Independent Petroleum Association of America v. Bruce Babbitt
Docket: 95-5210, 95-5245
Court: Court of Appeals for the D.C. Circuit; November 21, 1996; Federal Appellate Court
Appellants, including an oil and gas producer and a trade association, contest a Department of the Interior (DOI) decision to impose royalties and interest on a settlement payment made for a compromise of 'take-or-pay' liabilities related to a natural gas well on allotted Indian lands. The appellants argue that the DOI's actions are arbitrary, capricious, and inconsistent with the law, and claim a statute of limitations bars the government from collecting these royalties and interest. The District Court ruled in favor of the government on both points. However, the Court of Appeals found that the DOI improperly deviated from its established practices in seeking royalties on the settlement payment, leading to a reversal of the District Court's decision. Consequently, the Court held that the gas producer cannot be obligated to pay royalties on the settlement, rendering the statute of limitations issue moot. The background highlights DOI's role in administering oil and gas leases under various laws, emphasizing that royalties are typically based on the production's amount or value, raising questions about the applicability of such royalties to lump-sum 'take-or-pay' settlement payments.
A significant transformation in the natural gas industry has occurred, marked by a shift from pipelines acting as gas merchants to their role as common carriers. This change, initiated by the Federal Energy Regulatory Commission (FERC) in the 1980s, aimed to rectify market inefficiencies. The deregulation of wellhead gas prices through the Natural Gas Wellhead Decontrol Act of 1989 contributed to this evolution. Following deregulation, pipelines faced financial challenges as market prices fell below the long-term fixed prices they were committed to under existing contracts, which often included take-or-pay clauses. These provisions mandated that pipelines pay for a substantial portion of contracted gas, regardless of whether it was taken. As customers began seeking cheaper alternatives, pipelines, unable to enforce long-term sales contracts due to FERC rulings, faced potential insolvency. In response, FERC attempted various relief mechanisms, ultimately leading to settlements between pipelines and suppliers to address take-or-pay liabilities. These settlements allowed pipelines to recoup some costs through customer charges, as sanctioned by FERC's Order No. 528.
Take-or-pay settlements consist of 'buydowns' and 'buyouts.' A buydown involves a pipeline paying a lump sum to a producer for contract amendments that allow continued gas sales at reduced prices. A buyout entails a pipeline paying a lump sum to be released from a gas purchase contract, allowing the producer to sell the gas elsewhere. Settlements can include both partial buydowns and buyouts, with some payments potentially recoupable through future gas purchases.
The Department of the Interior (DOI) lessees, as producers, were involved in these settlements, prompting the Minerals Management Service (MMS) to assess royalty implications on lessees' liabilities. Statutes governing leases require royalty clauses based on a percentage of the gas 'amount or value' produced. The MMS's 'gross proceeds rule' stipulates that royalty value cannot be less than the gross proceeds received by the lessee. 'Gross proceeds' includes total money and other considerations for gas disposition, explicitly incorporating take-or-pay payments.
In January 1988, DOI adopted a broad definition of 'gross proceeds,' including various payments and credits related to gas production. However, in August 1988, a Fifth Circuit ruling determined that royalties are not due on take-or-pay payments at the time they are made, as such payments do not reflect actual gas production. The court emphasized that royalties are only owed on gas that is physically produced and taken from the ground, and not on payments for failure to purchase gas.
MMS amended its gross proceeds rule to align with the Diamond Shamrock decision, removing "take-or-pay payments" from the definition of "gross proceeds." Royalties are now considered due on take-or-pay payments only when make-up gas is taken by a pipeline. This adjustment was reflected in various administrative rulings, including those involving Santa Fe Energy Co. and Wolverine Exploration Co., which established that only recoupable payments would incur royalties, contingent on their credit against future production.
On May 3, 1993, MMS clarified its stance on settlement payments through a letter from James W. Shaw, indicating that portions of settlement payments might become royalty-bearing if production attributable to those payments occurs. The MMS's royalty policy asserts that royalties apply to settlement payments regardless of their recoupability, focusing instead on whether the gas from the settled contracts is sold.
