Due to increased drilling activity in the Utica shale formation, state and federal courts in Ohio and the 6th Circuit have recently issued decisions related to local drilling regulations, drilling permits, leasing, indemnity provisions, and whether a landowner can state a strict liability claim against a drilling company that survives a motion to dismiss. While separate, future blog entries will discuss in more detail Ohio’s Dormant Mineral Rights Act and strict liability claims against fracking operations, the following post summarizes some recent developments in Ohio law that are relevant to the oil and gas industry.
Obstacles to Drilling:
- Local Laws and Ordinances—State Ex Rel Morrison v. Beck Energy (9th Dist. – Appeal Pending): Beck Energy received a drilling permit from the Ohio Dept. of Natural Resources to drill in the City of Munroe Falls. As Beck Energy prepared to begin drilling, however, the City successfully sued for an injunction by arguing that Beck Energy was not in compliance with local laws and ordinances related to zoning and rights-of-way. Beck Energy appealed the injunction, and the issue before the appeals court was whether the City can enforce its ordinances governing oil and gas drilling when (1) Beck Energy had received a valid drilling permit and (2) the state has a comprehensive statutory scheme regarding oil and gas drilling. The appeals court ruled that the rights-of-way ordinances regarding the care and supervision of public roads did not directly conflict with the state’s regulatory regime and could be enforced. The Court struck down the local ordinances related to local drilling permits, application fees, and performance bonds as being duplicative of and preempted by state laws and regulations. The Ohio Supreme Court heard this case on appeal on February 26, 2014 but has yet to issue a ruling.
- Appealing the Permit Process—Chesapeake Exploration LLC v. Oil & Gas Commission(Ohio Supreme Court – 2013): The Ohio Supreme Court determined that, under Ohio Revised Code section 1509.06, a decision by the Ohio Division of Oil and Gas Resources Management’s Chief to issue an oil and gas drilling permit cannot be appealed to the Ohio Oil & Gas Commission.
- Lease Extensions—Eastham v. Chesapeake Appalachia, LLC (6th Circuit interpreting Ohio law – June 2014): Chesapeake was the successor-in-interest to a lease with the Easthams which provided that “Upon the expiration of this lease . . . Lessor grants Lessee an option to extend or renew under similar terms a like lease.” Without negotiation or notice to the Easthams, Chesapeake filed to extend the lease for another 5 years under the same terms. The Easthams brought suit, arguing that the option language of the lease required negotiations for a “like lease.” The Court sided with Chesapeake, holding that to “extend” a lease means to carry forward the same terms and to “renew” a lease means that the terms of the new lease can be changed slightly.
- Arbitration Clauses—New Hope Community Church v. Patriot Energy Partners (7th Dist. – Dec. 2013): The Court held that arbitration clauses in oil and gas drilling leases are valid unless they are both substantively and procedurally unconscionable. The substantive unconscionability inquiry considers the costs of arbitration versus a lawsuit, the specificity of the arbitration provision, the prominence of the provision in the lease, and whether the arbitration provision applies equally to the parties. The procedural unconscionability inquiry considers the negotiators’ relative sophistication, whether the party seeking to enforce the provision also drafted the contract, the relative bargaining power of the parties, and whether the party against which the arbitration provision is being enforced was able to provide alterations to the lease. In this case, the Court found the arbitration provision substantively unconscionable because it was costly, lacked specificity, and was misleading. However, the provision was not procedurally unconscionable because the parties were experienced with oil and gas leases, had the opportunity to consult legal advisors, and there was no evidence of coercion. As a result, the Court ruled that the arbitration provision was valid and enforceable.
- Lease Assignments—Harding v. Viking Int’l Resources Co. (4th Dist. – Nov. 2013): Harding entered into a lease with Carlton Oil Corp. that included an anti-assignment clause stating that “The rights and responsibilities of the Lessee may not be assigned without the mutual agreement of the parties in writing.” Without getting a written agreement, Carlton assigned the contract to Viking Int’l Resources. Harding accepted and cashed Viking’s royalty checks for 8 months before objecting to the assignment. In Ohio, contracts can be assigned unless: (1) there is clear contractual language to the contrary; (2) the assignment materially changes the duty of the obligor, increases their risk, or reduces the contract’s value; or (3) the assignment is forbidden by statute or public policy. Despite the fact that Harding cashed Viking’s royalty checks for 8 months, the Court invalidated the assignment but ruled that the lease between Harding and Carlton remains in effect.
- Reciprocal Indemnity Clauses—Warren Drilling v. Equitable Production (S.D. Ohio – April 2014): A landowner brought a water contamination lawsuit against Warren Drilling. Warren settled the lawsuit with the landowner and then brought an indemnity action against its drilling partner, Equitable Production. The issue before the Court was whether the indemnity provision was enforceable where there was no judicial finding of fault or liability because of the pre-trial settlement. The Court (applying Pennsylvania law) held that Equitable Production did owe indemnity to Warren for its cost of defense and the settlement amount because the indemnity provision required Equitable Production to indemnify Warren for “claims” and “demands” and included a “duty to defend.” The Court indicated that had the indemnity provision been limited to “loss and indemnity” it likely would not have covered a pre-trial settlement with no judicial determination of fault.
- Strict Liability—Boggs v. Landmark 4 LLC (N.D. Ohio): Boggs (a private landowner) brought a water contamination lawsuit against Landmark drillers alleging, among other claims, that hydraulic fracturing is an “abnormally dangerous activity” and is, therefore, subject to strict liability. On a motion to dismiss, the Court reviewed the six Restatement factors for determining whether an activity is abnormally dangerous and ruled that Boggs had adequately stated a strict liability claim. Boggs’s strict liability claim was ultimately dismissed after discovery.