Chesapeake Energy improperly deducted expenses from royalty payments and violated other terms of its drilling lease with a prominent Fort Worth family, a state appeals court ruled this week in one of several such suits working their way through the legal system.
The Fourth Court of Appeals in San Antonio upheld a Tarrant County court decision that found Chesapeake breached the terms of its lease with Martha Rowan Hyder, who represented the estate of her late husband, Elton M. Hyder Jr., and their children. The lower court had awarded the Hyders about $700,000 in unpaid royalties, plus interest and attorney’s fees that pushed total damages to nearly $1 million.
The Hyders filed their suit in 2010, one of several in recent years accusing Chesapeake of not adequately paying royalties from its natural gas production in the Barnett Shale. State Judge Melody Wilkinson in 2012 found that Chesapeake breached the terms of Hyder’s lease and awarded damages, which the appeals court affirmed Wednesday.
David Drez of the Fort Worth office of the Wick Phillips law firm, who represented the Hyders, said both court rulings recognized the validity of the negotiated terms of the family’s lease. The Hyders in 2004 signed a mineral rights lease on about 1,000 acres in Tarrant and Johnson counties with Four Sevens Oil Co., which assigned the lease to Chesapeake in 2006, according to court filings.
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Chesapeake, through a spokesman at its Oklahoma City headquarters, declined to comment on the case. The company is the second-largest producer in the Barnett Shale and also in the United States, aggressively leasing millions of acres in the past decade. It has sharply scaled back its drilling in North Texas as it focuses on other fields and trims its spending to reduce debt.
While every lawsuit over royalty payments depends on the specific language in a lease, Drez said, the Hyder case should draw considerable interest from other royalty owners. He noted that while large landowners might have enough money at stake to make a lawsuit worthwhile, small property owners might have to team up to pursue a case, although Texas courts have not looked favorably on class-action suits on royalty disputes.
Chesapeake has been sued numerous times in North Texas and elsewhere, with many plaintiffs saying the company improperly deducted costs or sold gas to affiliates at below-market prices. Just in the past year, the cities of Fort Worth and Arlington, the Arlington school district, a group including Fort Worth developer Ed Bass and Trinity Valley School, and another group including a half-dozen prominent Fort Worth residents, including some Hyder family interests, have filed lawsuits over royalty payments.
In Pennsylvania, where Chesapeake also operates, swelling complaints by royalty owners against the company led the state’s governor to get involved and the attorney general to launch an investigation. And last year Chesapeake paid $7.5 million to settle a class-action lawsuit alleging it underpaid royalties in the state.
According to various news reports, there have been similar suits filed against Chesapeake in several other states, but they can take years to conclude. The Bass group’s suit, filed March 13, 2013, on Friday was scheduled for trial in April 2015, while the lawsuit by the Hyder interests and other Fort Worth residents has a November trial date, according to court records.
In the case decided this week, Drez said, Hyder’s lease held up in court because it was well-crafted.
It called for a 25 percent royalty, as well as an additional 5 percent “override” royalty on production from other leases if the wells were drilled from the Hyder property. Neither allowed deductions for post-production expenses — generally the cost of gathering, treating and transporting natural gas to a pipeline — and also required that the royalty be calculated on the sale of gas to a third party, not a Chesapeake affiliate.
Further, it expressly rejected the application of a Texas court precedent known as Heritage Resources vs. NationsBank, which allowed producers to deduct some costs even when a lease appeared to bar such deductions. He said the courts’ acceptance of a no-cost lease on override royalties could set a precedent.
“There is no other case similar at the appellate court level in Texas,” he said. “You now have a court saying cost-free is cost-free.”