Chesapeake Energy agrees to pay $30M to settle shale royalty dispute, but there's a snag

Andrew Maykuth, Staff Writer

Updated: Monday, December 25, 2017, 6:38 AM

Chesapeake Energy has reached a settlement to resolve longstanding disputes over royalty payments for shale-gas drilling. The deal hinges upon Pennsylvania Attorney General Josh Shapiro resolving a separate state lawsuit.

Chesapeake Energy Corp. has agreed to pay Pennsylvania landowners $30 million to settle federal lawsuits over its disputed gas-royalty payments. But the deal hinges on state Attorney General Josh Shapiro also resolving a lawsuit against the shale-gas producer.

A Marcellus Shale drilling rig. AP Photo/Alex Brandon,
Kathleen Kane, then Pennsylvania Attorney General, sued Chesapeake Energy in 2015 over alleged deceptive practices. JESSICA GRIFFIN / Staff Photographer
Photo Gallery: Chesapeake Energy agrees to pay $30M to settle shale royalty dispute, but there's a snag

Chesapeake’s lawyers told a federal judge in Scranton last week that they had reached a deal to settle several longstanding class-action suits, according to a transcript of the status meeting. The settlement would provide payments to all 14,000 Chesapeake gas leaseholders, and the landowners would also be allowed to “reset” their leases to clarify the terms under which they are paid royalties, or their share of gas sales.

But the Oklahoma City gas producer said it won’t go forward with the deal unless it also resolves a lawsuit filed in Pennsylvania in 2015 by former state Attorney General Kathleen G. Kane that alleged Chesapeake cheated landowners by making large deductions from their royalty payments.

A Marcellus Shale drilling rig.

“We want global peace,” said Daniel T. Donovan, a Chesapeake lawyer with the firm Kirkland & Ellis in Washington. “We want to move forward for a better relationship, different relationships with the lessors, but we need global peace.”

Representatives of the Pennsylvania Attorney General’s Office told U.S. District Judge Malachy E. Mannion that it and Chesapeake are still far apart in negotiations to settle the state’s suit over unfair trade practices, which also names Anadarko Petroleum Corp.

“At this point in time, our major divide is on money,” said Joseph S. Betsko, a senior deputy attorney general.

Mannion encouraged the state to press forward to resolve its case, which is being heard in Bradford County Court.

“We all know, I will tell you, that these cases are going to resolve, and they aren’t going to go to trial,” said Mannion. “It’s going to be a question of whether or not we spend significant amounts of money and time, or whether we kind of get on the real-life practical train on both sides and find a way to get to the end.”

The litigation against Chesapeake encapsulates long-standing complaints by many landowners about the practice by Marcellus gas producers of deducting post-production costs from royalties. The complaints escalated after gas prices fell and the amount of the deductions were magnified.

The state’s Guaranteed Minimum Royalty Act of 1979 provides that owners of mineral rights receive a minimum one-eighth share, or 12.5 percent, of the sale price of their oil and gas. The Pennsylvania Supreme Court ruled in 2010 that the royalty is based on the price at the gas well, which allowed producers to subtract the “post-production” costs of moving gas to market.

Chesapeake, the state’s largest producer, has been the most aggressive about billing landowners for costs. The lawsuits alleged Chesapeake charged landowners high costs by overpaying affiliated companies for services, reducing some royalty payments below zero, and essentially docking landowners for the gas produced on their properties.

The proposed settlement, which was negotiated over four years before a federal mediator by representatives of 12 law firms, would provide the average Chesapeake leaseholder with about $2,140, adjusted according to the size of the property.

Kathleen Kane, then Pennsylvania Attorney General, sued Chesapeake Energy in 2015 over alleged deceptive practices.

But perhaps of greater value to aggrieved landowners is Chesapeake’s agreement to amend existing leases to more clearly spell out the terms under which landowners would be paid.

“Every Chesapeake lessor will get to pick how their royalties are paid going forward,” said Donovan. “This is the big issue.”

Landowners could opt to be paid royalties based on a local published “in-basin” gas price, with no deductions. Or they could choose to allow Chesapeake to market the gas, at potentially higher prices, but pay a proportionate share of the post-production costs. Such a “net-back” arrangement is similar to the disputed method the company now uses to calculate payments.

“This is a reset for each royalty owner,” Donovan said.

Chesapeake could pull out of the deal if Shapiro’s office does not settle the state lawsuit, essentially creating political pressure on the state by landowners who may be eager to accept the gas company’s offer.

“Probably the biggest challenge from Chesapeake’s point of view is that someone would need to convince the Chesapeake board of directors that they should authorize payment of $30 million to settle the alleged royalty practice claims and still face the risk of continued litigation with the Pennsylvania Office of Attorney General,” said Daniel T. Brier, a Scranton attorney representing Chesapeake.

The state’s attorneys argued that their case is different than the landowners’ lawsuits and involves the state’s role in policing the marketplace and punishing wrongdoing.

The attorney general’s case got a boost on Dec. 15, when Senior Judge Kenneth Brown in Bradford County rejected some crucial preliminary objections filed by the gas producers and allowed the case to proceed under the state’s Unfair Trade Practices and Consumer Protection Law.

But the Bradford County judge also ruled that the Attorney General’s Office could not recoup its legal costs in the state action, nor damages for the landowners. The gas companies could face state fines if they lose.

In addition, the judge certified the state case could be immediately appealed to Commonwealth Court to settle some novel questions of law, which means the Bradford County case could drag on for years before it is resolved.

Andrew Maykuth, Staff Writer

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