In 1993, the Independent Petroleum Association of America (IPAA) initiated legal action against the May 1993 letter and a June 1993 order related to gas contract settlements. After the case was transferred to the D.C. District Court, IPAA dismissed its challenge to the June 1993 order. Subsequently, the Department of the Interior issued a final ruling on settlement payment royalties in a case against Samedan Oil Corporation, which became a pivotal case for this issue.
Samedan holds a 1979 lease for Indian lands that stipulates a twenty percent royalty on production value, defined as the gross proceeds from sales. In 1981, Samedan entered a ten-year take-or-pay gas sales agreement with Southern Natural Gas Company (Southern), mandating Southern to pay for eighty-five percent of the gas contracted, regardless of actual take. Following a significant drop in gas prices in 1985, Southern ceased taking gas and later refused to pay $51,468 in billed take-or-pay payments. In 1987, Samedan and Southern reached a buyout agreement, terminating the contract in exchange for a nonrefundable $100,000 payment, which settled all obligations. On the same day, Samedan sold the previously allocated gas to Hadson Gas Systems and later to Transok. By 1989, Samedan had sold all gas that would have been delivered to Southern, which did not purchase any. Subsequently, the MMS ordered Samedan to pay $20,000 in royalties, calculated as twenty percent of the $100,000 settlement. The MMS classified $10,294 of the settlement as compensation for accrued liabilities and $89,706 as a buyout for remaining obligations. Samedan's administrative appeal against this order was upheld by Assistant Secretary Ada E. Deer. The assessment of the $89,706 buyout payment acknowledged the likely reduced prices for any future gas sales compared to the original contract.
A substitute purchaser's involvement in a buyout does not alter the lessee's benefits, as the outcome remains the same regardless of who takes delivery of the gas. Payments made by the original purchaser to relieve obligations are considered part of the lessee's income from production. The Assistant Secretary ruled that the regulation referencing "the total consideration" applies to both buyers under the sales contracts involved. Additionally, the Assistant Secretary dismissed arguments against the validity of a May 1993 letter issued without notice-and-comment rulemaking, stating it qualifies as an interpretive rule under the APA. She concluded that a payment of $10,294 for accrued take-or-pay liabilities is subject to royalties, as it facilitates future production at reduced prices. Samedan's claims equating the settlement agreement to a legal judgment and asserting inconsistency with prior agency decisions were also rejected. Subsequently, Samedan sought judicial review, which the District Court granted in favor of the government, consolidating this case with a related challenge from the Independent Petroleum Association of America (IPAA). Summary judgment was issued for the government on all matters.
The District Court addressed three key issues in IPAA: 1) the classification of a May 1993 letter under APA notice-and-comment requirements; 2) the appropriate standard for reviewing the Assistant Secretary's September 16, 1994 decision; and 3) the viability of that decision under review. The court concluded that the letter was not a rule subject to APA requirements, finding it did not constitute an 'agency statement' with binding future effect or the ability to prescribe law or policy. Even if it were considered a rule, it would be exempt from notice-and-comment because it was interpretative rather than substantive.
The court applied the Chevron standard of deference to the Assistant Secretary's decision, first determining whether Congress had addressed the specific issue directly. If not, the agency's interpretation would be upheld if reasonable and consistent with the statute's purpose. The court found the Assistant Secretary's interpretation of 'gross proceeds' reasonable and consistent with Department of the Interior (DOI) regulations and statutes, and it did not contradict the Fifth Circuit's ruling in Diamond Shamrock. The May 3 letter introduced issues related to lump-sum settlements not previously covered, while maintaining consistency regarding royalties on take-or-pay revenues. The court expressed concerns about potential unjust enrichment of producers from settlement arrangements. IPAA and Samedan are appealing the District Court's ruling.
