1Sep

Introduction to Joint Operating Agreements

Posted by: Austin Brister in Primers and Insights

The joint operating agreement (“JOA”) is the most commonly used instrument in the oil and gas industry, surpassed only by the oil and gas lease. [1]Scott Lansdown, B. Reeder v. Wood County Energy LLC and the Application by Texas Courts of the “Exculpatory Clause” in Operating Agreements Used in Oil and Gas Operations, 8 Tex. J. Oil Gas & Energy L 202 (2013). A JOA provides the contractual basis for the cooperative exploration, development, and production of oil and gas properties among multiple leasehold cotenants. [2]Exxon Corp. v. Crosby-Miss. Resources, Ltd., 775 F. Supp. 969, 971-72 (S.D. Miss. 1991). By and large, the most commonly used JOA form is the “Form 610,” curated and published by the American Association of Professional Landmen (“AAPL”). [3]3 Ernest E. Smith & Jacqueline L. Weaver, Texas Law of Oil and Gas §17.1[A] (2d ed. 2012). Several other JOA forms have been adopted by the oil and gas industry, typically designed for use in specific circumstances, including (1) the Model Form of Offshore Operating Agreement AAPL Model Form 710-2002, and Model Form of Offshore Deepwater Operating Agreement AAPL-810 (2007), both designed for offshore oil and gas operations, (2) the Rocky Mountain Mineral Law Foundation Rocky Mountain Unit Operating Agreement Form 2 – Divided Interest, designed for use in Federal Exploratory Units, and The American Petroleum Institute Forms, which are generally used for enhanced recovery operations as to fieldwide units. However, the AAPL Model Form 610 remains the most common JOA form for domestic onshore oil and gas production.

In this multi-part series, we will explore many areas of JOAs, from basic to advanced. In this first article, we will take a look at the basic purpose and function of a JOA.

Table of Contents

The Fractionalized Nature of Leasehold Ownership

Typically, the fee oil and gas estate is owned in several undivided fractional shares. These owners then execute oil and gas leases to multiple lessees, who then own the associated leasehold estate in undivided fractional shares. These lessees then often assign undivided fractional shares of those oil and gas leases to third parties. The result is that any given oil and gas property is typically concurrently owned by numerous cotenants. The parties may hold leases that cover various undivided interests in a single tract of land, or they may own leasehold interests in nearby tracts of land and wish to pool their interests together in order to drill a well.

The Rights of Leasehold Cotenants Without a JOA

The “Cotenant Problem”

What rights and obligations do these cotenants owe one another in their exploration and development activities? In Texas, any of the cotenants may drill for and produce oil and gas without the consent of the other cotenants. [4]Patrick H. Martin and Bruce M. Kramer, Williams & Meyers, Oil and Gas Law Abridged Fifth Edition, §503 (LexisNexis Matthew Bender 2013). However, the entire dry-hole risk is borne by this operating cotenant, who must also account to the other cotenants for their share of production, less their proportionate share of the cost of drilling for, producing and operating the property. Common law principles are, unfortunately, not sufficiently clear as to which costs the operating cotenant is entitled to recover from the non-operating cotenants. [5]Allen Cummings, The Joint Operating Agreement – The Basics, The State Bar of Texas Oil, Gas and Energy Resources 101, Chapter 4, October, 2012, Houston, Texas One commentator fittingly dubbed this the “Cotenant Problem.” [6]Id. A joint operating agreement can solve this “cotenant problem,” and provide a contractual basis for parties to understand their rights and obligations. [7]Id.

Facilitating Joint Operations

However, this is not to say that leasehold cotenants always have competing interests. Often times, oil and gas lessees will desire to include other parties in the exploration and development projects in order to share risks and raise capital. [8]John Orban, Money in the Ground: Insider’s Guide to Oil and Gas Deals (4.4th ed. Meridian Press 2000). For example, many of the ongoing methods of raising money for the exploration and development of oil and gas properties involves the purchase and sale of undivided interests in the leasehold estate to investors. [9]Id. Additionally, one of the most common methods of spreading the costs and risks of exploration, drilling a development is by selling or “farming out” undivided fractional leasehold interests in the oil and gas properties. [10]Patrick H. Martin and Bruce M. Kramer, Williams & Meyers, Oil and Gas Law Abridged Fifth Edition, §503.2 (LexisNexis Matthew Bender 2013). In each of these scenarios, the parties involved will likely share common fundamental goals, and their respective interests are more or less aligned. [11]Michael E. Curry, The Operating Agreement – After the Honeymoon, State Bar of Texas, 31st Ann. Oil, Gas & Min. L. Inst. (Apr. 2005). However, a joint operating agreement will provide these parties with a structure to handle future disputes, unanticipated differences, and points of contention that frequently develop. [12]Id.

