The Houston Court of Appeals Explores The Limits of the JOA Exculpatory Clause
By Christopher M. Hogan, Trial Attorney & Founding Partner, Hogan Thompson LLP
06/07/2022 – When operating oil and gas wells under an A.A.P.L. model-form joint operating agreement (“JOA”), the strongest provision an operator in Texas can rely on in a dispute with its non-operators is the JOA’s “exculpatory clause.” In a contract, an exculpatory clause is “[a] clause in a contract designed to relieve one party of liability to the other for specified injury or loss incurred in the performance of the contract.” Howard Williams & Charles Meyers, Manual of Oil and Gas Terms. The model-form JOA’s exculpatory clause generally limits the operator’s liability unless there is a finding of gross negligence or willful misconduct.
Until 2012, the scope of this protection was unclear under Texas law. Applying Texas law, the Fifth Circuit Court of Appeals in Stine v. Marathon Oil Co., 976 F.2d 254 (5th Cir. 1992) held that “the exculpatory clause extends not only to ‘acts unique to the operator,’ . . . but also to any acts done under the authority of the JOA ‘as Operator.’” Id. Texas appellate courts, however, had limited the protection of the exculpatory clause to the operator’s drilling operations under the JOA rather than a wider set of activities. See, e.g., Cone v. Fagadau Energy Corp., 68 S.W.3d 147, 155 (Tex. App.—Eastland 2001, pet. denied); Abraxas Petroleum Corp. v. Hornburg, 20 S.W.3d 741, 759 (Tex. App.—El Paso 2000, no pet.)
In 2012, the Texas Supreme Court finally weighed in on the issue in Reeder v. Wood County Energy, LLC, 395 S.W.3d 789 (Tex. 2012). The Court looked at the language in the A.A.P.L.’s 1977 and 1982 model-form JOAs and compared it to the 1989 version, which was before the Court. The Court noted that the 1977 and 1982 model-form JOAs both had exculpatory clauses applying to the requirement that the operator “conduct all operations in a good and workmanlike manner.” In contrast, the 1989 model-form JOA referred to the operator’s “activities under this agreement,” rather than operations. The Court held that this change in wording was “significant” as it “broadens the clause’s protection of operators.” Id. at 795. Under this new, broader standard, the JOA “exempts the operator from liability for its activities unless its liability-causing conduct is due to gross negligence or willful misconduct,” rather than just covering the operator’s drilling operations.
Since Reeder, Texas oil and gas operators and non-operators have had little guidance on just how far the exculpatory clause will extend to protect the operator. Three recent decisions—all out of the 14th District Court of Appeals in Houston—have provided more insights into this area.
The exculpatory clause may not bar an operator’s intentional breach of the JOA.
In Bachtell Enterprises, LLC v. Ankor E&P Holdings Corp., No. 14-20-00544-CV, 2022 WL 1670772 (Tex. App.—Houston [14th Dist.] May 26, 2022, no pet. h.), Ankor served as an operator under a JOA covering several projects. The JOA had a provision requiring Ankor to secure consent from non-operators before undertaking any project that cost more than $50,000. The JOA also had the broad exculpatory provision that the Texas Supreme Court had considered in Reeder.
Ankor undertook a project well above $50,000 and billed the non-operators for their share. When the non-operators refused to pay, the parties sued each other. The jury found that while Ankor had breached the JOA first, it determined that this breach did not result from willful misconduct. Based on the exculpatory clause, the trial court granted Ankor’s motion for entry of judgment.
The appellate court reversed. It said that the key question for the court was whether a finding of willfulness was needed to find operator liability under the JOA considering Reeder:
The question squarely before us, as an apparent matter of first impression, is whether “activities” is so broad as to protect an operator from any breach of contract so that the operator can have no liability for breach of any contractual provision, absent willfulness. We decline to extend the reach of Reeder that far.
Id. at *5. The court determined that an exculpatory clause “is a defense designed to protect one party against risks and losses, but it is not meant for offensive use to impose liabilities knowingly incurred without consent,” and that the purpose of such a clause “is to protect the operator from liability to nonoperators for injury caused by the operator’s ordinary negligence.” Id. (cleaned up). Because the court believed that the exculpatory clause could not excuse an operator from intentional breaches of the JOA, it reversed the trial court.
