Implied Covenant of Development and Further Exploration - Dilemma or Solution.

The typical oil and gas lease does not specifically enumerate the lessee’s obligations regarding development and further exploratory activity after initial production has been achieved on the lease. However, several jurisdictions, including Texas, have found these obligations as implied under a general covenant of development. The majority standard in determining a breach of this covenant is the reasonable prudent operator rule. Most importantly, can the operator reasonably expect profits from further exploration. In Texas, the burden of proving an expectation of profits falls on the lessor. However, as the Texas Supreme Court has not fully addressed the issue, there may be situations where the burden of proving an expectation of profits shifts from the lessor to the lessee. In Clifton v. Koontz, the Texas Supreme Court determined that an expectation of profits is an essential element of the prudent operator rule. It was recognized in Clifton, however, that the court was not faced with a situation in which the lessee held a large number of acres and in which an unreasonably long time elapsed since any development occurred. Oklahoma’s approach to a Clifton-like scenario is particularly apt. In Doss Oil Royalty Co. v. Texas Co., the Oklahoma Supreme Court found that when there has been an unreasonable length of time since the last well was drilled on the lease, a presumption arises that the lessee is holding the lease for speculation only and therefore has breached the implied covenant to further develop. The presumption shifts the burden of proving, or disproving, an expectation of profits from the lessor to the lessee. Adopting Oklahoma’s approach would not be entirely foreign to Texas precedent, since both jurisdictions follow the prudent operator rule and have long-standing public policies against holding leases for speculation purposes