Pooling Lands v. Pooling Leases: The Texas Supreme Court Identifies a Key Distinction

In Wagner & Brown, Ltd. v. Sheppard, the Texas Supreme Court addressed a matter of first impression: how a pool of producing properties is affected if an oil and gas lease in the pool expires.¹ The court held that neither the pool nor the equitable right of reimbursement for improvements were necessarily extinguished by the termination of the lease. ²

The landowner executed a lease with an operator, leasing her interest in the minerals of the underlying tract. The lease provided that, if royalties were not paid within 120 days after the first gas sales, then the lease would terminate the following month. The landowner also executed a pooling agreement, authorizing the operator to pool the underlying tract with eight others to form a gas unit. The unit agreement provided that proceeds and costs would be split among all the tracts in proportion to acreage. Two gas wells were completed on the landowner’s property, and both began producing. When the second operator took over, it discovered that the landowner had not been paid royalties within 120 days. The operator offered the landowner a new lease, but she declined.³

At trial, the parties agreed that the lease terminated three years before the second operator made this discovery, and the landowner became an unleased cotenant entitled to her share of the proceeds sold less her share of the costs of production and marketing. The dispute on appeal concerned the landowner’s share of the proceeds and costs.

Regarding the proceeds, the issue was whether the termination of the lease also terminated the landowner’s participation in the unit. If so, the landowner was entitled to 1/8th of 100 percent of production because both wells were on her tract.⁴ If not, then she was entitled to 1/8th of 51.3 percent of production—the proportion that her tract bore to the total acreage of the unit.⁵ The court stated that the issue was a matter of contract ⁶, noting that the documents did not specify what happened to the unit when one lease terminated, and held that the unit did not terminate because the unit was a “pooling of lands, not just leases.” ⁷

The court noted that, because a lease is not necessarily required for pooling, mineral owners can join a pool even if no lease exists.⁸ Here, the lease allowed the landowner’s tract (rather than just the lease) to be pooled.⁹ Thus, while the termination of the lease changed who owned the minerals, it did not terminate the landowner’s participation in the unit.¹⁰ This means that a unit formed by pooling lands does not terminate on the same basis as one formed by pooling only leases.¹¹ The court stated that, if the parties wanted pooling to expire upon termination of one lease, then they were free to say so.¹²

Regarding the costs, because the court held that the unit did not terminate upon the termination of lease, it held that the operator could account to the landowner for expenses on a unit basis.¹³ The court held that the expenses all related to the pool because the drilling could not have occurred without it.¹⁴ The court further held that the landowner must pay her share of the drilling costs incurred before the lease expired.¹⁵ While it was undisputed that the landowner was required to pay her share of expenses to produce and market gas thereafter, the court held that the general rule of improvements governed her obligation to share in drilling costs before the lease expired.¹⁶ Since oil and gas wells are improvements to real property, the court held that an operator who drills in good faith is entitled to reimbursement.¹⁷ The court held that the existence of a valid lease that was mistakenly allowed to expire did not change this general rule of equity.¹⁸ Still, the court held that the determination of whether equity demands reimbursement will be a fact-specific inquiry, including whether the lease terminated accidentally or intentionally and whether the operator immediately offered to reinstate an expired lease.¹⁹ Here, the court held that the record was not fully developed, and remanded to determine to the trial court for a determination of the reasonableness of the expenses and whether equity required reimbursement.²⁰

¹ 52 Tex. Sup. Ct. J. 130, No. 06-0845 (Tex. November 21, 2008). Justice Brister delivered the 8-0 opinion of the Court, Justice Willett not sitting. The Texarkana Court of Appeals’ decision can be found at 198 S.W.3d 369.
² Id. at *2, 8, 9, 11-12, 15, 17-18.
³Id. at *2-3.
⁴Id. at *4.
⁵Id.
⁶Id. at *8 (citing Tittizer v. Gas Corp., 171 S.W.3d 857, 860 (Tex. 2005)).
⁷Id. at *4-8.
⁸Id. at *5 (citing Westbrook v. Atl. Richfield Co., 502 S.W.2d 551, 554 (Tex. 1973)).
⁹Id.
¹⁰Id.
¹¹See id. at *6.
¹²Id. at *8.
¹³Id. at *9.
¹⁴Id.
¹⁵Id. at *10-11.
¹⁶Id. (citing Byrom v. Pendley, 717 S.W.2d 602, 605 (Tex. 1986); Brannon v. Gulf States Energy Corp., 562 S.W.2d 219, 224 (Tex. 1977); Sharp v. Stacy, 535 S.W.2d 345, 351 (Tex. 1976); White v. Smyth, 214 S.W.2d 967, 979 (Tex. 1948)).
¹⁷Id.
¹⁸Id. at *12.
¹⁹Id. at *15.
²⁰Id. at *9-10, 17.