J. J. Fagan & Co. v. Burns , 247 Mich. 674 ( 1929 )

[EDITORS' NOTE: THIS PAGE CONTAINS HEADNOTES. HEADNOTES ARE NOT AN OFFICIAL PRODUCT OF THE COURT, THEREFORE THEY ARE NOT DISPLAYED.] This case involves construction of an oil and gas lease, and marks the introduction into this court of what, from the experience in other States, bids fair to be a prolific and not entirely happy subject of legal inquiry.

The lease was for one year from December 17, 1927. It granted, demised, leased, and let certain premises to plaintiff for the purpose of mining and operating for oil and gas, laying pipe lines, and building tanks, towers, stations, and structures thereon to produce, save, and take care of the products. Plaintiff began no operations on the premises until December 15, 1928. The question is whether, having commenced operations within the year, plaintiff had the right to complete the well after the end of the year.

The issue rests upon the construction, and reconcilement or dominance, of the term and development clauses of the lease. The instrument was on printed form and was originally filled in as a five-year lease, but on defendant's request it was changed to one year. To indicate the changes we insert the figure "5" where that number appeared in the original draft. With these insertions, the term clause reads:

"It is agreed that this lease shall remain in force for a term of one (5) year from this date, and as long thereafter as oil or gas, or either of them, is produced from said land by the lessee."

The pertinent part of the development clause is:

"4th. There is expressly granted to the said lessee the right at any time before one year after this date to begin operations for drilling a well for oil or gas on said premises, and also the right to extensions of time in which to begin such operations for successive periods of twelve months from and after December, 1928, on condition that the said lessee shall on or before the first day of each such respective twelve months' period, pay to the lessor or deposit to her credit in the Union National Bank of Muskegon, Michigan (which shall continue as the depository regardless of changes in the ownership of said land) the sum of one dollar ($1.00) per acre, provided that if such payment shall not be made within ten days after the first day of each such respective twelve months' period, then and on such default this lease shall wholly determine; and provided further that these successive periods in which the right may be acquired to begin the operation of drilling a well in search for oil or gas shall not exceed in the aggregate one (5) year from this date, and if such operations shall not be begun on or before the expiration of said one (5) year from December 17, 1927, and continue with due diligence to a reasonable determination of the presence of oil or gas in paying quantities, then this lease shall wholly determine."

The form of lease is known as "Producers 88." Producers Oil Company forms are so well known and commonly used that some of them are shown in the textbooks. Summers, Oil and Gas (1927), p. 751; Mills Willingham, Law of Oil and Gas (1926), pp. 601, 604. As demonstrated by these authorities and Thornton's Law of Oil and Gas (1925) (4th Ed.), the lease forms in common use are more the result of evolution than of initial drafting. In the early days many leases were for long terms, on nominal consideration, contained no requirement of development and followed the forms of real estate or mining leases. Probably the first important general change came because the courts read into the leases an implied covenant to develop within a reasonable time. Summers, Oil and Gas (1927), p. 398; Mills Willingham, Law of Oil and Gas (1926), pp. 151, 152. This led to designation in the leases of specific time to develop. As other controversies arose and came before the courts, the lease forms changed from time to time to meet the decisions. The evolution is entertainingly and instructively set out in the above textbooks. It is sufficient for our purpose to appreciate the fact of such evolution, and that the lease at bar is not an isolated or private agreement, drafted by uninformed neighbors to roughly express their understanding, but is a technical contract, reflecting the development and present status of the law of oil and gas, as far as it may be said to have a status in view of the bewildering conflict in reasoning and ruling. The lease should be read not only according to its words, but in connection with the purpose of its clauses.

