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Case Bulletin – Pennsylvania Superior Court Refuses to Sever Terms of Oil and Gas Lease

The Pennsylvania Superior Court recently ruled in the case Seneca Res. V. S&T Bank, 2015 PA Super. 181 (Aug. 31, 2015) that oil and gas lease terms are not severable when a lessee pays separate consideration for operated and unoperated areas.  In Seneca, the landowners sought a declaration to invalidate certain portions of a 1962 lease, later acquired by Seneca Resources, which encompassed about 25,000 acres. That lease provided that the lessee would pay royalties for oil and gas produced from operating acreage and rental payments for unoperated acreage. At the time of the suit, the leased premises consisted of 15,000 operating acres and 10,000 unoperating acres. The landowners argued that the separate compensation provisions as to operating and unoperating acreage allowed them to sever the lease, thereby giving them the ability to terminate the lease as to the unoperated acreage on the basis that the primary term of the lease expired with respect to that acreage because of the lack of development.

 

In examining the lease, the Superior Court noted that the lease did not identify any distinction between operated and unoperated acreage. The Court determined that the lease clearly was intended to encompass the entire 25,000 acres for a primary term of 40 years, and a secondary term that would continue as long as the oil and gas was produced on the leased acreage. In light of the considerations in the lease, which included royalties, delay rentals, and storage  rentals, and the fact that the unoperated acreage could be converted to operated acreage at any time, the Court held that the parties intended to enter into an agreement “to achieve the fullest development” of the entire leased acreage and the terms were not severable.

 

Significantly, the Court also ruled that development of a portion of the entire leased acreage satisfied the lease’s implied covenant to develop the property. However, the Court premised this decision on the specific lease language, which provided that the lease would extend beyond the primary term so long as oil and gas were stored in, produced or withdrawn from “all or any portion of said leased premises”. To date, neither party has filed a petition for allowance of appeal to the Pennsylvania Supreme Court.

 

The ruling indicates the Superior Court’s willingness to strictly construe terms of oil and gas leases. It also provides some insight as to what the Court will look to in determining what level of development satisfies the rather nebulous implied covenant to develop.