JOA Cross-Netting Question Almost Answered

Co-author Emily Morris *

One of the questions raised in 1776 Energy Partners, LLC v. Marathon Oil EF, LLC was whether Marathon as operator could apply revenues owed to non-operator 1776 under one joint operating agreement to satisfy unpaid debts owed on another. Unfortunately, we don’t have an answer. (FWIW, this is the same “1776” from a recent post, whiffing at the plate again with runners in scoring position.)

The litigants were parties to the Culberson, Longhorn and Bordovsky JOAs. 1776 stopped paying its share of expenses under the Culberson and Longhorn JOAs and advised it was going to drill a well on Bordovsky, in which it was the operator. Marathon questioned how 1776 could fund a new well when it owed millions on other wells. 1776 responded that the new well would be funded by outside investors.

Marathon began cross-netting revenues against expenses and sent an AFE proposing three wells under the Culberson JOA along with a $9.4 million cash call. 1776 had 30 days to elect whether to participate and if it elected to participate, 15 days to pay the cash call or it would be deemed non-consent.

1776 elected to participate in the new wells but would not pay the cash call. The parties engaged in a series of complicated negotiations over two years in an attempt to resolve the situation. The negotiations failed.

Practice tip

One tactic that probably should have been avoided was an employee of 1776 responding to Marathon’s notice of default by emailing a picture of a man pulling out empty pants pockets.

Litigation ensued. Witnesses at trial disagreed on pretty much everything, including, for example, whether a certain phone call ever even happened.

The court entered a final judgment for Marathon based on the summary judgment order and evidence presented at trial showing principal and interest owed under the Bordovsky JOA and credits owed on the Culberson and Longhorn JOAs.

What about cross-netting?

The trial court declared that the Culberson JOA did not require 1776 to pay debts under other JOA’s in order to participate in the drilling of the three proposed wells under that JOA. This was based on Marathon’s refusal to assure 1776 and its outside funders that it would not cross-net the new wells’ cash call under one JOA against debts on the others.  The court of appeals agreed with Marathon that the ruling resolved a hypothetical question rather than a live controversy. It was an advisory opinion because 1776 never paid the Culberson cash call.

1776 had one last bottom-of-the-ninth opportunity on cross-netting. After partial summary judgment in favor of Marathon for $1.9 million plus interest for breach of the Culberson and Longhorn JOAs, 1776 moved to amend its counterclaim to assert that Marathon’s cross-netting was a repudiation and anticipatory breach of the Culberson JOA and to seek a declaration that cross-netting was not allowed. The trial court denied the amendment on the basis that it was not timely filed. That ruling was upheld on appeal.  Result: No answer to the cross-netting question.  

Procedural issues

In addition to reversing 1776’s declaratory judgment, the court of appeals overruled challenges by 1776 to the final judgment on issues including admissiblity of expert testimony, the jury charge, fraud by nondisclosure, calculation of damages, the effect of an “alternative judgment”, and segregation of attorneys’ fees.

Your musical interlude. Our regretfully tardy remembrance of D-Day!

*Emily is a rising 3L at University of Texas Law School and a Gray Reed summer associate.

 

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