The exculpatory clause will not prevent liability for cost overruns.
The case of Apache Corp. v. Castex Offshore, Inc., 626 S.W.3d 371 (Tex. App.—Houston [14th Dist.] 2021, pet. filed) involved several JOAs governing a natural gas processing facility. Apache served as the operator under the JOAs and had submitted authorizations for expenditures (“AFEs”) to non-operator Castex to upgrade and expand the facility at issue. Apache overspent the original AFE, issued a supplemental AFE, and then overspent that as well. Castex refused to pay its full share of the costs, and Apache sued. The jury found that Apache had breached the JOA and that its breach resulted from willful misconduct.
On appeal, the court examined Apache’s complaint that the trial court had not provided a definition for willful misconduct that included a “subjective, intentional intent to cause harm.” Id. at 380. The court of appeals disagreed that such a definition was correct. Instead, it found that “a plaintiff can show that a defendant is liable for willful misconduct if the evidence establishes that the defendant intentionally or deliberately engaged in improper behavior or mismanagement, without regard for the consequences of his acts or omissions.” Id. at 381.
The court turned to Apache’s complaint that there was no evidence of willful misconduct on its part. Apache’s argument focused on the idea that “no sane company would purposefully increase its own costs.” Id. at 383. But the court found that this argument misunderstood the willful misconduct standard. The question was not whether Apache intended to increase costs, but whether it “deliberately engaged in misconduct without regard for the consequences.” Id. at 384. The evidence showed that Apache’s project manager “was aware of the cost overruns for months and did nothing about them.” Id. at 381. This evidence was enough to meet the “willful misconduct” standard required under the JOA’s exculpatory clause.
A non-operator cannot use an affirmative defense to circumvent the exculpatory clause.
In Crimson Exploration Operating, Inc. v. BPX Operating Co., No. 14-20-00070-CV, 2021 WL 786541 (Tex. App.—Houston [14th Dist.] Mar. 2, 2021, pet. denied), BPX and Crimson signed a JOA covering a property in Bee County, Texas. BPX served as operator under the JOA, and Crimson was a non-operator. Under the JOA, BPX drilled a well (called the McCarn well) that experienced either a “gas kick” or a “blowout” that prevented future drilling and required the well to be plugged and abandoned. When BPX billed Crimson—a non-operator—for its share of expenses, Crimson refused to pay a BPX had to sue to recover the monies owed.
In the lawsuit, Crimson argued that BPX had committed a prior material breach by not acting as a reasonably prudent operator when drilling the McCarn well. Because of this prior material breach, Crimson claimed that it was excused from having to perform under the JOA by paying its share of the McCarn well’s expenses. The trial court refused to submit the “reasonably prudent operator” standard of care to the jury and Crimson challenged this failure on appeal.
The appellate court disagreed with Crimson. It recognized that “the exculpatory clause is usually applied when a party to the Agreement asserts a claim or counterclaim against the operator.” Id. at *5. But that did not mean that it could not apply to an affirmative defense like the one that Crimson asserted. As a practical matter, “BPX would be held liable for Crimson’s share of the expenses if Crimson successfully asserted its affirmative defense.” Id. “In that regard, the exculpatory clause prohibits BPX’s liability under the Agreement unless its actions constituted gross negligence or willful misconduct.” Id. “Crimson cannot escape the exculpatory clause by filing an affirmative defense to BPX's action rather than a counterclaim asserting BPX's prior material breach.” Id.
Christopher M. Hogan Trial Attorney & Founding Partner chogan@hoganthompson.com | 713.671.5642
Chris Hogan focuses his litigation practice on resolving complicated disputes for corporate and individual clients, particularly those in the energy industry. Chris has substantial first-chair experience in federal court, state court, and arbitration proceedings. is honored to represent as lead counsel major energy companies such as Apache, BPX, Chevron, ConocoPhillips, Devon, EOG, Marathon Oil, Mewbourne, and Ovintiv.