Producers Have till August 10 to Comply with New Regulations

By Kyle Walker / Originally published July 9, 2015 in The Bigheart Times

BARNSDALL, Okla.—Osage County’s oil and gas producers may well heave a cautious sigh of relief as the deadline to comply with new oil and gas regulations moves back to at least August 10.

The Osage Producers Association had asked a federal court for a preliminary injunction to prevent the rules from going into effect on the scheduled start date of July 10, saying that any time spent under the new regulatory regime would cause “irreparable harm” to the organization’s members.

A hearing on that injunction was scheduled for 3 p.m. on Wednesday at the federal courthouse in Tulsa, but that hearing was canceled after a last minute deal hammered out by the two parties. The hearing will instead be held on August 10.

The federal government has agreed to postpone implementation of the new rules until that hearing takes place.

On July 1, just nine days before they were set to go into effect, the BIA’s new rules were challenged in a pair of lawsuits filed in federal court by the OPA and the Osage Minerals Council. Those lawsuits were consolidated by U.S. District Court Judge Gregory Frizzell and will go forward together, although it is unclear whether the Minerals Council has the authority to file suit on its own behalf.

The looming legal contest comes as the latest salvo in a years-long battle over the future of the Osage mineral estate, a battle that has oil and gas producers caught in a crossfire between the Osage Nation and the BIA.

The regulations at issue are set to be codified in the Code of Federal Regulations, Part 226, and govern oil and gas production in Osage County only. The OPA contends that the final rules are not only “arbitrary and capricious” but also unconstitutional and that the negotiated rulemaking process that produced them was “procedurally deficient.”

The new rules put substantial responsibility on the superintendent of the BIA’s Osage Agency, something producers say is inappropriate and detrimental to the mineral estate.

For example, OPA’s complaint takes aim at one part of the rules that provides that the superintendent of the Osage Agency “in his/her discretion may order further development of any leased acreage … if, in his/her opinion, a prudent lessee would conduct further development.”

But, the complaint argues, “allowing the Superintendent to force a hypothetical ‘prudent Lessee’ to further develop a lease by requiring the drilling of additional wells by the Lessee is arbitrary and capricious. Further it creates an ambiguity as to what a ‘prudent Lessee’ is, without definition of clarification …

“Allowing the Superintendent such broad discretion is arbitrary, capricious, ambiguous, unjust and results in an over-concentration of power delegated to the Superintendent.”

The OPA is also leveraging a recent high profile Supreme Court case to make their point. In what must have been music to the producer’s ears, the nation’s highest court ruled in Michigan et. al v. Environmental Protection Agency that regulatory agencies could not ignore cost when drafting and promulgating regulations, something producers accuse the BIA of doing in spades.

The Michigan case was decided in late June and makes at least three appearances in the OPA’s motion for a preliminary injunction.

Jamie Sicking, an OPA board member, contends that the rules would be fatal to Osage County oil production.

“The killers are sleeping in the electrical code, the bonding, the early termination and the valves,” Sicking said, referring to the provisions that have producers most upset. “Those are the quickest way to die in Osage County.”

If the rules go forward as they currently stand, producers will have to comply with the National Electrical Code – which, among other things, requires explosion-proof electric motors and prohibits certain kinds of cabling – and ensure that they are using only BIA-approved valves.

Some producers have said they will have to dig up miles of cable to comply with the National Electrical Code.

The BIA is also demanding a $5,000 bond for every well on a producer’s lease, up to a maximum of 25 wells; this is a major change from the days before when a lessee put up a $5,000 bond for every quarter-section (160 acres) of their lease.

They will also be subject to an automatic termination clause that would kill their lease if it does not produce in “paying quantities” for a period of 120 days.

The OPA’s complaint leaves few stones unturned, taking the regulations (and the regulators) to task for section after section of the rules.

The complaint reserves special displeasure for apparently retroactive changes made to the calculation of royalty payments to the Osage Nation.

Royalties currently vary throughout the county because the old Tribal Council and the producers could once negotiate the terms of those leases. (The Tribal Council has since been replaced by the Minerals Council, which took up the Tribal Council’s role in government oil and gas leases.)

But the new rules impose a minimum 20 percent royalty throughout Osage County, apparently on new and existing leases alike. The 20 percent minimum violates existing contracts between lessees and the Minerals Council, the complaint argues.

[Correction: The new regulation only impose a 20 percent minimum on new leases, not on existing leases. The producer’s complaint does make that allegation, however.]

It also destroys the Minerals Council’s ability to negotiate with potential producers, says Shane Matson, president of OPA.

“Now they’re making it part of the Code of Federal Regulations that you pay 20 percent,” Matson said. “So it’s a huge bargaining chip they’ve taken away from the Osage.

“Everybody wants 20 percent, but 20 percent of zero is zero,” he said, arguing that the regulations will drive business away from Osage County.

The Minerals Council had already set a 20 percent royalty but only on new leases, according to Minerals Council Chairman Everett Waller.

Further, the royalty is to be calculated according to the average New York Mercantile Exchange (NYMEX) price of oil at Cushing, Okla., for the month of sale, a price producers say they never get in Osage County.

Matson echoed complaints raised by many producers at BIA-hosted training sessions and documented in scores of letters to the BIA that the OPA submitted to the court.

“We negotiate with the purchaser the amount they pay us for a barrel of oil,” Matson said. “And they set the price. It’s usually NYMEX less transportation.”

In other words, producers normally receive a price below the NYMEX price because it costs the purchaser time and money to retrieve oil produced in Osage County and take it to market.

The regulations also provide that all “permanent improvements and other equipment necessary for the operation of the lease” can be taken by the Osage Nation in the event that the lease is terminated “for cause.”

This amounts to an unconstitutional taking of private property, according to the OPA’s complaint.

Complicating things still further, some in Osage Nation government are questioning the Osage Minerals Council’s authority to file a lawsuit on its own behalf.

The Minerals Council lawsuit evidently came as a surprise. Principal Chief Geoffrey Standing Bear told the Bigheart Times that he learned about the lawsuit on Thursday from an article posted on the Osage News website. Jeff Jones, Assistant Attorney General for the Osage Nation, said he did not even know about it until Monday morning.

Jones said that the Minerals Council’s standing to file the suit is an open question.

“It’ll be a constitutional question, and that’s the question right now,” he said. “How much power does the Minerals Council have? Do they operate outside the Osage Nation? Or do they fall under the laws of the Osage Nation?”

Standing Bear agreed.

“That is a question for the Osage Supreme Court,” he said. “It is not a question for the federal court in Tulsa. I do not want a federal court weighing in on it.”

Standing Bear says that his administration would take action if it looked like the federal court was going to make a decision about the Minerals Coucil’s authority to file suit, probably in the form of a brief filed with the court.

“But again, we just started talking about it,” he said. “We are all very busy, and I wish somebody had made time to discuss these matters.”

The Osage Minerals Council declined to comment.

Either way, Shane Matson says the OPA is sticking to its guns.

“We’re in this fight till the end.”