Extension of Federal Oil and Gas Leases

Operators who do not regularly operate on federal lands may be surprised to discover that, unlike the typical private lands oil and gas lease, a federal lease does not contain a drilling operations clause that would extend the lease beyond the expiration of its primary term while drilling operations are being conducted. A recent decision of the Interior Board of Land Appeals (IBLA) drives home the importance of understanding exactly what facts are sufficient to extend a federal lease.

In Coastal Petroleum Company, 190 IBLA 347 (July 25, 2017), the IBLA upheld a decision of the Montana State Office of the Bureau of Land Management (BLM) which concluded that a lease had terminated at the end of its primary term because the lessee had not established that the well it had drilled and completed was capable of producing gas in paying quantities. Coastal’s lease would expire October 31, 2012. According to the decision, a well was spud prior to that date, the well was fracture treated on September 14, 2012, Coastal pulled two gas samples and determined that the well had good pressure and was able to flow on October 16, 2012, and Coastal received the gas analysis report on October 29, 2012. Based on these operations, Coastal concluded that at least two formations on the structure contained gas and that the well was capable of producing in paying quantities. But the BLM concluded that, without a flow test, BLM was unable to determine whether the amount of production would be of sufficient value to exceed operating costs; i.e., production in paying quantities. The IBLA agreed and noted that the burden is on the lessee to establish that a lease has been extended by a well capable of producing in paying quantities. The lesson for federal lessees is to plan operations that are intended to extend an expiring lease so that the well is completed for production and flow tested prior to the expiration date.

Another cautionary lesson from the Coastal decision is the need for a contingency plan in the event a well drilled near the end of the primary terms may not be completed as capable of producing in provable paying quantities prior to that date. Coastal argued in the alternative before the IBLA that it was engaged in testing and completing operations at the expiration of the primary term and so was entitled to a two-year extension of the lease under the “drilling over” provision of 30 U.S.C. §226(e). Coastal had not raised this argument in its request for State Director review of the BLM Field Office decision that the lease had terminated. It is not clear from the facts whether Coastal was actually conducting operations that would qualify as testing or completing under the regulation (43 C.F.R. §3100.0-5(g)) or whether Coastal had timely tendered the 11th year rental which is necessary in order to earn the drilling over extension. Instead, the IBLA refused to consider the argument at all because Coastal had not raised it before the State Director. The IBLA cited prior cases which establish that the Board will not consider issues raised for the first time on appeal except in extraordinary circumstances. The Coastal case appears to be a situation that easily could have been avoided by timing the drilling, completing and testing operations on the well to continue at the expiration of the primary term and by payment of the 11th year rental.