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Developing Issues in Oil and Gas Regulation

By Thompson & Knight Attorneys Arthur J. Wright and Lucas A. LaVoy

Oil and gas regulations touch on all facets of the oil and gas industry, including well permitting, spacing, and allowables; operations; and securities regulations affecting the buying and selling of oil and gas leases and other interests. These regulations reflect the complexity of the industry and continue to evolve rapidly as technology and development expand to new frontiers. This article discusses a limited number of issues involving regulatory bodies that rapidly evolve as the industry changes, grows, and expands. 

A new development is the exercise – or attempted exercise of – regulatory authority by city, township, and other local authorities. The increase in unconventional gas development has increased activity in urban and suburban areas. This activity has prompted, in response to public pressure, scrutiny and expansive municipal regulation of exploration and production operations.

Attorney Arthur Wright and Attorney Lucas Lavoy's commentary in the Oil & Gas Monitor

Municipal authorities have the power to enact zoning ordinances that may, as a practical matter, regulate or even eliminate oil and gas drilling within their jurisdiction. In Texas, the authority of towns and cities to regulate oil and gas development is well established[1] and broad.[2] This authority has significant impacts on the Barnett Shale play in Tarrant County, Texas. Arguments that these regulations are completely preempted by state laws that regulate oil and gas operations have had little success. For example, Colorado home rule cities can apply land-use controls to oil and gas drilling so long as the land-use regulations do not result in a total ban on drilling or otherwise “frustrate … the stated goals of the Oil and Gas Conservation Act.”[3] However, Pennsylvania has upheld the ability of local authorities to apply zoning ordinances, [4] but a recent attempted ban on injection of fracking wastes originating outside a township was rescinded before the associated lawsuit issue went to trial.[5] Notably, the challenge to the injection well ban in that case was largely based on the interstate commerce clause, rather than solely alleging preemption by state law.[6] Louisiana takes the opposite approach: a Fifth Circuit case, construing Louisiana law, held that the attempted regulation of oil and gas development by the City of Shreveport was entirely preempted by state law.[7] There are currently two cases pending in New York trial courts that will address separate preemption challenges to outright bans, by two towns, of drilling activities within their township limits.[8] In each case the plaintiffs assert that the applicable municipal ban on drilling activities is preempted by New York’s Environmental Conservation Law, which generally regulates oil and gas operations.

At least where such regulation does not directly ban drilling, the trend in producing states, except for the limited case of Louisiana, is clearly that local regulation of oil and gas drilling should survive preemption challenges. With respect to the pending New York cases addressing complete drilling prohibition, the New York courts may decided to follow the Colorado model and dissallow the bans. However, that issue remains uncertain. Regardless of the outcome in New York, the specifics of the scope and intensity of oil and gas regulation by local authorities will continue to be state specific. Therefore, it is critical to understand the local rules and regulations that impact their development, in addition to statewide and national regulations.

One of the issues subject to inconsistent regulation is water use. The intensity of water use in the oil and gas industry has increased in recent years; it can take up to eight (8) million gallons of fresh water to fracture a well. There is a formidable array of regulations at the federal and state levels with respect to protection of water from contamination both as to drilling and disposal. However, the regulatory picture with respect to shale gas development remains uncertain. For example: on November 10, 2011, in response to public scrutiny of fracking, the US Department of Energy released its most recent report on recommended improvements in the safety and environmental performance of shale gas development.[9] Notably, of the twenty recommendations in the report, five concern water quality and/or management issues. However, the US Environmental Protection Agency is not expected to issue a proposed rule for shale gas waste water management until 2014.[10]

Regulations pertaining to water quality and avoidance of contamination are discussed in depth elsewhere.[11] However, obtaining the volumes needed for operations is a separate challenge. The customary oil and gas lease for many years granted the lessee reasonable rights to use the water in and under the leased premises for operations. However, recently lessors are requiring the separate purchase of their water for operations, or even disallowing the use of trucked-in water on their lands in the interest of maximizing water sales. Given this environment of water scarcity, operators and other working interest owners need to be aware of the impact that state and local laws can have on water withdrawal, over and above any restrictions imposed by lessors. Location is critical. For example, Barnett Shale producers have been able to purchase water for fracking operations directly from the Tarrant Regional Water District, due to the proximity of the public water delivery systems to the wellheads.[12] However, operations in other Texas plays may involve working with Groundwater Conservation Districts (GCDs). As a general matter, the GCDs regulate the drilling and operation of water wells, and may charge fees for the production of water therefrom. However, the structure and authority of the various GCDs varies substantially, as each is created by a separate enabling act of the legislature or by a state administrative action.[13] The exact parameters of their authority continues to be litigated. Contrast the inconsistent Texas GCDs with groundwater withdrawal in Oklahoma, where the Oklahoma Water Resources Board hears applications for permits and generally regulates the use of groundwater, rather than delegating this authority to local entities.

