Oil and Gas
Fall 1997-Professor Smith
Kevin T. Jacobs
I. DOCTRINES CONCERNING DRILLING AND PRODUCTION OF OIL & GAS
A. U.S. Oil and Gas Production
Legal doctrines: Impacts.
1. Can we continue producing, but they can also have an adverse affect on the environment
2. How efficiently production will be obtained from a particular field.
B. Geological Background
1. Origin of petroleum - Two main theories
a. Organic Theory
Organic in origin, resulting from the accumulation of microscopic animals in shallow seas. These microorganisms were overlaid with silt and they changed as a result of pressure, etc. The liquified accumulation sank and then became overlaid with rock. Then the "oil" seeped into the porous rock, where it lies today. Under this theory, all of the O&G that exists had been discovered, and the supply is finite.
Method: Look for where crustacean seas existed.
b. Gould's Theory [Inorganic Theory]
His theory originated from the discovery of hydrocarbons in meteorites, even though there was no organic life. Under this theory, methane gas, heavily present in the Earth, is transformed into petroleum and migrates up towards the surface. Thus, hydrocarbons were present on earth from the beginning, and through pressure became petroleum and ended up where they are now. Under this theory, hydrocarbons are virtually inexhaustible.
Method: Look for deep fisures in the earth.
c. Comments
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Depending on which theory is used, this will influence a decision of where to drill. Under Gould's theory, one can drill anywhere if well is deep enough. Most geologists, however, adhere to the organic theory.
2. Components of Petroleum Reservoirs - Organic Theory
In order for an oil and gas field to have been formed, there must have been the following.
a.A source of carbon and hydrogen that developed from the remains of land and sea life buried in the mud and silt of ancient seas.
b.Conditions that caused the decay or decomposition of these remains and the recombining of carbon and hydrogen to form the mixture of hydrocarbons that make up petroleum.
c.A porous rock or series of such rocks within which the petroleum was able to migrate and displace the water originally in the rock.
NOTE: Oil is never just "sitting there;" it is absorbed in porous rock. If the stratus is porous but not very permeable (i.e., "tight"), then the driller will need to use an artificial method to increase permeability in the stratum.
d.A local structure or trap, having a top layered seal, that forms a reservoir where petroleum has gathered.
3. Types of Reservoirs
Grouped according to the conditions causing their occurence.
a. Domes and anticlines
These are reservoirs formed by folding of the rock layers or strata, and usually have the shape of structural domes.
b. Syncline or reverse dome
As suggested, these are an inverted dome.
The distinction between the these first two is mainly in the location of the gas. In the syncline, the gas is around the edges. In the anticline the gas is in the center. Being light, gas always moves to the highest point in the reservoir.
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c. Salt Domes (in anitcline or faulted reservoir)
Indicates several reservoirsstacked on top of each other. This reservoir consists of pockets of oil in almost impervious rock creating 2 major problems:
(1) difficult to find
(2) very small pockets.
Thus, risky venture w/ low return.
d. Fault traps
Discontinuos pockets of oil in otherwise impervious material
These are formed by breaking or shearing and offsetting of strata (faulting).
The escape of the oil is prevented by impervious rocks that have moved into a position opposite the porous petroleum-bearing formation. The oil is confined in traps of this type because of the tilt of the rock layers.
This type of reservoir, in contrast to the first two (which are single reservoirs) can give a series of pockets of oil, perhaps at different levels along the fault line. This type of reservoir requires more wells, is difficult to acquire accurate and comprehensive geologic information on, and results in more dry holes.
*Two conditions that would make drilling these worthwhile
1.Price (econ feasibility) 2.Technology
e. Oil Reserves - not just the amount of oil in the ground,
but rather the oil capable of being produced
This total is a function of 3 factors:
(1) amount of known oil in the ground
(2) cost of and available technology
(3) price of oil
4. Basic Definitions
a.Porosity - The ratio of the pore volume to the total rock volume.
b.Permeability - If the majority of the pores within a rock are interconnected, the rock is permeable. Permeability relates to the ability of a material to transmit fluids.
5. Substances Found in Reservoirs
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a. Gas
Free gas is found at the highest point in the reservoir. Solution gas is that dissolved in the oil because of pressure, much like carbon dioxide in soda water.
b. Oil
Typically, the next layer beneath the gas cap.
c. Water
Likely to be a layer beneath the oil. May also be present in other areas, pulled up by capillary action. Thus, a lot of water exists all through the reservoir.
All of these substances are immobile until drilling destroys the equilibrium. Then, everything in the reservoir begins to move. It was this movement that gave rise to the first of legal issues concerning reservoirs: who owns the substances which are mobile?