The Relationship Under a Joint Operating Agreement

For the reasons described above, a JOA is typically entered into when more than one party holds title to the oil and gas leasehold estate in a prescribed geographical area. The standard Form 610 establishes a contractual basis for these multiple leasehold cotenants to operate the properties, jointly share costs and liabilities, and own equipment and production in proportion to their respective percentage of ownership and burdens. [13]Hill v. Heritage Res., Inc., 964 S.W.2d 89, 109 (Tex.App.-El Paso 1997, pet. denied); Patrick H. Martin and Bruce M. Kramer, Williams & Meyers, Oil and Gas Law Abridged Fifth Edition, §503 (LexisNexis Matthew Bender 2013). The JOA describes the terms and conditions under which the operator is to conduct operations, such as drilling of the initial well, [14]Form 610-1989, Article V.A. a voting mechanism for specifying future subsequent operations, [15]Form 610-1989, Article VI.A. and how the costs for all such operations are to be paid. [16]Form 610-1989, Article VII. The Form 610 covers a multitude of other matters, [17]Williams & Meyers, supra note 4, at §503.2 including how the interests of the parties are to be calculated, [18]Form 610-1989, Article III. how the parties will handle title examination and title issues, [19]Form 610-1989, Article IV. and several issues related to future acquisitions and/or dispositions within the contract area. [20]Form 610-1989, Article VIII.

Under a JOA, the leasehold cotenants appoint one party as “operator,” who is then has full control of conducting and directing all operations in the contract area, under the confines of the JOA. [21]Form 610-1989, Article V. The remaining cotenants are then considered “non-operators,” who only retain indirect control of the operations in the contract area, such as voting on subsequent operations, electing whether to consent to subsequent operations, and certain inspection rights. [22]See, e.g., Form 610-1989, Article VI.B.

Upcoming Articles…

Here is a table of contents of what I have already written, and will be publishing piece by piece to the OilandGasLawDigest.com:

  • Introduction – JOAs and the Model Form
      1. The Basics – Purpose of a Joint Operating Agreement
          1. The Fractionalized Nature of Leasehold Ownership
          2. The Rights of Leasehold Cotenants Without a JOA
          3. The Relationship Under a Joint Operating Agreement
      2. History of the AAPL “Form 610” JOA
  • The Out-of-Date 1989 Form
      1. Background – Horizontal Drilling
      2. Shortcomings as to Horizontal Wells
          1. Existing Provisions Require Revisions
          2. Additional Provisions Are Required
      3. Other Changes Ripe for Revision
  • The AAPL Horizontal Modifications to the 610-1989 Model Form
      1. The Background, Process, and Goals
      2. Unique Challenges of the Committee
          1. Produce a Widely Acceptable Form
          2. Compare Industry Expectations with the Existing Legal Precedent
      3. Modifications to Article I – Definitions
          1. Authority for Expenditure
          2. Deepen
          3. Displacement
          4. Drillsite
          5. Horizontal Well
          6. Lateral
          7. Plug Back
          8. Sidetrack
          9. Terminus
          10. Total Measured Depth
          11. Vertical Well
      4. Spudder Rig Provisions
          1. Industry Use of Spudder Rig Operations
          2. New Definition – Horizontal Rig Move-On Period
          3. Extensions to the Horizontal Rig Move-On Period
          4. Obtaining Consent to Use of Spudder Rigs after the Well Proposal
          5. Failure to Meet the Horizontal Rig Move-On Period
          6. Commencement of Operations
      5. The Use of Multi-Well Pads
      6. The Casing Point Election
          1. Casing Point Elections in the Vertical Context
      7. Operations without Execution of All Parties
          1. Background and Operations under the 1989 Form
          2. New Options under the Horizontal Form
      8. New “Other Provisions” Included in the Form
          1. Conflict of Terms
          2. Duty of the Operator
          3. Priority of Operations
  • New Drafting Considerations
      1. Drafting Considerations Regarding Spudder Rigs
          1. Requirements Regarding Specifying Horizontal Rig Move-On Period
          2. Reserves Behind the Pipe as to Spudder Rig
      2. Potential Modifications to Heightened AFE Requirements
      3. Non-Operator Access to Information – “Wait and See”
      4. Other options to Non-Consenting Parties
      5. Relationship of JOA Parties
      6. Area of Mutual Interest
      7. Maintenance of Uniform Interest Provision
  • Issues Under Consideration by Committee
      1. Cases the Committee is Considering
          1. Come Big or Stay Home, LLC v. EOG Resources, Inc.
          2. Reeder v. Wood County Energy, LLC
          3. Seagull Energy E & P, Inc. v. Eland Energy, Inc.
          4. Failure of Title versus Loss of Title
Austin Brister

Austin Brister

Oil and Gas Partner at McGinnis Lochridge (click for profile)
Austin represents oil and gas exploration and production companies and landowners in a wide variety of complex commercial litigation matters, including contract and property disputes, royalty disputes, breach of lease cases, lease termination/perpetuation disputes, and an array of other issues in the upstream oil and gas sector. Austin has prosecuted and defended claims in state courts and federal courts. Austin strives to find practical business solutions to complex issues, but if necessary, he works hard to implement effective strategies in the courthouse.
Austin Brister

Footnotes[+]

© Copyright 2012-2018, McGinnis Lochridge LLP. All Rights Reserved. DISCLAIMER: The information in this article is for general information purposes only. This article should not be substituted for legal advice and should not be taken as legal advice for any individual case or situation. This information is not intended to create, and receipt or reading this article does not constitute, an attorney-client relationship. You are encouraged to contact an attorney for legal advice concerning the information provided in this article.
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