The District Court addressed Samedan's assertion that the government's royalty claim is barred by the statute of limitations under 28 U.S.C. § 2415(a), which mandates that contract-based claims by the United States must be initiated within six years of the claim arising or one year following final agency action. The court determined that while the Samedan lease qualifies as a contract, neither the MMS order nor the government's counterclaim qualifies as a pursuit of "money damages" under the statute. Consequently, the court found that the statute of limitations does not apply to the government's $20,000 royalty collection effort, thus ruling that the counterclaim is not barred. Samedan subsequently appealed this decision.
In analyzing the May 1993 Letter and its compliance with APA notice-and-comment rulemaking, the court clarified that the letter does not meet the definition of an administrative rule as outlined in the APA, which requires agency statements designed to implement or prescribe law or policy. The court emphasized that the letter lacked binding authority and did not constitute an agency statement with future effect. Although appellants argued that the letter represented a significant change in the Department of the Interior's practices regarding royalty computation, the court concluded that it does not qualify as a substantive or interpretative rule subject to APA requirements, as it does not bind the agency in any manner.
Appellants' arguments regarding the Department of the Interior’s (DOI) past practices with take-or-pay settlements are pertinent to evaluating the Assistant Secretary's decision in the Samedan case. The review of administrative actions is conducted under the arbitrary and capricious standard as per the Administrative Procedure Act (APA), with deference given to an agency’s reasonable statutory interpretations unless they conflict with clear congressional intent. The statutes involved specify that royalties are based on the production amount or value. Appellants contend that the Assistant Secretary's decision misinterprets the Fifth Circuit's Diamond Shamrock ruling rather than the statutes or regulations, arguing that DOI should not reinterpret this decision since it has already amended its regulations to comply with it. They assert that judicial interpretation, not agency interpretation, is appropriate for past rulings, suggesting that the Assistant Secretary's decision should not receive the APA's arbitrary and capricious standard of review. Appellants reference the Supreme Court's stance on adhering to established statutory meanings but acknowledge that Diamond Shamrock is not binding precedent in this context. Nonetheless, DOI's previous acceptance of Diamond Shamrock remains significant; the Assistant Secretary's ruling must be reasonable, especially in how it differentiates between contract settlement payments and take-or-pay payments, as similar cases should be treated alike unless a legitimate rationale is provided for any discrepancies.
Chevron review and arbitrary and capricious review share overlapping elements. In this case, the Department of the Interior's (DOI) inconsistency in its treatment of take-or-pay settlement payments versus take-or-pay payments, as derived from its adoption of the Diamond Shamrock ruling, raises questions about the reasonableness of its interpretation. While both analytic frameworks lead to similar conclusions, the arbitrary and capricious standard is more appropriate here. A determination that DOI's actions are arbitrary and capricious also means its interpretation of the gross proceeds rule under Chevron is unreasonable, particularly because it represents an unexplained deviation from Diamond Shamrock's precedent.
The Jicarilla Apache Tribe argues for a higher standard of review based on a fiduciary duty owed to Indian tribes, citing a Tenth Circuit case that requires DOI's actions to meet stricter fiduciary standards. However, the court finds it unnecessary to address this argument, as the decision already fails the arbitrary and capricious standard under the Administrative Procedure Act (APA).
The court analyzes whether DOI acted arbitrarily and capriciously by classifying take-or-pay settlement payments as royalty-bearing, while determining that take-or-pay payments are not royalty-bearing unless allocated to gas physically severed from the ground. The court concludes that DOI has not provided adequate justification for the differing treatment of these payments. This analysis references the Diamond Shamrock case, which emphasized the connection between royalties and actual gas production, asserting that royalties apply only to the value of gas that is actually produced and removed, rather than abstract market value.
DOI contends that royalties should be tied exclusively to the timing of gas production, accruing when gas is produced, regardless of the payment source. However, this interpretation overlooks the Diamond Shamrock case's emphasis on a direct link between royalties and the physical severance of gas. According to Diamond Shamrock, no royalties accrue during settlement or take-or-pay payments because no production occurs at that time. When make-up gas is taken, a portion of the take-or-pay payment is credited as payment for gas produced, warranting royalty collection on those funds.
