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Zehentbauer Family Land, LP v. Chesapeake Exploration, L.L.C.

United States Court of Appeals, Sixth Circuit

August 15, 2019

Zehentbauer Family Land, LP; Hanover Farms, LP; Evelyn Frances Young, Successor Trustee of Robert Milton Young Trust, Plaintiffs-Appellees,
v.
Chesapeake Exploration, L.L.C.; Chesapeake Operating, Inc.; CHK Utica, L.L.C.; Total E&P USA, Inc., Defendants-Appellants.

          Argued: June 19, 2019

          Appeal from the United States District Court for the Northern District of Ohio at Youngstown. No. 4:15-cv-02449-Benita Y. Pearson, District Judge.

         ARGUED:

          Gregory G. Garre, LATHAM & WATKINS LLP, Washington, D.C., for Appellants.

          Dennis E. Murray, Jr., MURRAY & MURRAY, CO., L.P.A., Sandusky, Ohio, for Appellees.

         ON BRIEF:

          Gregory G. Garre, Elana Nightingale Dawson, Samir Deger-Sen, Charles S. Dameron, LATHAM & WATKINS LLP, Washington, D.C., Daniel T. Donovan, KIRKLAND & ELLIS LLP, Washington, D.C., Timothy B. McGranor, VORYS, SATER, SEYMOUR AND PEASE LLP, Columbus, Ohio, for Appellants.

          Dennis E. Murray, Jr., William H. Bartle, MURRAY & MURRAY, CO., L.P.A., Sandusky, Ohio, Scott M. Zurakowski, Terry A. Moore, Gregory W. Watts, KRUGLIAK, WILKINS, GRIFFITHS & DOUGHERTY CO., L.P.A., Canton, Ohio, for Appellees. L. Bradfield Hughes, PORTER WRIGHT MORRIS & ARTHUR LLP, Columbus, Ohio, Andrew J. Pincus, MAYER BROWN LLP, Washington, D.C., for Amici Curiae.

          Before: GILMAN, STRANCH, and NALBANDIAN, Circuit Judges.

          OPINION

          RONALD LEE GILMAN, CIRCUIT JUDGE.

         This appeal concerns oil and gas leases in Ohio's Utica Shale Formation. The defendants are exploration and production companies that have contracted with landowners to drill for oil and gas on the leased properties, and the plaintiffs are a putative class of such landowners. Between 2010 and 2012, the plaintiffs and the defendants entered into hundreds of oil and gas lease agreements that provide for royalty payments to the plaintiffs based on the gross proceeds received by the defendants from the sale of each well's oil and gas production.

         The defendants sell the oil and gas extracted from the leased properties to so-called midstream companies affiliated with the defendants. To calculate the price that an unaffiliated entity would have presumptively paid for the oil and gas, the defendants use the "netback method." According to the plaintiffs, the defendants underpaid the royalties due to the plaintiffs during the years in question because the netback method (1) does not accurately approximate an arm's-length-transaction price, and (2) improperly deducts post-production costs from the price.

         The district court granted class certification. In this interlocutory appeal, the defendants argue that class certification under Rule 23(b)(3) of the Federal Rules of Civil Procedure is improper because issues common to the class members do not predominate over individual issues. For the reasons set forth below, we AFFIRM the judgment of the district court.

         I. BACKGROUND

         A. Factual background

         Chesapeake Exploration, LLC, and a predecessor company, Ohio Buckeye Energy, LLC, entered into hundreds of oil and gas leases with landowners in Ohio, including the three named plaintiffs in the present case. These leases establish that Chesapeake Exploration and its assigns are entitled to produce oil and gas from beneath the surface of the landowners' properties in exchange for royalty payments based on the gross proceeds received from the oil and gas sold.

         The plaintiffs have split the leases into three subclasses. Group A's royalty provisions contain language governing the sale price and royalty percentage, but the gas royalty provisions contain a definitional clause and a comparable-sales requirement that the oil royalty provisions do not. The definitional clause outlines the substances governed by the provision and the comparable-sales requirement governs gas sales to companies affiliated with the defendants. Zehentbauer Family Land, LP, and Hanover Farms, LP-two of the three named plaintiffs-are in the Group A subclass.

         Group B's royalty provisions contain a definitional clause and comparable-sales requirement for both oil and gas sales. Evelyn Frances Young, Successor Trustee of the Robert Milton Young Trust-the third named plaintiff-is in the Group B subclass.

         Finally, all of Group C's oil and gas royalty provisions have a definitional clause, but do not have a comparable-sales requirement. None of the named plaintiffs, however, are in the Group C subclass.

         The lease agreements provide that Zehentbauer and Hanover are entitled to a 17.5% royalty and that Young is entitled to a 20% royalty "based upon the gross proceeds paid to Lessee" from the sale of oil or gas sold from the leased premises. The leases define the term "gross proceeds" as "the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises."

         For gas sales, the leases specify that the royalties are based on the gross proceeds paid to the defendants "computed at the wellhead." Royalties are based on the defendants' sales price when they sell gas "in an arms-length transaction to an unaffiliated bona fide purchaser." The comparable-sales requirement of the leases accounts for the possibility that the defendants might sell gas to their own affiliates. In such cases, the Zehentbauer and Hanover leases provide that

the price upon which royalties are based shall be comparable to that which could be obtained in an arms length transaction (given the quantity and quality of the gas available for sale from the leased premises and for a similar contract term) and without any deductions or expenses except for Lessee to deduct from Lessor's royalty payments ...

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