Wyoming Supreme Court Finds That Commission Acted Arbitrarily and Capriciously in Denying a Drilling Unit

June 15, 2020 In Exaro Energy III, LLC v. Wyo. Oil & Gas Conservation Comm’n, 455 P.3d 1243 (Wyo. 2020), the Supreme Court of Wyoming reviewed and reversed a decision rendered by the Wyoming Oil and Gas Conservation Commission (the “Commission”) regarding the approval of adjacent drilling and spacing units (“DSUs”) in the Jonah Field.  The Commission is given the broad authority to establish DSUs, and must follow appropriate agency standards when deciding whether or not to allow an operator to establish a DSU.  In this decision, the Supreme Court of Wyoming decided that the Commission’s denial of an application for a DSU, after the operator provided all the statutorily required information and data regarding the DSU, was arbitrary and capricious and therefore reversed the decision.

Exaro Energy III, LLC (“Exaro”) owned a working interest in the Jonah Field and filed applications with the Commission seeking to establish two adjacent “stand-up” DSUs.  The characterizing feature of a stand-up DSU—and of contention in this case—is that its north-south boundaries are longer than its east-west boundaries.  The first application, filed as Docket No. 1902-2018 (“1902”), described a unit covering Sections 26 and 35, Township 29 North, Range 108 West, 6th P.M., Sublette County, Wyoming.  The second application, filed as Docket No. 1903-2018 (“1903”), described a unit covering Section 25 and the North-half, North-half, South West-quarter of Section 36, Township 29 North, Range 108 West, 6th P.M., Sublette County, Wyoming.  Jonah Energy, LLC (“Jonah”) is also a working interest owner in the Jonah Field, and opposed Exaro’s applications.  Jonah’s stance was that because Exaro’s proposed stand-up DPUs would be the first of their kind in the Jonah Field, there was a possibility they would not be successful and have a negative impact on any future units.  Should any units be developed after the possible failure of the 1902 and 1903 units, they would have to be “extremely short east-west laterals, which would cause waste of hydrocarbons, harm correlative rights, and increase costs and surface disturbances.”

At the Commission’s case hearing for Exaro’s applications, Exaro and Jonah agreed the only issue before the Commission was whether the lands underlying the 1902 and 1903 units would be developed with north-south or east-west oriented horizontal wells.  Exaro presented comprehensive testimony in favor of the north-south orientation, including geological and engineering experts’ explanation that “due to the presence of major faults running north-south within the proposed units, the only appropriate way to access the gas stranded under the subject lands and avoid crossing the faults is to run the wells parallel to those faults, i.e., in a north-south direction.”  Jonah did not argue with these facts in regard to the 1902 unit, but did object to a north-south well for the 1903 unit.  If both the 1902 and 1903 units failed to produce, the presence of a north-south well in 1903 would prevent the drilling of longer east-west lateral wells, which Jonah’s engineering expert explained lead to a waste of hydrocarbons.  After considering all of the evidence presented, the Commission found that Exaro had met its burden of proof, satisfied the applicable legal standard, and provided actual, empirical data that each DSU would prevent waste and protect correlative rights.  However, the Commission only approved 1902, and denied 1903 under the reasoning that “additional data from horizontal development in the Jonah Field should be analyzed prior to approving” the 1903 unit.  Exaro filed a petition for review of administrative action with the district court, challenging the Commission’s denial of the 1903 unit, and also requested that the district court certify the matter to the Supreme Court of Wyoming (the “Court”).  The Court accepted the certified case.

The Court applied the substantial evidence standard of review for agency decisions, which provides that “[i]f the agency’s decision is supported by substantial evidence, [the Court] cannot properly substitute [its] judgment for that of the agency and must uphold the findings on appeal.”  Nevertheless, the Court also applied the arbitrary and capricious standard as a “safety net to catch other agency action that may have violated the Wyoming Administrative Procedures Act.”  Here, the Commission found and concluded Exaro met its burden of proof, satisfied the applicable legal standard and provided actual, empirical data that the 1903 unit would prevent waste and protect correlative rights.  Exaro’s expert geologist provided overwhelming testimony as to the feasibility of north-south oriented horizontal wells in the Jonah Field.  Exaro’s engineering expert testified there was sufficient oil and gas in place within the two proposed DPUs to prevent waste and protect correlative rights, and that without horizontal well development, there would be a large amount of stranded hydrocarbons.  Despite this evidence and data, Jonah claimed the Commission denied the 1903 unit because there was insufficient geological and engineering data to support such development and because it wanted to avoid any repercussions on future east-west wells should the north-south wells prove infeasible.  However, the Commission stated that it denied the 1903 unit because it wanted additional data from horizontal development before it approved 1903.  The Court found the Commission’s reasoning unconvincing because Exaro’s evidence applied equally to both 1902 and 1903.

The Court explained that agency action is considered arbitrary and capricious if the agency offers insufficient reasons for treating similar situations differently.  Here, the Commission rendered its decision as to both applications based on the same evidence and on the same day.  At the hearing, Exaro met the statutory requirements and burden of proof as to the feasibility of both wells.  The Commission’s need for more data before it could approve 1903 was inconsistent with all the evidence that allowed it to approve 1902.  Thus, the Court found that the Commission’s treatment of “evidently identical cases” without sufficient reason was arbitrary and capricious.  The Commission’s denial of the 1903 unit was therefore reversed and Exaro received approval for both of its DSUs.

When presented with comprehensive evidence and testimony as to the feasibility of proposed DPUs, the Commission is granted broad authority to establish such units and must do so if the unit is necessary to protect correlative rights or prevent waste.  Under the administrative laws of Wyoming, an agency must be consistent in its rulings, and provide compelling reasons when departing from precedent to avoid a finding that it acted arbitrarily and capriciously.

Standards of review such as “arbitrary and capricious” and “abuse of discretion” give a great deal of deference to administrative decisions.  However, as this case shows, administrative agencies are not infallible and their decisions may be overturned. In this case Exaro had met its burden of proof with regard to one of the standup DSUs, and had thus met its burden with regard to the other. The Commission could not approve one DSU, and then deny the second in order to “gather information” from the first.  This was indeed an arbitrary and capricious basis for denial.

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