The Fifth Circuit's interpretation in Diamond Shamrock highlighted this direct connection, which DOI acknowledged in its 1988 royalty regulation revisions, stating that royalties are only due on payments recouped for make-up gas. DOI quoted the court’s findings, reinforcing its understanding that royalties are owed only when gas is produced and taken. DOI also referenced Frey v. Amoco Production Co. to argue that the Fifth Circuit interprets Diamond Shamrock even more narrowly. However, Frey is distinguishable as it involved different lease terms and state law, not a functional comparison with take-or-pay payments.
Under Diamond Shamrock, both settlement payments and recoupable take-or-pay payments lack actual gas production, meaning royalties cannot be justifiably claimed. Unlike recoupable payments, nonrecoupable settlement payments do not contribute to the production of gas, severing the link necessary for royalty claims. While one might argue that DOI could collect royalties on settlement payments based on the premise that Diamond Shamrock did not address them, DOI has consistently interpreted the case as necessitating a connection between royalty payments and severed gas, guiding its regulatory approach accordingly.
An agency fails to satisfy the arbitrary and capricious test when it treats type A cases differently from type B cases if both are functionally indistinguishable and a court has previously ruled on a type A case. For take-or-pay and contract settlement payments, both types are treated the same regarding royalty calculations, as they fulfill similar obligations and can be recoupable or nonrecoupable. The distinction lies only in whether negotiations occurred over contractual obligations, which does not affect the payments' functional nature for royalty purposes. According to the Diamond Shamrock case, the key issue is whether the payments are linked to gas severed from the ground. Recouped payments contribute to severed gas, while nonrecoupable payments do not, resulting in no royalties accruing on nonrecoupable payments.
The court finds that Assistant Secretary Deer's decision regarding Samedan Oil Corp. is arbitrary and capricious, aligning with DOI's acceptance of the Diamond Shamrock ruling. Consequently, the District Court's summary judgment against the appellants is reversed, and DOI is barred from collecting royalties on a $100,000 settlement payment from Southern to Samedan. The court does not address Samedan's statute of limitations claim due to the conclusion on royalty collection.
In dissent, Circuit Judge Rogers argues that the Secretary of the Interior's interpretation of regulations regarding contract buy-out payments aligns with the Diamond Shamrock ruling, indicating that royalties are due only after gas severance occurs. Thus, there is no inconsistency in the Secretary's position. The dissent emphasizes the importance of the standard of review in these cases.
The Secretary is generally afforded significant deference in interpreting relevant statutes and regulations, as established by case law. Although the court recognizes this deference, it shifts the focus from evaluating the permissibility of the Secretary's interpretations to whether they align with the Diamond Shamrock rationale. This shift misinterprets the nature of the Secretary's discretion, particularly since the Secretary is not obligated to follow the Diamond Shamrock decision, especially in jurisdictions outside the Fifth Circuit. An agency may independently assess statutes and regulations despite differing circuit opinions, hoping for future support from higher courts or Congress.
While some courts criticize agencies for not adhering to settled circuit law, nonacquiescence is permissible when the law remains unsettled, as is the case with issues arising from gas leases and royalty interpretations. Consequently, the Secretary was not bound by the Diamond Shamrock ruling or its implications. The court's assertion that the Secretary's interpretation must be reasonable in light of DOI's adoption of Diamond Shamrock is misdirected; instead, it should be evaluated against the regulations amended post-Diamond Shamrock. The Secretary's discretion allows for a response to adverse circuit decisions, and while Diamond Shamrock may serve as persuasive authority regarding the meaning of the amended regulations, compliance with those regulations is the primary obligation, not the earlier court decision. The Secretary's interpretation is entitled to deference as it is shaped by the agency's own regulatory framework, unconstrained by the Fifth Circuit's perspective.
