Horizontal Well Unitization Comes to West Virginia
April 01, 2022
SB 694 was passed by the West Virginia Legislature during its 2022 Regular Session on March 9. SB 694 represents a long awaited step forward for the oil and gas industry in West Virginia. The bill authorizes the creation of drilling units without having 100 percent consent from the mineral interest owners across all formations and depths for horizontal wells and establishes uniform procedures for application and approval of such units. Governor Justice signed SB 694 on March 30, 2022, and the law takes effect June 7, 2022.
To get a sense of the history of SB 694 relating to oil and gas conservation and more particularly pooling or unitization of horizontal well drilling units, we must look back to March 14, 2015. HB 2688 was a bill quite similar to SB 694 in that it was designed to authorize unitization of horizontal wells in shallow formations without 100 percent consent of mineral interest owners when only deep formations (below the top of the Onondaga formation) were eligible for such unitization. HB 2688 passed the House of Delegates on a 60-40 vote and was immediately taken up by the Senate and passed on a 24-10 vote with a title amendment. But then because of the Senate's title amendment, HB 2688 went back to the House for concurrence on the title amendment. Late in the last day of the 2015 Regular Session, the House vote was 49-49 on final approval and the unitization bill died.
Just days shy of seven years later, the Legislature passed SB 694. The bill makes a number of changes to Article 9 "Oil and Gas Conservation" of Chapter 22C. This article addresses the more significant changes to Article 9, but a thorough review of SB 694 is necessary to understand the full scope and details of the bill.
The stated purpose of Article 9 is expanded to include "oil and gas produced from horizontal wells" and provides emphasis that it should "safeguard, protect, and enforce the property rights and interests of surface owners and the owners and agricultural users of other interests in the land."
A provision important to garner support for the bill was adding two new positions on the Oil and Gas Conservation Commission ("OGCC" or "Commission"). One position must be "an individual who has substantial experience in the agricultural industry, who is engaged in the business of farming" and is not engaged directly or through an immediate family member in the business of oil and gas other than as a royalty owner. The other position must be "a resident owner of minerals" who is not affiliated with an operator of oil and gas wells. This change expands the OGCC to seven members and assures agriculture and mineral owner representation on the Commission.
The powers of the Commission now include the authority to "issue horizontal well unit orders." It is worth noting that the bill does not expand the unitization authority to shallow conventional wells which remain excluded from Article 9.
The bulk of the detail of the bill is included in a new section §7a, which sets forth legislative findings supportive of horizontal drilling in deep and shallow formations and defines 11 new terms in addition to the definitions already contained in §2.
Section 7a explains the conditions under which an application for a horizontal well unit may be filed with the OGCC. With respect to royalty interests, the applicant must have the authority to develop the oil and gas from executory interest royalty owners controlling 75 percent or more of the net acreage in the target formation proposed to be included in the horizontal well unit. Thus, up to 25 percent of the net acreage in the target formation may be controlled by non-consenting executory interest royalty owners.
With regard to operator interests, the applicant must have the right to develop 55 percent or more of the net acreage in the target formation of the operators in the proposed unit. So up to 45 percent of the net acreage may be controlled by operators other than the applicant and still be subject to a unitization order by the Commission.
The applicant also has an obligation to make good faith offers to, and negotiate in good faith with, nonconsenting executory royalty interests and operators in order for the applicant to qualify as a "person that controls the horizontal well unit."
Section 7a also describes the numerous requirements to be included in the application for a horizontal well unit and the factors to be considered by the Commission in evaluating the application. The specifications for a horizontal well unit order are described in some detail, including the size and target formation of the unit, unitization consideration, and a finding regarding unknown and unlocatable interest owners.
Section 7a addresses compensation to royalty owners of leased interests which do not include the express right to pool or unitize the lease, and compensation options with respect to oil and gas interests that are not subject to any lease. These provisions represent the protection for nonconsenting lessors without pooling or unitization language in the lease and nonconsenting executory royalty interests owners.
SB 694 establishes the consideration to royalty owners of leased interests without pooling/unitization rights to be "an amount equal to 25% of the weighted average monetary bonus amount on a net mineral acre basis and a production royalty percentage equal to 80% of the weighted average production royalty percentage." The consideration must be paid by the participating operators to the extent of their interest in the horizontal well unit.
The consideration to be paid to unleased oil and gas interest owners is a little more complicated because those owners have three options. The first option is to "surrender the oil and gas underlying the tract to the participating operators" for a consideration, if not agreed upon, in "an amount equal to the weighted average amount paid, per net mineral acre, by the applicant to executive interest owners in bona fide, third-party transactions for the acquisition of the oil and gas mineral estate in the same target formation underlying the horizontal well unit." This option constitutes a purchase of the mineral estate in lieu of any bonus payment or royalty interest based on production.
The second option is to elect unitization consideration consisting of (i) "a bonus payment per net mineral acre equal to the weighted average monetary bonus paid, per net mineral acre, . . . by the applicant in connection with other leases in the same target formation controlled by the applicant within the horizontal unit;" and (ii) "a production royalty . . . equal to the highest production royalty percentage in connection with other leases in the same target formation controlled by the applicant within the horizontal well unit and dated within twenty-four months preceding the application date." Under this option, royalty payments are not reduced by post-production expenses. If the royalty interest owner fails or elects not to select an option, that owner is considered to have chosen this option.
The third option is to participate in the horizontal well unit as an operator subject to the appropriate share of the costs and expenses as well as revenues associated with the horizontal well unit. Alternatively, the nonconsenting owner may elect to participate on a carried basis, which means the nonconsenting owner will be an operator in the horizontal well unit entitled to receive a share of production after the net revenue attributable to the nonconsenting owner equals double the share of costs attributable to the nonconsenting owner's interest "as set forth in the accounting procedures included within the joint operating agreement" submitted by the applicant and approved by the Commission.
SB 694 also includes detailed procedures for notices, timelines, hearings and orders for resolution of any disagreements between interested parties that cannot be resolved. The bill also provides a process by which surface owners may acquire the oil and gas rights of unknown and unlocatable owners, but that is a topic for another article.
As noted above, SB 694 contains many more details than addressed in this article, so please review it carefully before making any decisions regarding utilization of its provisions after June 7, 2022.