Background and Business Context

This dispute arose from Ovintiv USA, Inc.'s drilling of seventeen horizontal Neal Wells in Upton County, Texas, that traverse multiple sections including Section 46, Block 40, T5S, T&P, which is governed by a Joint Operating Agreement dated May 1, 1982. McCully-Chapman Exploration, Inc. and Ovintiv are successor parties to the unmodified AAPL form JOA, with McCully holding working interests in Section 46 limited to certain depths, while Ovintiv owns working interests in Sections 2, 34, 39, and 46. The JOA's Contract Area includes Section 46 from surface to the base of the Dean formation but does not encompass the neighboring sections from which the horizontal wells were drilled.

Between 2019 and 2021, Ovintiv proposed the Neal Wells to McCully pursuant to the JOA, with proposal letters explicitly stating the wells would produce from Section 46 and other lands, and warning that non-consent penalties would apply. McCully elected to non-consent to all proposed wells. Ovintiv drilled the wells from surface locations on Sections 34 and 39, with laterals traversing through Section 46, and applied allocation methodology to distribute costs and revenues based on tract participation factors calculated from the productive lateral length in each section.

The Central Dispute

McCully challenged Ovintiv's application of the JOA's non-consent penalty provisions to the Neal Wells, apparently arguing that the JOA should not govern wells drilled from surface locations outside the Contract Area. The court's findings reveal that McCully attempted to limit the JOA's application based on language that does not actually appear in the agreement. The court found that "[t]he phrase 'solely within the Contract Area' does not appear within the JOA, and the JOA does not include any other language limiting the type of well that the Operator can drill."

The Court's Analysis

Judge Counts systematically addressed the scope of the JOA's application to horizontal wells. The court emphasized the JOA's broad purpose language, noting that the Preamble includes the objective to "explore and develop" the parties' interests in the Contract Area "for the production of oil and gas," and that "[t]he Neal Wells develop, traverse, and produce minerals from the Contract Area." Critically, the court found that "[t]he JOA expressly applies to 'any well on the Contract Area,'" and that "[t]he Neal Wells are 'wells,' and at least part of those wells are 'on' the Contract Area." The court noted the JOA "uses the term 'well' repeatedly, without modifiers."

The court validated Ovintiv's allocation methodology, finding that it appropriately calculated both "the 'costs of developing and operating the Contract Area'" and "the Parties' proportionate shares of production from the Contract Area" by using tract participation factors. The court emphasized that McCully "does not dispute this allocation method and has not disputed the reasonableness of the costs allocated to its interests in the Neal Wells." The court also noted the JOA "does not include any language restricting the Operator's use of new technologies or drilling techniques," and expressly grants the Operator authority to "conduct and direct and have full control over all operations on the Contract Area as permitted and required by, and within the limits of, this agreement."

Implications for Practitioners

This decision provides critical guidance for operators and non-operators dealing with legacy JOAs drafted before the horizontal drilling revolution. The court's rejection of implied limitations on well types—particularly the finding that phrases like "solely within the Contract Area" cannot be read into unambiguous JOA language—reinforces that operators may use modern drilling techniques to develop JOA lands even when those techniques were not contemplated at the time of contracting. The decision validates allocation methodologies that apportion costs and revenues based on productive lateral length across multiple tracts, a practice that has become industry standard but occasionally faces challenge from non-consenting parties.

For non-operators considering whether to consent to horizontal well proposals, this case underscores the importance of carefully reviewing proposal letters and understanding that non-consent penalties will apply to wells that traverse JOA lands, regardless of surface location. The court's emphasis on the reasonableness of Ovintiv's costs and allocation methodology—which McCully did not dispute—suggests that challenges to non-consent penalty applications should focus on cost reasonableness or allocation methodology rather than attempting to impose categorical limitations on well types not found in the JOA text. Operators should ensure their proposal letters clearly disclose multi-section well plans and explicitly reference JOA non-consent provisions, as Ovintiv did here by stating the proposals were sent "pursuant to" the JOA and warning that non-consent penalties would apply.