The Secretary must provide a clear rationale for assessing royalties to avoid arbitrary or capricious decisions. The court criticized the Secretary for inconsistent treatment of take-or-pay payments versus similar settlement payments. However, the Secretary's approach is consistent, as royalties are assessed on both payment types when gas production occurs. The analysis focuses on two types of settlement payments outlined in a 1993 "Dear Payor" letter from the Minerals Management Service (MMS): payments related to past pricing disputes, which are subject to royalties upon payment, and contract buydown payments, which are royalty-bearing as future gas is produced. The current case involves a "contract buyout" payment, which releases the purchaser from future gas obligations and is royalty-bearing because it compensates for lower future prices. The buyout payment's attributable value for each gas unit is added to proceeds from a substitute purchaser, making these proceeds royalty-bearing. Additionally, payments for accrued take-or-pay liabilities are also royalty-bearing based on production attributed to the original contract's make-up volume. The regulatory framework allows the Secretary to apply an extraction-plus-attribution principle, as Congress granted broad authority to ensure royalties reflect the full value of production. The Secretary employs a market-based approach to determine gas value, relying on transactions between self-interested parties, while acknowledging that market benefits may not always be uniformly measured.
Regulations mandate royalties on various payments received by lessees related to gas production. Prior to 1988, "value" was defined as the "gross proceeds" from gas sales, but lacked a clear definition of "gross proceeds." The 1988 regulatory overhaul maintained that the value for royalty purposes cannot be less than the gross proceeds and explicitly defined "gross proceeds" as the total monetary and other considerations received by an oil and gas lessee from the sale of unprocessed gas and related products. The Minerals Management Service (MMS) aimed for this definition to be comprehensive, ensuring all forms of consideration from buyers to sellers were included.
The Secretary recognized that relying solely on arm's-length contract prices could overlook the total value to the lessee, particularly when contracts do not encompass all buyer-to-seller considerations. The Secretary emphasized the importance of scrutinizing producer and purchaser dealings to ensure all value was subject to royalties, citing examples like take-or-pay and advance payments. Producers are required to actively enforce their contractual rights, as any uncollected but legally owed amounts are also considered part of gross proceeds. Additionally, following the Fifth Circuit's decision in Diamond Shamrock, the Secretary acknowledged that "value of production" necessitates the actual physical severance of gas from the earth for royalty obligations to arise.
The Court determined that royalty payments are only required for minerals that have been physically extracted, meaning no royalties are owed on take-or-pay payments until the actual production and extraction of gas occurs. The Secretary's interpretation of the case Diamond Shamrock was deemed reasonable, as the Fifth Circuit has previously distinguished this case based on the definition of "production." The Secretary revised regulations to exclude provisions inconsistent with this new definition of production, emphasizing that royalty calculations must be based on actual extraction rather than on payments that could be recouped. The amendments were minimal, only addressing the necessary changes following the Diamond Shamrock decision. The final rule reaffirmed that royalty value cannot be lower than gross proceeds received by the lessee. The regulations allow for the inclusion of revenues that a lessee is entitled to but does not actively pursue and recognize that settlements may be a reasonable means of collecting contractual entitlements. In light of unforeseen circumstances affecting contract viability, Samedan’s decision to settle at a discount was considered a prudent action.
MMS charged a royalty based on the prudent settlement value rather than the full contract value, aligning with the Secretary's interpretation of "production" as defined by Diamond Shamrock. The royalty assessment occurs only after gas extraction, indicating that the Secretary believed royalties on take-or-pay payments were tied to the extraction of gas rather than merely recoupment by the purchaser. The Secretary's principle links the funds for royalty assessment directly to the physical severance of gas. For buyout payments, proceeds are attributed to the gas that could not have been sold without the settlement, referred to as "freed-up gas," while accrued take-or-pay liabilities link proceeds to additional gas sold beyond the original contract obligations, termed "would-have-been make-up gas." This system acknowledges that gas production continues post-crisis resolution, affecting only the timing of royalty payments rather than their total amount. Ultimately, while royalties cannot be charged at the time of take-or-pay payments, they are assessed on the full proceeds once make-up gas is extracted.
