United States: Texas Supreme Court Approves Top Lease Of Reversionary Interest; Orders New Trial On Production In Paying Quantities

In BP America Production Co. v. Laddex, Ltd. (Case No. 15-0248), the Texas Supreme Court recently ruled that a top lease that is a conveyance of an interest in a lessor's possibility of reverter does not violate the Rule Against Perpetuities. Upholding a decision from the Seventh Court of Appeals in Amarillo, the Court agreed that the top lease acquired by Laddex, Ltd. (Laddex) was valid and therefore gave it sufficient standing to challenge the bottom lease held by BP America Production Co. However, due to an error in the jury charge regarding Laddex's claim that the bottom lease had ceased to produce in paying quantities, the Court reversed the trial court's judgment terminating that lease and remanded for a new trial.

BP America Production Co. (BP) owned the rights to a 1971 lease covering lands in Roberts County. Under the lease, one successful well was drilled on the property during the primary term, which produced steadily until a significant slowdown in August 2005. By November 2006, however, the well had resumed producing quantities comparable to those produced before the slowdown.

In March 2007, the landowners entered into a top lease with Laddex, the primary term of which was to commence as of either (a) the date that written releases of the BP lease were filed of record or (b) the date upon which the BP lease was terminated by the final and non-appealable judgment of a court. The Laddex lease also was to "vest in [Laddex] any and all remainder and reversionary interest and after-acquired title of Lessor in the Leased Premises" upon the expiration of the prior lease.

Within a month of the execution of the top lease, Laddex sued BP on the grounds that the prior lease had terminated due to failure to produce in paying quantities during the 2005-06 slowdown. BP countered by moving to dismiss the case on the grounds that Laddex lacked standing to bring its claims because the lease was in violation of the Rule Against Perpetuities and therefore void. The trial court denied the motion, and the case went to the jury. In the charge to the jury, the court asked whether the well failed to produce in paying quantities for the 15-month slowdown period, and whether a reasonably prudent operator would not continue to operate the well in the manner in which it was operated during that period. The jury answered yes to both questions, and the trial court subsequently rendered judgment in favor of Laddex, finding that the BP lease had terminated due to failure to produce in paying quantities. BP appealed this decision.

The court of appeals agreed with the trial court that the Laddex lease was not in violation of the Rule Against Perpetuities, as it conveyed a vested interest in the lessor's possibility of reverter. However, it reversed the judgment and remanded the case to the trial court on the grounds that it had erred in limiting the jury charge regarding producing quantities to just the limited period when production had slowed. Both BP and Laddex filed petitions for review of the court of appeals' judgment – Laddex on the grounds that the jury was properly instructed and that the judgment should be affirmed; while BP continued to argue that Laddex did not have standing and that there was no evidence supporting the jury's findings regarding cessation of production.

In its opinion handed down on March 3 of this year, the Court admitted that the Laddex lease was "not a model of clarity." The lease provided for multiple primary term commencement dates (from the date of the agreement in one provision, but from the date the BP lease was either released or terminated in another), and also had language that could be interpreted as a conveyance of the lessor's entire possibility of reverter into Laddex, which would vest Laddex with fee simple title to the minerals upon the expiration of the bottom lease. Nevertheless, the Court decided that the lease, when viewed in its entirety, conveyed "the typical determinable fee associated with an oil-and-gas-lease."

Turning to the grant itself, the Court noted that the lease was to vest in Laddex "any and all remainder and reversionary interest and after-acquired title of Lessor" upon the expiration of the prior lease. The Court interpreted this language as a partial assignment of the lessors' presently vested possibility of reverter in the minerals rather than a springing executory interest contingent upon the expiration of the BP lease. While such an interest does not ripen into a fee simple determinable until the bottom lease expires, that interest is currently vested in a life in being – the lessors. Thus, the Court held that the Laddex lease was a conveyance of a presently vested interest and, therefore, does not violate the Rule Against Perpetuities. As the lessee, Laddex therefore had standing to challenge the BP lease.

Unfortunately for Laddex, it was less successful in attempting to uphold the trial court's judgment regarding cessation of production in paying quantities. The Court cited precedent that "there can be no limit as to the time...to be taken into consideration" in making a determination of whether a well was producing in paying quantities.1 While the trial court had correctly allowed evidence regarding profitability before, during, and after the slowdown, it had erred by instructing the jury to limit its analysis to the 15-month slowdown period. Finding that a reasonable jury could have come to a different conclusion without such a limitation, the Court upheld the court of appeals' decision to remand the case for a new trial and affirmed its judgment.

Texas courts have recognized for decades that a mineral interest owner can sell or assign the possibility of reverter. However, BP America Production Co. v. Laddex, Ltd. is the first case in which the Texas Supreme Court has held that a top lease of such an interest is a valid method of avoiding the Rule Against Perpetuities. Additionally, because the possibility of reverter is a presently vested interest, a properly drafted top lease of such an interest does not necessarily have to be bound by a period of time to be valid. While the most frequent method of avoiding the Rule Against Perpetuities in a top lease is to limit the vesting period to a specific time frame, this decision confirms that a careful practitioner can do so by obtaining a lease out of the lessor's possibility of reverter.

Footnote

1. Clifton v. Koontz, 325 S.W.2d 684 (Tex. 1959).

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