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June 10, 2013

Sixth Circuit Decision Revives Claims Against Chesapeake Energy

On May 29, 2013, the Sixth Circuit Court of Appeals overturned the federal district court’s decision in Lutz v. Chesapeake,1 allowing a class of landowners to pursue their claims against Chesapeake Appalachia for the underpayment of royalties. The district court had dismissed the entire complaint in 2010 holding that the “plaintiffs’ breach of contract claim was time-barred by Ohio’s four-year statute of limitations.”2

At the heart of the case are alleged breaches of oil and gas leases that were signed in the 1980s. The landowners claim that in 1993 and 2000, the prior lessee (Columbia Natural Resources) took part in schemes to fraudulently reduce the amount of royalties paid to the lessor-landowners, including (i) underreporting the volume of gas produced, (ii) engaging in sales to affiliates at below-market prices, and (iii) using forward sales as the basis for royalty calculation rather than market price as required by the terms of the leases.3

The U.S. District Court for the Northern District of Ohio “rejected plaintiffs' argument that each monthly royalty underpayment constituted a discrete breach triggering a new accrual period. Instead, the court, applying by analogy two takings cases involving the continuing violation doctrine . . . held that the breach was not continuous so as to toll the limitations period.”4 “[T]he district court determined that plaintiffs should have brought their claims no later than April 6, 2009, two years after the enactment date of ORC § 2305.041” and that “plaintiffs’ breach of contract claim was time-barred and therefore subject to dismissal.”5

Revised Code § 2305.041 establishes a four-year statute of limitations for royalty disputes, stating specifically that “an action alleging breach of any express or implied provision of [a lease] concerning the calculation or payment of royalties shall be brought within the time period that is specified in section 1302.986 of the Revised Code.” This provision incorporates by reference the limitations period for sales contracts set forth in ORC 1302.98(A), reducing Ohio’s limitation period for royalty claims from fifteen to four years.7

The Sixth Circuit determined that the “district court misunderstood the nature of the plaintiffs’ argument,” and confused the continuing violation theory with the argument that the oil and gas leases “should be construed as divisible contracts.”8 The court concluded that the oil and gas lease is, at least in part, a divisible contract.9 In effect, a breach occurred each time a royalty payment was made rather than at the time the scheme was initiated.10 This allows landowners to pursue their claims and seek recovery for underpayment during the four-year period.

The court further acknowledged that if lessor-landowners could establish that Chesapeake’s “fraudulent concealment” caused the delay in filing the claim, landowners could seek recovery of all damages dating back to 1993.11

This case will now return to the district court for additional proceedings on the breach of contract claim with a primary focus on the elements of fraudulent concealment: “(1) wrongful concealment of their actions by the defendants; (2) failure of the plaintiff to discover the operative facts that are the basis of his cause of action within the limitations period; and (3) plaintiff's due diligence.” 12

Both ORC 2305.041 and ORC 1302.98 were intended to create uniformity.13 The first would resolve differences between the “current realities of the marketplace and the outdated language in many oil and gas leases[,]”14 and the latter would “eliminat[e]. . . jurisdictional variations and provid[e] needed relief for concerns doing business on a nationwide scale[.]”15 The court, however, in applying the doctrine of equitable tolling, has left the door ajar for claims reaching well beyond the uniform four-year period.


Footnotes

  1. Lutz v. Chesapeake Appalachia, L.L.C., 2013 U.S. App. LEXIS 10733, 2013 Fed. App. 0152P (6th Cir. 2013).
  2. Lutz at *4.

  3. Id. at *4.

  4. Id. at *12 (citing State ex rel. Nickoli v. Erie Metroparks, 124 Ohio St. 3d 449, 2010 Ohio 606, 923 N.E.2d 588 (Ohio 2010), and Ohio Midland, Inc. v. Dep't of Transp., 286 F. App'x 905 (6th Cir. 2008)).

  5. Id. at *11.

  6. R.C. § 2302.98.

  7. Lutz at *9.

  8. Id. at *13-14.

  9. Id. at *25.

  10. Id. at *24.

  11. Id. at *38-441.

  12. Id. at *40.

  13. Id. at *30-31.

  14. Id.

  15. Id. at *31.

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