An extreme drop in spot market prices, combined with the deregulation of wellhead sales, elimination of minimum pipeline bills, and open-access transportation, put pipelines at risk of bankruptcy due to their take-or-pay obligations. Consequently, producers found it necessary to accept contract buyouts to maintain the viability of pipeline customers. Despite reduced production prices, there is no valid rationale for differentiating take-or-pay settlements from actual payments that would have been made had pipelines fully performed their contracts. Settlements are essentially discounted replacements for these payments. Producers should receive royalties based on the full contract price of the gas, adjusted for a reasonable discount due to the settlement.
The Secretary's approach, which recognizes the value estimates in the settlement agreement between Southern and Samedan, aligns with market principles. The original take-or-pay contract reflected the market's value estimation for future production, and despite a decline in spot market prices, the contract retained higher value for Samedan. The market decline introduced uncertainty regarding Southern's performance ability, prompting Samedan and Southern to negotiate a settlement reflecting decreased future production value.
The district court's arguments against the Secretary's position in In re Century Offshore Mgmt. Corp. are unconvincing. The court incorrectly assumed that two royalty payments would arise from each gas sale, misinterpreted the minimum-take requirement's purpose as solely protecting the lessee, misunderstood the implications of royalty overpayment refunds, and inaccurately claimed that settlement payments do not constitute fair market value. The Secretary's principles for assessing and attributing royalties remain valid and consistent with the realities of production and market dynamics.
The settlement in question is characterized as an arm's-length market measure of the "value of production," raising questions about why only the lessee benefits from this value. The Secretary's extraction-and-attribution principle is deemed authorized by regulations following the Diamond Shamrock case and is applied consistently to all take-or-pay arrangements. Previous administrative actions cited by appellants do not hinder the Secretary's position. Specifically, the Santa Fe Energy Co. case clarified that royalties on recoupable take-or-pay payments were due only upon taking make-up gas, aligning with the Secretary's current stance. The Samedan case's reliance on Hunt Oil Co. is also dismissed, as Hunt addressed the time value of payments without conflicting with the Secretary's actions, which do not assess royalties on the time value of contract settlements. Further, decisions cited from Blackwood, Nichols, and Wolverine were made by officials lacking authority for department-wide policy and do not conflict with the Secretary's actions. Blackwood's ruling on nonrecoupable payments did not involve third-party production, and Wolverine's ruling concerned a settlement without a contract buyout, indicating no royalty-bearing implications.
The court's decision in Wolverine does not contradict the Secretary's royalty assessment on Southern's payments regarding accrued take-or-pay liabilities, as the purchaser in Wolverine did not take gas beyond its minimum obligation. In contrast, Samedan acknowledges that its sales to Hadson surpassed the minimum-take requirement, leading to royalties being assessed on the hypothetical "make-up gas." The court declined to rule on Samedan's argument regarding the timeliness of the Secretary's counterclaim, stating that the order's enforceability was invalid for other reasons. The court disagrees with this ruling and addresses the statute of limitations, determining that Samedan's claims are without merit.
Samedan argues that the Secretary's royalty assessment is partly barred by the six-year limitations period under 28 U.S.C. 2415(a). After settling with Southern in December 1987, Samedan commenced gas production in February 1988, with royalties accruing from March 1988. The Secretary ordered Samedan to pay a 20% royalty on the entire settlement on December 2, 1993, which was nearly six years after the royalties began accruing. Following an administrative appeal affirmed on September 16, 1994, Samedan filed a lawsuit on October 3, 1994, to block the order, and the Secretary counterclaimed on November 1, 1994. Samedan contends the counterclaim is time-barred for volumes produced before the six-year period expired. However, the counterclaim is deemed timely under 28 U.S.C. 2415(a), allowing the government to file within six years of a right's accrual or one year after final administrative decisions. Since the counterclaim was filed less than a year after the administrative order, the Secretary's actions were deemed proper. Samedan's assertion that the Secretary could have bypassed administrative proceedings is dismissed, as Samedan was required to pursue its appeal before seeking judicial relief.
