In Montana, there are many older oil and gas leases held by production, particularly in eastern Montana. These leases often times cover several tracts of land and do not contain a Pugh Clause. Although one or more of the tracts of the lease may be part of a producing unit, other tracts are not. Because there is no Pugh Clause in the lease, there is no explicit contractual right to a release of the nonproducing tracts. Given the recent development of the Bakken, the fact that a mineral owner may have nonproducing tracts of land held by an older lease with unfavorable royalty provisions is an undesirable situation for the owner. Mineral owners are, therefore, turning towards common law and unique mechanisms under Montana law to gain releases of these lands.
According to Montana Code Annotated Section 82-1-201, when an executed and recorded oil or gas lease is forfeited, cancelled, or expires, the lessee is required to have the lease released from record in the county where the leased land is situated within 60 days from the forfeiture. If the lessor sends a written notice requesting a release and the lessee fails to record the release within 30 days of the notice, then the lessee is guilty of a misdemeanor punishable by a fine of up to $250.1 Additionally, if, “by its terms,” an oil or gas lease has expired and is subject to forfeiture for nonperformance andmore than 3 years have elapsed since expiration, the mineral owner may serve written notice on the lessee pursuant to Section 82-1-202(2) demanding a release. The notice must inform the lessee that unless it files an affidavit stating that the lease is in effect within 60 days of the date of service of the notice, the lease must be terminated and is of no effect.2 After this 60-day period has expired, the mineral owner may file an affidavit of service of the notice in the county clerk’s office and from the filing of this notice the lands are released from the lien of the lease.3
Mineral rights owners have been increasingly using these statutes to demand partial releases of oil and gas leases pursuant to the implied covenant to drill and develop in Montana. Many times, the owners will send notice pursuant to Section 82-1-202(2) asserting that a lease has been expired for more than three years as to a tract or tracts of land because the lessee has failed to develop these tracts. The mineral owners cannot demand a release under an express provision of the lease because another tract in the lease is part of a producing unit and there is no Pugh Clause. Thus, the lease is technically held by production. Mineral owners, therefore, have turned to the implied covenant to drill and develop in order to gain releases of nonproducing tracts. If a lessee fails to respond to this notice because it believes the mineral owner had no right to send it, then the mineral owner proceeds to record an affidavit of service pursuant to Section 82-1-202(4) asserting that the lands are released. Whether the affidavit actually does release the lands may hinge on whether the owner had the right to demand a release as to certain tracts of land pursuant to the implied covenant to drill and develop.
Forfeitures of oil and gas leases are favored by the law and will be strictly enforced in Montana.4 In Sundheim v. Reef Oil Corp., mineral owners brought an action based partially upon a breach of an implied covenant to reasonably and prudently develop the leasehold.5 The Montana Supreme Court analyzed this covenant, but refused to consider it beyond the terms of the lease.6 The Court specifically found that pursuant to two express provisions in the lease, the operator had a duty to explore for or produce oil and gas from the leasehold.7 If the producer failed, the terms of the lease allowed the lessors to terminate the lease.8 The operator also had the option to make delay rentals, which it did.9 The acceptance of these delay rentals excused the lessee from fulfilling the duty to develop the leasehold.10 The Court specifically stated that it “will not look beyond these express provisions in order to impose a duty upon [the lessee] which is in contravention of their terms.”11
In Berthelote v. Loy Oil Co., the Court considered the implied covenant to produce and market gas and noted that “if a lease is terminated by the breach of implied covenants, it is forfeited.”12 Although neither Sundheim nor Bertheloteanalyzed whether an oil and gas lease should be partially released based upon the implied covenant to drill and develop the leasehold, both cases appear to lay the groundwork for such a claim. However, when analyzing a Pugh Clause in a lease, the Court has noted that absent a Pugh Clause “the lease would remain in effect as to the entire leased premises.”13 Given this statement by the Court and the Court’s reluctance in Sundheim to look beyond the express provisions of a lease to impose a duty which is in contravention of the lease terms, there is a good argument that a court will not impose an implied duty to develop a lease which is already held by production, even if certain tracts are not part of a producing unit. Unless there is an express provision (Pugh Clause) in the lease requiring the lessee to develop every tract or risk forfeiture, it is unlikely that a Montana court will afford a remedy based upon this implied covenant.
However, it is still important that a lessee not ignore a demand sent pursuant to Section 82-1-202. According to the statute, if a lessee fails to respond to this notice, then the mineral owner can record an affidavit of service pursuant to Section 82-1-202(4) and the lands are released. If a lessee does not timely response and the lessor files an affidavit of service, the lessee may be left trying to figure out how to make it clear in the county records that the lease has not in fact been released. Thus, it is best to consult with an attorney immediately upon receipt of such a notice if the lessee believes that the tracts are not subject to forfeiture.
1Mont. Code Ann. § 82-1-201(3).
2Mont. Code Ann. § 82-1-202(2).
3Mont. Code Ann. § 82-1-202(4).
4Stanolind Oil & Gas Co. v. Guertzgen, 100 F.2d 299, 300–01 (Mont. 1938).
5Sundheim v. Reef Oil Corp., 806 P.2d 503 (1991).
6Id. at 509–10.
7Id. at 509.
9Id. at 509–10.
11Id. at 510.
12Berthelote v. Loy Oil Co., 28 P.2d 187, 190 (Mont. 1933).
13Fed. Land Bank of Spokane v. Texaco Inc., 820 P.2d 1269, 1272 (Mont. 1991).