Texas Supreme Court Lets Stand Ruling That Affiliate Wellhead Sales Render Anti-Deduction Lease Language Surplusage
Texas Supreme Court denied review in City of Crowley v. TotalEnergies E&P USA, Inc., leaving intact the Fort Worth Court of Appeals' holding that anti-deduction lease language becomes surplusage when the lessee sells gas to its affiliate at the wellhead, triggering market value at the well valuation under Heritage v. NationsBank. The decision reinforces that affiliate wellhead transactions eliminate post-production costs as a matter of law, rendering royalty owner protections against cost-bearing inapplicable when no deductible costs exist between the valuation point and sale.
Background
The City of Crowley, as royalty owner, challenged TotalEnergies E&P USA, Inc.'s royalty calculation methodology under a lease containing express anti-deduction language. The lease provided that royalties "will never bear, either directly or indirectly, any part of the costs or expenses" of post-production activities—language typically understood to protect royalty owners from netback deductions for transportation, processing, and marketing costs incurred after gas leaves the wellhead.
TotalEnergies structured its operations to sell gas to an affiliated entity at the wellhead. This transaction architecture became the fulcrum of the dispute: because the sale occurred at the wellhead itself, TotalEnergies argued no post-production costs were incurred before the point of valuation, making the lease's cost-bearing prohibition inapplicable.
The Legal Issue
The case presented a narrow but consequential question: whether anti-deduction lease language retains operative effect when the lessee's affiliate transaction structure eliminates post-production costs between the wellhead and the point of sale. Crowley contended the lease language entitled it to royalties calculated on downstream proceeds without any cost deductions, regardless of where TotalEnergies chose to sell the gas. TotalEnergies countered that under Texas's market value at the well framework, the royalty calculation point is fixed at the wellhead, and the anti-deduction clause protects only against costs incurred before that valuation point—costs that did not exist in this transaction structure.
The Fort Worth Court of Appeals sided with TotalEnergies in July 2025, applying the Texas Supreme Court's decision in Heritage Resources, Inc. v. NationsBank, which established that when gas is sold at the wellhead, market value at the well is determined by the actual sale price at that location. Because TotalEnergies' affiliate transaction occurred at the wellhead, no post-production costs were incurred before the valuation point, rendering Crowley's anti-deduction language surplusage—protective language without anything to protect against.
Supreme Court Denial and Implications
The Texas Supreme Court denied Crowley's petition for review, leaving the Fort Worth Court of Appeals' decision intact. The denial allows to stand a transaction structure that neutralizes anti-deduction lease language: by selling to an affiliate at the wellhead, lessees can render royalty owners' contractual protections against cost-bearing inapplicable.
For practitioners, the decision underscores the primacy of transaction structure over lease language in Texas royalty disputes. Even express anti-deduction clauses—traditionally among the strongest protections royalty owners negotiate—become surplusage when the lessee's affiliate transaction occurs at the wellhead, eliminating any post-production costs that would otherwise be subject to the anti-deduction provision.