Permitting the government to delay court action until the conclusion of administrative proceedings aligns with the statute of limitations while maintaining the balance between administrative and judicial processes. Requiring the Secretary to file a "protective" suit during administrative review would either be meaningless or disrupt the administrative process. Absent allegations of unreasonable delay by the Secretary, compelling court action before administrative completion does not further the statute's goals. Transitioning disputes to district court would not enhance fact-finding accuracy, provide finality for parties like Samedan, penalize the government for inaction, or equalize government and private adversaries.
Additionally, the version of the gross proceeds rule in effect on December 1, 1987, did not differ substantively from the one adopted in 1988. The District Court determined that a letter in question, even if considered a rule under the Administrative Procedure Act (APA), did not require notice-and-comment rulemaking as it would qualify as an interpretative rule, which is exempt from such requirements. The court found it unnecessary to explore this further given its ruling that the letter was not a rule. The dissent acknowledges agencies' power of nonacquiescence in circuit decisions but notes that this situation is not applicable since the Secretary amended regulations to adopt and interpret relevant decisions rather than refusing to comply.
The Secretary has the discretion to refuse acquiescence but cannot selectively apply the Diamond Shamrock rule based on arbitrary or capricious reasoning. The dissenting opinion's rejection of the connection between Diamond Shamrock and recoupability is questioned, particularly regarding the requirement that no royalty is owed on take-or-pay payments unless gas is produced and taken. The production of make-up gas is deemed impossible without recoupability. References to relevant statutes and regulations underline the Secretary’s authority to set royalty structures on mineral leases, specifically those pertaining to Indian lands, where royalties may not be strictly tied to production. Appellants argue against deference to agency interpretations affecting contracts, citing past opinions, but this is countered by Congress's authorization for the Secretary to regulate mineral leases. Appellants have acknowledged that settlements over past production prices are subject to royalties. The Secretary has established a valuation formula for Indian land leases, which applies to Samedan’s lease. Overall, the legal framework supports the Secretary's regulatory authority and the conditions under which royalties are assessed.
The Secretary's long-established practice includes state severance tax reimbursements in the calculation of "gross proceeds," as confirmed by court rulings such as Mesa Operating Ltd. Partnership v. U.S. Department of Interior. The Secretary's assessment of royalties on reimbursed gas treatment costs was upheld in a separate case. In the context of gas production, 30 C.F.R. 206.152(h) applies, particularly regarding Southern's take-or-pay contract with Samedan, which obligates Southern to take or pay for 85% of deliverability. This framework prevents royalty demands during periods when the original purchaser cannot fulfill its make-up rights.
A contrary approach to royalty assessments would disrupt market incentives, encouraging producers to settle uneconomical take-or-pay contracts at improper discounts, ultimately harming lessors. The lessee must act with the diligence of a prudent operator, ensuring that the lessor receives fair compensation for relinquished rights. The Secretary's stance that buy-out payments are subject to royalties prevents these market distortions. The decision-making process for settling accrued take-or-pay liabilities hinges on the price the original purchaser is willing to pay. The court opinion clarified that the "Dear Payor" letter of May 3, 1993, does not require APA notice-and-comment procedures and does not amend prior rules governing royalty assessments.
The letter in question, if considered a rule, would qualify as an "interpretative rule" and thus is exempt from the notice-and-comment procedures outlined in 5 U.S.C. 553(b)(A). According to Section 2415(a) of the U.S. Code, any action for monetary damages initiated by the United States or its agencies based on any contract must be filed within six years after the cause of action arises, or within one year after final decisions in relevant administrative proceedings, whichever period is longer. The case United States v. Cocoa Berkau, Inc., cited by Samedan, supports that an informal, discretionary administrative relief process is not deemed "required by law," as parties are not obligated to exhaust such processes before filing suit. The district court dismissed the statute of limitations defense for several reasons: the counterclaim did not seek "money damages" but rather performance of a lease; the administrative proceedings did not constitute an "action" under Section 2415; and after those proceedings, the government sought to enforce an administrative order instead of seeking monetary damages. Additionally, the counterclaim was timely under Section 2415(f), which permits the government to assert counterclaims arising from the same transaction as the opposing claim, and it was filed within one year of the final decision in the administrative process, making further discussion of alternative grounds unnecessary.
