In SWN Prod. Co. v. Kellam, No. 21-0729, 2022 W. Va. LEXIS 461, the West Virginia Supreme Court of Appeals addressed whether Estate of Tawney v. Columbia Natural Resources, LLC., is still good law, and if so, what level of specificity does Tawney require of an oil and gas lease to permit the deduction of post-production costs from a lessor’s royalty payments?[1]
In this case, the Kellams executed an oil and gas lease with Great Lakes Energy Partners, LLC (“Great Lakes”), in August of 2007.[2] Great Lakes subsequently assigned the lease to Chesapeake Appalachia, LLC (“Chesapeake”).[3] Then, SWN Production Company, LLC (“SWN”) and Equinor USA Onshore Properties Inc. (“Equinor”), acquired working interests in the lease from Chesapeake.[4]
The executed lease included the following provision: “To pay the Lessor, as royalty for the oil, gas, and/or coalbed methane gas marketed and used off the premises and produced from each well drilled thereon, the sum of one-eighth (1/8) of the price paid to Lessee per thousand cubic feet of such oil, gas, and/or coalbed methane gas so marketed and used . . . less any charges for transportation, dehydration and compression paid by Lessee to deliver the oil, gas, and/or coalbed methane gas for sale.” [5] Pursuant to the language “less any charges for transportation, dehydration, and compression paid by Lessee to deliver the oil, gas, and/or coalbed methane gas for sale,” SWN and Equinor deducted post-production costs from the royalty checks owed to the Kellams.[6]
Subsequently, the Kellams filed a civil action arguing that the deductions made by SWN and Equinor were in contravention of Estate of Tawney v. Columbia Natural Resources, LLC.[7] Under Tawney, language in an oil and gas lease that is intended to allocate between the lessor and lessee the costs of marketing the product and transporting it to the point of sale must (1) expressly provide that the lessor shall bear some part of the costs incurred between the wellhead and the point of sale; (2) identify with particularity the specific deductions the lessee intends to take from the lessor’s royalty; and (3) indicate the method of calculating the amount to be deducted from the royalty for such post-production costs.[8]
Upholding Tawney, the Court affirmed that it is the lessee’s burden to bear post-production costs, unless the lease provides otherwise.[9] The rationale being that the lessee “not only has a right under an oil and gas lease to produce oil or gas, but he also has a duty, either express, or under an implied covenant to market the oil or gas produced.[10]” The Court further explained that the implied covenant of marketability was inapplicable in this case because the lease included a provision specifically addressing the allocation of post-production costs.[11]
Finally, the Court was left with the issue of whether the provision in the lease, which deducted post-production costs from the royalties owed to the Kellams, was stated with particularity as required under Tawney.[12] Here, the Court declined to answer this question, stating that because it is a matter of contract interpretation, it is therefore the duty of the trial court to determine such questions.[13] Accordingly, the Court remanded the issue of whether the provision at issue was stated with sufficient particularity.[14]
This decision serves as an important reminder for producers to ensure that when including a post-production cost deduction provision into a lease, it is important to specify with particularity the deductions they intend to make from the lessor’s royalty payments.
This article was authored by Ryan Stewart and Tanner Cremeans.
[1] Estate of Tawney v. Columbia Natural Resources, LLC., 219 W. Va. 266, 633 S.E.2d 22 (2006).
[2] SWN Prod. Co. v. Kellam, No. 21-0729, 2022 W. Va. LEXIS 461 (June 14, 2022).
[3] Id. at 6.
[4] Id.
[5] Id. at 7.
[6] Id. at 9.
[7] Id.
[8] Id.
[9] Id. at 32.
[10] Id. at 14.
[11] Id. at 23.
[12] Id. at 28.
[13] Id.
[14] Id. at 33.
Ryan represents clients in connection with transactional matters, due diligence, complex mineral titles, lease analysis, surface use issues and title curative. In addition, Ryan has extensive experience in the drafting and review of original drilling title opinions, as well as supplemental drilling title opinions and limited acquisition title opinions. He also assists in litigation and regulatory matters, including unitizations.