problems have arisen wherever the lessee can profit at the lessor’s expense.
- Lessees may not have the resources to properly explore a lease, or have other properties they want to focus on first.
- They may not want to pay for rapid development.
- They may fail to protect a lease against drainage.
- They may fail to market minerals, or pay royalties on less than what they receive when they sell minerals, or deduct costs not allowed under the lease.
- They may disrupt the lessor’s use of the land without reasonably accommodating the lessor’s needs.
- They may damage and pollute the lease and refuse to restore it.
Traditional American mineral leases, which fall into a small number of contract forms, do not address these conflicts. McArthur’s book does and provides invaluable guidance to the practitioner.
Courts have devised implied covenants to resolve conflicts where the interests of the landowner and producer diverge. This rich subject area is the topic of McArthur’s book. Implied covenants have facilitated the evolution of the American mineral lease into a powerful, flexible, reliable, and enduring investment contract. Although we tend not to think of the courts as part of the larger edifice of government, judicial decisions have melded implied covenants into a mineral lease’s express terms. Thus, the judiciary has superimposed important elements and requirements to form an integrated document with both express and implied conditions. McArthur’s book elucidates the implied aspects of the partnership between landowner and producer.
McArthur’s cogent, well-written and thoroughly researched book fills an important gap in the mineral lease literature. A lawyer who has practiced energy law for over 30 years, he has produced a concise, yet detailed, compendium of existing implied-covenant law and a careful analysis of the key modern issues as well. As he discusses in his Preface, the major existing books and treatises on implied covenants are several generations (and more) old. The well-known Kuntz treatise is an extension of the 1904 Thornton treatise. The first edition of Maurice Merrill’s famous book The Law Relating to Covenants Implied in Oil and Gas Leases was published in 1926. The standard references have lengthy sections discussing issues that, like the nature of the royalty interest, have long since been resolved and do not need detailed treatment. At the same time, these books do not devote enough coverage to disputes that are moving to the fore: implied duties to drill into shale and other unconventional formations, the impact of fracking on exploration and development responsibility, today’s hottest issue, the disputes over gas royalty cost deductions, and, as McArthur predicts for the future, the standard that should apply to lease restoration. Implied Covenants is a breath of fresh air in this somewhat staid intellectual universe.
Implied Covenants makes important new contributions to the implied rules governing mineral extraction. First, for the oil and gas world, it stresses how the rule – that duties of exploration and development apply to all zones and formations – should affect shale development. A lessee cannot hold an entire lease merely by producing oil or gas in paying quantities from a single formation. If it is producing oil but is ignoring a likely profitable gas reserve, if it is producing oil from one reservoir but leaving another oil reservoir untended, if it is producing conventional reserves but ignoring shale reserves — in each case, it risks losing the undrilled areas for failure to explore or to develop. A lessee has to develop each zone or formation that is likely to be profitable. It cannot warehouse untapped shale reserves by producing only from conventional wells. It cannot limit efforts to initial or even secondary recovery if tertiary techniques like modern fracking would be profitable. Coal lessees risk losing natural gas rights if they ignore profitable coal-seam gas. Lessees can lose rights to undeveloped hard or liquid minerals if they produce only a target mineral but ignore others. McArthur’s book is a timely, bracing reminder of the potency that implied covenants have developed in just a few generations of judicial elaboration.
Second, McArthur’s book is the first book to provide a complete, accurate summary of the ongoing natural-gas disputes over whether the lessee has to bear all of the costs of making natural gas marketable. This is today’s most litigated energy issue. A similar issue can arise with oil, but the costly field services required to make natural gas marketable have meant that most of the deduction cases involve natural gas. It is today’s received wisdom, recited in a number of cases and articles, that a Texas-type rule allowing lessees to bill lessors for their proportionate costs is the majority rule. McArthur shows that the received wisdom is wrong. In fact, most jurisdictions, either by case law or by statute, require the lessee to bear the marketability costs. Because the federal government is one of these jurisdictions, a marketable-product rule covers a substantial majority of all oil and gas produced in the United States.
