The Third Circuit and Clovelly Oil Co. LLC v. Midstates Petroleum: A Dangerous Decision on Joint Operating Agreements

In 1956, the American Association of Petroleum Landmen adopted the Model Form Operating Agreement for joint lease operations in order to decrease litigation.[1]  However, in 2012, the Louisiana Third Circuit’s decision in Clovelly Oil Co. LLC v. Midstates Petroleum Co. LLC threatened the near uniform understanding created by one Model Form Operating Agreement provision.  The issue was whether the 1956 standard form Joint Operating Agreement (“JOA”), without more, included a mineral lease acquired after the execution of the JOA.[2] The trial court ruled the JOA did not apply to leases acquired after execution of the JOA.[3] Focusing on the JOA’s lack of recordation in the Louisiana public records and the court’s novel understanding of the “unleased lands” language, the Third Circuit reversed this decision by creating a different definition of the term “unleased land” than was previously understood by JOA parties.[4] By reinterpreting the “unleased lands” language in a standard form JOA, the Third Circuit risked creating a dangerous precedent that threatened traditional understandings of the standard form JOA.

The case began, in 2008, when Midstates acquired a lease from Cromwell and began work in April 2009. Also in April of 2009, Midstates was contacted by Clovelly Oil, who informed Midstates that the lease Midstates acquired from Cromwell was subject to a 1972 JOA, in which Clovelly had a 56.25% interest.[5] Clovelly sought to enforce this interest and become the operator of the well.[6] Midstates refused, claiming that the lease was not subject to the 1972 JOA because the JOA agreement was not recorded in the public records.[7] Clovelly responded, arguing that Midstates had assumed the obligation via its acquisition of the lease interest, making the public records doctrine inapplicable.[8] The district court disagreed with Clovelly and granted Midstates summary judgment, finding that because the 1972 JOA was not filed in the public records, Midstates was not bound by it.[9]

Clovelly appealed the decision, and the Third Circuit found an issue of material fact as to Midstates’ alleged assumption of the 1972 JOA, thus making summary judgment inappropriate.[10] In reversing the trial court, the Third Circuit stated that Midstates could not be treated as a third party under the public records doctrine if Midstates had, in fact, assumed obligations under the JOA.[11]  The consequence of such an assumption would make the lease at issue for Midstates subject to the 1972 JOA.[12]However, this left a significant issue of whether the particular lease in question was subject to the 1972 JOA.

On remand the trial court granted partial summary judgment for Midstates, finding that the 1972 JOA did not apply to the after acquired Midstates leases.[13] The court denied Clovelly’s motion for summary judgment, refusing to find Midstates bound by the terms and conditions of the JOA and acknowledging the JOA as part of the lease assignment.[14] The court certified its judgment as final, and Clovelly appealed all judgments.[15]

On appeal, the Third Circuit found that in the JOA’s preamble, the parties agreed that if the parties “[own] an unleased oil and gas interest in the Unit Area, that interest shall be treated for the purpose of this agreement as if it were a leased interest under the form of oil and gas lease attached as Exhibit ‘B’ and for the primary term therein stated.”[16] The Third Circuit found that the phrase “unleased lands” was intended by the parties to act as a clause that would bind future endeavors of the parties under the JOA.

When making their decision, the Third Circuit used the precedent cases Kuhn v. Stan A Plauche Real Estate Co., Martin Exploration Co. v. Amoco Production Co., and Amoco Production Co. v. Charles B. Wilson, Jr., Inc.[17]  In Kuhn and Martin Exploration, two different sections of a contract had conflicting provisions. In both cases, the courts found the written portions of the contract controlled over contrary language in a printed clause.[18] The court stated that because Exhibit A of the Clovelly-Midstates JOA was the written portion of the agreement, it should prevail over a contrary printed clause.[19]

In Amoco Productions v. Wilson, a Kansas court dealt with a similar situation to the Clovelly-Midstates case.  Here, the Kansas Supreme Court “applied the rule of contract interpretation that typewritten language added to a form contract by the parties controls or is determinative of the parties’ intent on the issue addressed in the typewritten language…”[20]  Utilizing this precedent, the Third Circuit found in favor of Clovelly Oil, holding that the “unleased lands” language was intended by the parties to encompass future leases acquired by either party.[21] Midstates appealed.[22]

In December of 2012, the Louisiana Supreme Court granted Midstates Petroleum’s Writ of Certiorari, giving them the chance to reverse what the appellate court had done.[23] The Louisiana Supreme Court overturned the third circuit’s decision, reinstating the decision of the trial court.[24] The Supreme Court used principles of traditional contract interpretation to find that the common intent of the parties was to keep the traditional interpretation of the “unleased lands” language in the JOA.[25] The Court also found that if the parties had intended the lease to extend to future leases, they could have included an AMI provision, further pointing to the intent of the parties.[26] The Court also disagreed with the Third Circuit’s use of Amoco finding that it was irrelevant to this particular decision because the Kansas court utilized a fiduciary duty analysis, which does not exist in Louisiana.[27]

Had the Supreme Court upheld the Third Circuit’s decision, it would have cemented a precedent for the entire state of Louisiana that would have disrupted traditional understandings of joint operating agreements.  If the third circuit decision was allowed to stand joint operators using the standard form would have automatically acquired an interest in any new leases.  In such a situation, these joint operators could be forced to share in the costs of new exploration or production leases, without being allowed to opt out of those new leases.  By reinstating the Trial Court’s decision, the Louisiana Supreme Court has thus validated the traditional interpretation of Model Form Joint Operating Agreements and ensured stability for future discrepancies involving Joint Operating Agreements.

Preferred citation: Jordan Benedetto, The Third Circuit and Clovelly Oil Co. LLC v. Midstates Petroleum: A Dangerous Decision on Joint Operating Agreements, LSU J. Energy L. & Res. Currents (January 29, 2014), http://sites.law.lsu.edu/jelrblog/?p=401.