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In Cautionary Tale, Montana Court Upholds Producer's Right to Drill

The Montana Supreme Court has upheld a natural gas company's right to drill beneath the Montana ranch of candy billionaire Forrest Mars. The ruling, considered significant for its split-estate implications, also offers a cautionary tale about proper paperwork.

Mars had sought to force Pinnacle Gas Resources Inc. to forfeit the mineral lease it holds on 10,300 acres of Mar's Diamond Cross Ranch near Birney, MT. Last year the Montana District Court for the Sixteenth Judicial Circuit ruled that Pinnacle could drill on the lease, despite claims by the defense that Mars and Diamond Cross employees were not given sufficient notice as required under state law (see NGI, Jan. 14, 2008).

Diamond Cross appealed the ruling, but last Wednesday the high court affirmed Pinnacle's right to drill (Pinnacle Gas Resources Inc. v. Diamond Cross Properties LLC, No. 08-0037). Justice Jim Rice delivered the court's opinion.

Under the lease agreement, a surface and damage agreement between the parties gave Pinnacle, based in Sheridan, WY, the right to enter the Diamond Ranch in order to exercise its right to drill for oil and gas. The primary term of the lease was to expire on Jan. 11, 2008, but the term was to be extended if Pinnacle began drilling operations before that date. In November 2007, Pinnacle's senior landman Larry Sare spoke with Lonnie Wright, part owner of Diamond Cross, about Pinnacle's intention to begin drilling on the property and the landman scheduled a meeting to discuss the drilling location. Sare also mailed a letter on the same day to satisfy the notice requirements for drilling contained in Montana's regulations. However, instead of sending the letter to the address for Diamond Cross listed on county records, as required by the statute, Sare sent it to Wright's address.

In late November 2007 Sare, Wright and others met to discuss drilling access. On Dec. 7, 2007, Sare sent another letter to Wright at Wright's address, which reviewed what the parties had discussed. The letter included a check for $300 for the drilling fee, as required by the regulations. On Dec. 14, 2007, counsel for Diamond Cross sent a letter to Sare that stated that Pinnacle had not satisfied the notice requirements under the statute and that, until Pinnacle did, Diamond Cross would consider Pinnacle a trespasser, not permit entry and "pursue all legal remedies should Pinnacle breach the peace and attempt entry" onto the ranch.

Sare responded three days later by mailing a letter to Diamond Cross counsel at the law office address, which noted the alleged notice shortcomings, and which stated that drilling would begin on Jan. 7, 2008. The two parties also went to court, and the district court granted a preliminary injunction against Diamond Cross reasoning that Pinnacle had a legal right to enter the lands as a lessee, and that it would be "irreparably harmed" if the ranch was not enjoined from interfering with that right "because the primary term of the subject lease is due to expire unless drilling operations are commenced..."

Montana Supreme Court Justice Jim Rice, who delivered the court's opinion, said that it was "undisputed that Pinnacle had satisfied all of the statute's requirements, except for sending the notice to the surface owner's address..." Diamond Cross, the court noted, "does not dispute that it received actual notice, but asserts that until "Pinnacle gives statutory notice, it simply does not have the right of entry." The high court noted that "common law has long recognized that mineral interest holders have a right of entry and reasonable use of the surface property as necessary to exercise their mineral rights." In addition to common law, it noted that the lease agreement "explicitly permits Pinnacle to enter the land to exercise its mineral rights."

Montana Supreme Court Justice James C. Nelson concurred with the "narrow facts of this case," but he wrote that he did "not agree with all that is said..." concerning the implications.

"It is true, as the Court observes...there is a harsh penalty for a leaseholder's failure to timely comply with the drilling requirements of an oil and gas lease -- the lease is forfeited," wrote Nelson. "However, the operator's decision to conduct its drilling operations in the eleventh hour of the lease's primary term should not, under a liberal construction of [Montana regulations] constitute a sort of self-created emergency that requires the surface owner to stand idly by, powerless to prevent the leaseholder from entering upon the surface owner's land, damaging his property, and disrupting his agricultural operations, without first complying with the statutory notice requirements."

The surface owner, Nelson wrote, "should not have to rely on the [Montana] Board of Oil and Gas Conservation or on the local county attorney to -- maybe -- enforce or punish the operator's lack of diligence after the fact and after the damage is done." Surface owners, he said, had "worked too hard" to get the state legislature to enact laws to protect their rights." He said, "there is no question that Pinnacle's complaint was not properly verified...Here, the trial court was generous in allowing Pinnacle to cure its defectively verified complaint..."

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