Another issue that has become a concern is the potential presence of an endangered species, such as the “Gila Trout,” “San Joaquin Kit Fox,” or the “Aplomado Falcon,” on the lands under development, or the classification of a species that inhabits a development prospect as endangered. A recent controversial development in endangered species law has been the potential listing of the dunes sagebrush lizard as an endangered species.[14] The dunes sagebrush lizard inhabits areas within the Permian Basin, which raises the concern that the lizard’s habitat may conflict with a significant amount of oil and gas development. Violation of the Endangered Species Act of 1973 (ESA) can result in civil or even criminal penalties, making the stakes extremely high. Like many federal environmental statutes, the ESA is complex legislation requiring close attention to the facts in each particular case.[15] Managing the presence of an endangered species concurrently with development, if it can be done at all, is time and resource consuming and requires expert advice. Current operators and prospective investors alike need to keep track of ongoing developments relating to the listing of new species, and must be aware of any potential presence of listed species in proximity with their operations or any oil and gas properties they are considering acquiring. Where a species, such as the dunes sagebrush lizard, has the potential to be listed as an endangered species, companies should consider this possibility when negotiating agreements for the lease, purchase, or operation of oil and gas properties, so as not to be caught between a contractual obligation to drill or purchase a property, and a prohibition on drilling in the habitat of a newly-listed endangered species.

As the oil and gas industry continues to evolve and expand into new areas, deeper formations, and new technologies, changes to government regulations will inevitably follow. In addition to complying with current regulations, oil and gas companies need to anticipate and plan for how they will be regulated in the future.

About the Authors

Arthur J. Wright is a Partner in Thompson & Knight’s Dallas office and serves as the Firm’s Oil and Gas Practice Group Leader. He counsels clients in acquisitions and dispositions of E&P, midstream properties, and natural resources companies and joint ventures relating thereto. Mr. Wright provides advice and prepares agreements in relation to exploration and production activities; gas plant operations; and marketing of gas, NGL, LNG, and electricity production in all relevant matters. He is also involved in regulatory and oil and gas litigation matters. In addition, Mr. Wright represents borrowers and lenders in conventional financing and investors and operators in equity transactions and unconventional financing. With more than 40 years of experience, both in private practice and as an officer and in-house counsel to several energy industry companies, he has extensive energy industry knowledge. Since January 2009, he assisted his clients in closing more than $7.9 billion in energy industry transactions, and he was recently named by The Best Lawyers in America^® as the “2012 Dallas Energy Lawyer of the Year.”

Lucas A. LaVoy is an Associate in Thompson & Knight’s Oil and Gas Practice Group in the Firm’s Houston office. Mr. LaVoy advises and assist clients in acquisitions, dispositions, and joint ventures relating to oil and gas properties and E&P companies, with a particular focus on advising and assisting investors and capital providers seeking exposure to the domestic E&P sector. His practice has included E&P asset purchases, participation, and development transactions relating to assets in Texas (Eagle Ford Shale and Permian Basin), Wyoming, Louisiana, and Montana; asset and equity sales in the Barnett Shale; acquisitions of federal leases in the Gulf of Mexico; preparation and negotiation of oil and gas leases; and advice and preparation of agreements related to ongoing E&P activities. Mr. LaVoy also represents clients in matters relating to mineral titles, including primary title examination and preparation of drilling title opinions and division order title opinions as well as the design and execution of transactional due diligence programs.

[1] See, e.g., Tysco Oil Co. v. R.R. Comm ‘n, 12 F. Supp. 195, 203 (S.D. Tex. 1935); Klepak v. Humble Oil & Refining Co., 177 S.W.2d 215, 218 (Tex. App.-Galveston 1944, writ ref d w.o.m.).

[2] See Trail Enterprises, Inc. v. City of Houston, 957 SW 2d 625 (Tex.App.-Houston 1997, pet. denied) (upholding a City of Houston ordinance prohibiting drilling in a control zone relating to Lake Houston).

[3] Voss v. Lundvall Brothers, Inc., 830 P.2d 1061 (Colo.1992).

[4] Huntley & Huntley, Inc. v. Council of Oakmont, 964 A. 2d 855 (Pa. 2009).

[5] “Columbus Repeats Repeal of Well Rule”, Warren, PA – The Times Observer (Oct 12, 2011).

[6] See Count I, original complaint in Pennsylvania Independent Oil and Gas Assoc. v. Columbus Township, No. 11-210 Erie (W. Dist. Pennsylvania).

[7] Energy Mgmt. Corp. v. City of Shreveport, 397 F.3d 297 (5th Cir. 2005).

[8] Anschutz Exploration Corp. v. Town of Dryden, (Sup. Court Tompkins County) (Sept. 2011); Cooperstown Holstein Corp. v. Town of Middlefield, (Sup. Court Otsego County) (Sept. 2011).

[9] SEAB Shale Gas Production Subcommittee Second Ninety Day Report – November 18, 2011.

[10] EPA Announces Schedule to Develop Natural Gas Wastewater Standards/Announcement is part of administration’s priority to ensure natural gas development continues safely and responsibly, EPA Press Release October 20, 2011.

[11] See, e.g., James C. Morriss III and Christopher D. Smith, “The Shales and Shale-Nots: Environmental Regulation of Natural Gas Development”, ABA Energy Litig. J., Winter 2010.

[12] See Mark McPherson, “Frac Me With This: The Challenges of Obtaining Water for Production”, Dallas Bar Assoc. Review of Oil & Gas Law, August 26-27, 2010.

[13] See Burkhalter and Arnold, Survey of Regulatory Approaches Used by Groundwater Conservation Districts (Round II), Water Law Institute, University of Texas CLE (2008).

[14] See Proposed Rule – Endangered Status For Dunes Sagebrush Lizard, 75 FR 77801 (Dec. 14, 2010).

[15] For further treatment of the ESA issues that may arise in oil and gas development, particularly in the shale plays, See Morriss, supra n. 11.

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