6. Energy Sources
a. Gas - the primary energy source.
1) Gas cap expansion
Gas is the primary source of energy, provided through expansion of the gas cap that occurs when the reservoir is tapped from drilling. The drilling connects the lower pressure surface with the high pressure reservoir, and the gas cap expands, driving the gas and other substances.
2) Solution gas expansion
This process is similar to the gas bubbles in a Coke can that fizz out, bringing the syrup out with it. Here, the gas solution brings oil up and out.
To maximize the energy source you should drill as far away from the gas cap as possible because if you drill straight into the cap, the well will quickly produce the gas and drain the reservoir of its energy. The well will produce too quickly.
I.E. Drill it away from the energy source; away from the cap in a low pressure area.
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Also, you may not want all that gas so quickly because it can't be easily stored; rather, it must be marketed immediately. The result is usually wasted gas and more difficult to produce viscous oil (like the syrupy Coke that is left when the fizz is gone).
Then why ever drill the upper stratum? Because surface ownership may not always be suited to drilling in the most efficient place. One solution would be to unitize the different property owners (see below). Further, the stratum of the well may not be easy to locate.
Problem: Hard to get all land owners to agree. If my land is completely away from the energy source, then I'll produce a ton of oil.
b. Water - Secondary energy source.
Water is compressible and seeks to expand much like the gas cap. For the maximum production you should drill up stratum, as far away from the energy source as possible. However, if you drill into the energy source down stratum, it is not as disasterous as with a gas energy source.
Q: What if the only land I own is downstructure of the reservoir?
POINT: Once you compare dynamics of the reservoir with surface ownership there are always some people better off with cap drilling.
C. Common Law Theories of Ownership and Development
1. There are two fundamental theories of ownership.
a. Ownership-in-place (Texas)
According to the ownership in place theory, the landowner owns all substances, including oil and gas, which underlie his land. Such ownership is qualified, however, in the case of oil and gas, by the operation of the Rule of Capture. If the oil and gas departs from beneath the owned land, ownership in such substances is lost.
b. Exclusive-right-to-take (Oklahoma)
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Under this theory, the landowner does not own the oil and gas which underlie his land; he merely has the exclusive right to capture such substances by operations on his land. Once reduced to dominion and control, such substances become the object ownership. But, until capture, the property right is described as an exclusive right to capture.
Notice that this theory has no conflict with the Rule of Capture as does the ownership in place theory.
The key distinction between the two is that in the ownership in place theory, the owner is viewed as having a corporeal interest (right to physical possession as opposed to a mere right to use). This distinction has ramifications in a variety of areas, most notably: ability to abandon and property taxes.
2. The Rule of Capture
This doctrine was developed to address the basic question of who owns the oil and gas extracted from a reservoir beneath two or more tracts of land.
BASIC RULE: The basic rule is that the owner of a tract of land acquires title to the oil and gas that he produces from wells drilled thereon, though it may be proved that part of such oil and gas migrated from adjoining lands. There is no liability for capturing oil and gas that drains from another's lands.
The early common law courts treated oil and gas like all other minerals. This caused a problem because the common law of minerals was designed for hard-minerals, like gold, silver, etc. Under this hard-mineral common law, the land owner owned everything above and beneath his land; the fee simple is not horizontal, but cubic. Under this common law, one would have an action for conversion against his neighbor if he could show that extraxted O&G was drained from beneath his land.
O&G is fluid. To extraxt O&G from beneath a neighbor's land, one need not physically trespass. This removed much of the force behind the old common law rule in regards to O&G extraction. Consequently, abandoned this doctrine in application to O&G and developed the Rule of Capture.
a. Analogous Bodies of Law
i. Water law
Water law supported the nonliability rule; i.e., the capturer not liable to other property owners.
ii. Ferae naturae
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Law of wild animals is that the animals are unowned until they are killed or captured.
Why The Rule of Capture?
b. Encouragement of oil exploration
The key factor that led to development of the Rule of Capture was the encouragement of oil exploration. We did not want injunctions allowed simply on proof of drainage. Under the old common law, measuring damages for trespass was not feasible because the technology was not advanced enough to determine amounts drained. Accordingly, an injunction would have been the only legal remedy. This would have stimied O&G development.
c. Cost of the Rule of Capture
Encouraging exploration with the Rule of Capture had some drawbacks. It encouraged self-protection. The only way a party could protect his land from drainage by his neighbor was to drill his own off-set well. This led to over-drilling.
