Daniel B. Markind, Esq.
Weir and Partners, LLP

Sadly, the failure of Chesapeake Energy to properly resolve disputes with landowners is not helping the natural gas industry; in fact, it’s hurting things.

Chesapeake Energy found itself in hot water again last week when allegedly it continued to deduct prior losses from royalty payments due to farmer Russ Forba, resulting in basically not paying the Forbas a dime for their gas despite continuing to extract it.

On Monday, April 24, Mr. Forba received a statement from Chesapeake revising the price for his gas downward and increasing the post-production costs.  In addition, Chesapeake deducted an additional $5,700 that it claimed was a prior loss from the current royalty payment due the Forbas.  This is something Chesapeake promised it would not do.

Chesapeake’s actions have spurred calls in the Pennsylvania State Legislature to revise laws regarding the post-production cost deduction from royalty payments.  It comes also as the West Virginia Supreme Court hears a case in which the Court may allow energy producers to increase the amount of post-production cost deductions they can take before providing royalty payments to landowners.

Without too much legalese, it is instructive to remember that shale gas “leases” are not really leases at all.  In a normal lease, the tenant obtains certain rights to utilize the landlord’s property.  If during that tenancy the tenant discovers gold on the land, that gold belongs to the landlord, not the tenant.  Shale “leases” are a different legal animal, involving the right to search for and remove a mineral from the owner’s land.  They only are called “leases” for shorthand reference.

Chesapeake’s position, in effect, seems to be that it has the right to come on the landowner’s property, extract his resources, sell those resources and not pay the landowner anything for them.  In fact, it may be the landowner who owes Chesapeake money for the privilege of allowing Chesapeake to come onto his land and take away his minerals.  I doubt that argument ultimately will prevail in the Courts and the Pennsylvania Legislature.

As for the West Virginia situation, again trying to go light on the legalese, Pennsylvania is known as an “At the Wellhead” state, whereas West Virginia has been a “Marketable Product” state.  In English that means that producers in Pennsylvania can deduct from royalty payments due to landowners  post-production expenses incurred by the producer from the moment the gas reached the wellhead. West Virginia producers had to wait much longer before deducting such expenses.

If they are as alleged, Chesapeake’s antics reflect badly upon the entire industry. Long term, the industry needs all the friends in Pennsylvania and West Virginia it can get.  It has to be seen as a good and fair neighbor.  Actions like this don’t help anyone.

On another front, please watch closely the press coverage given the Duke University Study which came out two weeks ago.   This study concluded that widespread fracking has not contaminated drinking water in Northwestern West Virginia.  Duke researchers worked with researches from Ohio State, Penn State and the French Geological Survey.  They collected samples from 112 drinking wells, and concluded that they “…do not see an effect of fracking on the groundwater quality.”  Forgive my cynicism, but I doubt this study will generate the publicity of others that painted a more dire picture of fracking.

The consistent anti-fracking drumbeat certainly has had an impact on the pipeline buildout in the Northeast.  This provides an interesting backdrop to the decision by the Polish Government to import natural gas from the Sabine Pass terminal in Louisiana (pictured below).

The Poland natural gas story literally has global implications.  First, it is the concrete manifestation of Poland’s desire to free itself from Russian energy domination.  Is there anything more important for NATO and American foreign policy in the region than encouraging this?  Of course, the prior administration slow-walked everything regarding oil and natural gas exports.  Purely from a national security standpoint, that remains hard to understand.

Second, the fact that the gas is coming from Louisiana and not from Pennsylvania is an admission of local failure.  Philadelphia obviously is far closer to the Baltic Sea than Louisiana, but we remain years away from having export capability.  Political will and effective outreach remain major issues here.

I’ll end this update with another word about the disaster in our hemispheric back yard, Venezuela.  Just when you thought things couldn’t get worse, they do.  In fact, President Nicolas Maduro has made Venezuela what critics always claimed about Russia, that it is a gas station with an army. Oil constitutes 95% of the country’s revenue. Maduro has so severely mismanaged the country that it is now a total kleptocracy.

For the last three weeks, that government has been besieged by street demonstrations, some of which have turned violent.  In response, Maduro has armed vigilante groups, who attack protestors and others who don’t support the government.  Aside from being a fascinating argument against gun control, Maduro’s weapons policy means the world is now concerned that sophisticated weaponry can fall into the hands of unsavory actors who support (or claim to support) the President.

Meanwhile, the Venezuelan economy continues to crash, and the country is coming dangerously close to running out of foreign currency holdings.  Just yesterday, Maduro engaged in a constitutional ploy aimed at dissolving the legislature and buying time for his embattled regime.  Venezuela, of course, has the largest proven oil reserves oil in the world.  It supplies about 9% of US imports.

If Venezuela craps out, there’s no telling what effect this will have on world oil and natural gas markets.  The two commodities are not the same, of course, but many of the companies that produce one produce the other.  Their allocation of capital is based on perceived return.   In our inter-related world, it would be wise for all energy followers to keep a close eye on Caracas.

Editor’s Note: I have, until now, avoided the Chesapeake Energy royalty issue on the principle it is largely a private contractual dispute that ought not to be resolved by legislation. That’s still my opinion. Notwithstanding this, I cannot avoid stating the obvious; Chesapeake Energy’s approach is simply wrong, is out of step with nearly all other producers and is already hurting the natural gas industry in terms of public perceptions. It is also likely to result in major legal hurts on the industry if Chesapeake does not adjust its attitude toward its partners in natural gas development; its royalty owners. Dan has stated the facts simply and eloquently without attacking anyone and, therefore, I’m pleased to publish what he has to say.