The care and thoroughness of McArthur’s exposition make Implied Covenants ideal for those who only need a general understanding of the field but also for lawyers and business people seeking detailed understanding and useful citations. As Dick Watt, a well-known Houston energy lawyer and former chair of the Texas Bar’s Oil and Gas section, has observed, “this is the book that I have always hoped for . . . . a must for all lawyers who deal with oil and gas leases.” Rick Harper, a former President of Arco Gas, made the same point when he lauded the book as an “essential and efficient reference for landowners, attorneys, petroleum landmen, industry managers, academics, legislators, regulators, and judges.”
This is an invaluable book about a very important part of our legal world and of the American economy. As one would hope when an LCA Fellow authors a book in an area of their expertise, it is a tour de force for those needing help in this vital – albeit technical area. LCA Fellows interested in purchasing the book will find the appropriate information at www.jurispub.com and discount code OnG25 will be effective until Dec. 21, 2014.
John Burritt McArthur established the Law Office of John Burritt McArthur in 2008 in order to combine his active trial docket with a growing practice as an arbitrator. Mr. McArthur has been involved in some of the largest commercial disputes of the last 30 years. Mr. McArthur represented one of Alaska’s native corporations in a large dispute with the Department of the Interior, advised major oil companies on Alaskan matters, and handled other energy cases while in a mid-career program at Harvard’s Kennedy School of Government and then a Ph.D. program in public policy at the University of California at Berkeley. From 1999 to 2008, while working for the law firm that ultimately became San Francisco’s Hosie McArthur LLP, Mr. McArthur devoted the bulk of his time to a gasoline price-fixing case and to a series of oil posted-price and natural gas royalty cases, including cases for the States of Alaska and Louisiana. Since 2008, he has continued to serve as lead trial counsel in complex commercial cases. He provides trial representation for plaintiffs and defendants in high-dollar commercial cases, including for states and other clients in royalty and tax litigation. In addition, Mr. McArthur increasingly serves as an arbitrator in large commercial disputes. Early in his career, he was one of the lawyers who, with LCA Fellow Mark Wawro, tried the first take-or-pay case to go to trial on a repudiation theory. The jury awarded a $563 million verdict against El Paso Natural Gas Company in one of the top 10 jury verdicts in 1988. Soon after counsel, including Mr. McArthur, argued the appeal in a Houston court of appeals, El Paso settled by paying $302 in cash and returning mineral interests later appraised at $135 million. Mr. McArthur has been involved in some of the largest commercial disputes of the last 30 years. Mr. McArthur has been a Fellow of the Litigation Counsel of America since 2007. He is a co-founder of the LCA’s International Institute of Natural Resources, Energy, and Environmental Law (IINREEL).
Jerald P. Block, born and raised in Thibodaux, Louisiana, opened his firm, Block Law Firm, in his hometown in 1971. For forty-two years, Mr. Block’s firm has dedicated itself to ensuring creative solutions for clients at reasonable costs. He has been able to achieve great results for his clients through his knowledge of the law, hard work and, most importantly, thoroughness and preparation. He has been practicing law with his son, Matthew, since 1998. Matthew has recently left the firm after being selected as Executive Counsel for newly-elected Governor John Bel Edwards. A commitment to pro bono, public service, educational, and civic activities has always been integral to Jerald’s life and career. He has worked to give back to his community, his clients, students, and elderly residents who deserve dignity and respect. He has served as President of the Board of Directors for the American Cancer Society, Louisiana Division, and served on the statewide cancer board for many years. He was President of the Thibodaux Chamber of Commerce. He also serves as the Chairman of the Board of a non-profit assisted living facility which guarantees access to on-site assisted living and nursing care. Mr. Block has been a Fellow of the Litigation Counsel of America since 2012.