Over-drilling leads to economic waste, surface disruption, and environmental problems. Also, the internal structure of the reservoir can be destroyed through premature dissipation of the energy source.
e.g. Spindletop
For this reason, you have much regulation of drilling and development activities - perhaps the biggest limitation placed on the Rule of Capture.
Issues with the rule of capture
Note: Logically you would think two adjacent land owners would cooperate and share the benfits of production.
Q: What was reason for its extraordianary viability as a judicial doctrine? (on its face it sanctions theft)
1. Gives incentive to produce
2. Accountng otherwise would be difficult.
3. Limits on the Rule of Capture
Several judicial and legislative limits on the Rule of Capture emerged in a piecemeal fashion to address specific concerns.
a. No deviated (horizontal) drilling
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The first judicial restraint on the Rule of Capture was the rule that the driller had to have the well bottomed on his own land. The incentive for deviated drilling resulted from the formation of the reservoirs and the desire to use the energy source efficiently. However, the ideal drilling location was not always available on one's own land.
b. Safety concerns
People's Gas Co. v. Tyner (1892) (p. 11) -- P was trying to enjoin D from producing a well which was going to be shot with nitroglycerin to increase permeability. P conceded that the Rule of Capture applied; his complaint was (1) that what D planned to do would exacerbate the natural drainage, to create more than natural drainage, and (2) this method was very dangerous in an urban area. D argued that the well was not very permeable, and he needed to shoot the well to increase permeability.
The court refused to buy P's first argument, and held that artificially inducing more flow in the well is consistent with the Rule of Capture because, after all, the well is an artificial intrusion itself. However, the court was convinced by P's second argument; namely, that the process was too dangerous for an urban area. Thus arose the second judicial restraint on the Rule of Capture - you can't endanger lives in order to produce O&G.
c. Ownership of Extracted Oil and Gas
Chaplain Exploration (OIL)
Facts: Refinery leaked. Dug trenches to collect their oil. Neighbor dug trenches to collect it as well.
P: He owned mineral rights below-property is back in ground-mine
Ct: No, once produced oil becomes personal property.(lost only by abandonment)
Commentary
You can not rely on the Rule of Capture to produce gas which has already beed reduced to possession by another party. See more below.
d. Regulation
Legislative regulation of drilling and production imposes perhaps the biggest limitation on the Rule of Capture. See more below.
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e. Correlative rights
You can not deny your neighbor his right to produce his fair share in the name of the Rule of Capture. See more below.
An example of this would be the use of enhanced recovery methods. You can not rely on the Rule of Capture to avoid liability for damage to a neighbors well caused by enhanced recovery like waterflooding. This, however, is largely moot. Most states except Texas have forced unitization. See more below.
4. Ownership of Extracted Oil and Gas
Texas Amercian Energy Corp.
Facts:Bank wanted security interest. Main asset is natural gas were buying. UCC lien on personal prop or mortage?
Ct: Lien on prop. Not once more part of reality.
Lone Star Gas Co. v. Murchison (1962). Here, Lone Star was taking recovered gas and injecting it back into the depleted reservoir, because the reservoir was the best storage facility. P needed the storage facility in order to be able to supply to its customers in times of peak demands. It is hazardous to store on the surface. The problem here was that P failed to buy up all the rights from all of the surface owners. D owned land over the reservoir and drilled a well, producing P's gas. P sued for an injunction.
D defended on the wild animals analogy: If one catches a wild animal and then turns it loose in its native habitat, then the animal is once again unowned. D claimed that since P released the gas back into its natural habitat, then the gas was free and available to D under the Rule of Capture.
Instead, the court held that once reduced to dominion and controlled, the gas was personal property and Lone Star would have had to abandoned the gas. To abandon the gas, two elements would have to have been satisfied:
(1) Loss of control,
(2) intent to relinquish title.
Certainly, Lone Star had no intent to relinquish title here, and at least had some control.
a. Policy arguments
We need storage facilities. Deciding this case the other way would frustrate this policy.
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b. Murchison's remedies
Could try to sue for trespass; or, could sue for damages as a measure of storage rights.
c. From whom to obtain storage rights?
Storage of natural gas is not an insignificant problem. The gas company may have a difficult time determining from whom to obtain the storage rights - the surface owner or the mineral owner? Often these are not the same person.
i. Non-ownership states (Oklahoma)
In states that do not follow Texas' ownership in place theory, then you should buy from the mineral owner.
ii. Ownership in place (Texas)
In states like Texas, then the minerals owner doesn't own anything in this situation, because the reservoir has been depleted. Then, the gas company should buy storage rights from the surface owner.
The best or safest path would be to pay both parties.
5. Conduct Permitted in Extraction - Correlative Rights