No other lease just like this one seems to have been construed by the courts. Upon other forms, Perkins v. Sanders,109 Kan. 372 (198 P. 954), and Cooke v. Gulf Refining Co.,127 La. 591 (53 So. 874), sustain defendant's contention that the term clause dominates the time, and that the expiration date therein stated is not extended by a development clause which permits commencement of a well at any time within the fixed term. On the other hand, a majority of the court, in a case closely in point, Lester v. Mid-South Oil Co., 296 Fed. (C.C.A.) 661, has held to the contrary. The latter case involved a Kentucky lease for five years, which provided for rentals for deferring commencement of operations for successive periods during the term. The court held the term and development clauses inconsistent, and that the latter modified the former, so that a well commenced on the last day of the fixed term could be completed after its expiration. In reaching its conclusion, the court pointed out that the development clause was entitled to "additional consideration" because it was later in the instrument than the term clause. This reasoning is in conflict with the decisions of this court, which give preeminence to the first of repugnant clauses. Putnam v. Railroad Co., 174 Mich. 246; Mullreed v. Thumb, 116 Mich. 440; 35 C. J. p. 1179.

By the great weight of authority, the term clause, which is the habendum clause, dominates the period for which the lease shall run, so that, unless it is properly modified by other provisions, all rights of the lessee cease at the expiration of the fixed time stated in the term clause, except in the one contingency that at the expiration of such time the lessee is actually producing oil and gas on the premises. A late start or miscalculation of difficulties or time does not excuse failure to produce. If allowance be made for different conceptions of "production," the rule seems to be sustained by practically unanimous judicial opinion. Summers, Oil and Gas (1927), pp. 292, 294; Mills Willingham, Law of Oil and Gas (1926), p. 118; Thornton's Law of Oil and Gas, § 142; Guffey v. Smith, 237 U.S. 101 (35 Sup. Ct. 526); UnionGas Oil Co. v. Adkins, 278 Fed. (C.C.A.) 854; Brown v.Fowler, 65 Ohio St. 507 (63 N.E. 76). At the expiration of the fixed time, if there is no production to extend it, the lease ends, not by forfeiture but by its own terms. This distinction has sometimes been lost sight of by courts, with the result of unnecessary conflict. The unanimity of opinion upon the effect of the term clause among courts which are hopelessly divided on nearly all other phases of the oil and gas law is a strong inducement to sustain its dominating character, in the interest of certainty and uniformity of construction and security of rights.

The question is whether the development clause operates to modify the term clause so as to extend the fixed time without production of oil or gas. The primary purpose of the development clause was to escape the rule that drilling must begin within a reasonable time. There was no necessity for the specific grant to the lessee of the right to begin operations at any time within a year. It had that right by virtue of the original grant. The object was to abrogate the implied duty of development within a reasonable time by an express optional agreement for a definite time. Mills Willingham, Law of Oil and Gas (1926), p. 153. It is not necessary to construe the clause as extending the fixed term in order to effectuate such purpose.

The whole clause is listed in the lease as a covenant and agreement of the lessee. The controversial part, the provision for commencement within a year and diligent prosecution of operations to the ascertainment of oil or gas in paying quantities, is in the nature of a condition subsequent (Mills Willingham, Law of Oil and Gas [1926], pp. 125, 126; Brown v. Fowler,supra), for breach of which forfeiture may be had, the lease shall "wholly determine." It does not purport in words to modify the term clause. It purports merely to designate conditions under which the estate created by the granting clause and held under the habendum clause shall determine. To give it the effect of extending the fixed term would result in the anomaly of the transformation of a covenant by the lessee or condition subsequent upon breach of which an estate already granted may be determined into a grant of a larger estate. In view of the established rule that oil and gas leases are to be construed for the benefit of the lessor and against the lessee (Summers, Oil and Gas [1927], p. 372.), of the ease with which, by a few apt words, an extension of the term could be provided, and of the criticism by the profession of some of the Producers forms because they do not cover the contingency of expiration of the lease while the well is being drilled (Mills Willingham, Law of Oil and Gas [1926], p. 601), such conversion should not be lightly attempted. There is no impelling reason for it, as the textbooks contain a number of forms which plainly provide for extending the time for completion of wells beyond the fixed term and which are accessible to lessees. In fairness to lessors, extension provisions should be made plain.

It must be confessed that, on casual reading, the language of the last provision of the development clause seems to express an intention that the lessee could begin a well at any time within the year and complete it afterward if it exercised due diligence. However, the actual intention cannot be determined from the language, as much of the clause is inappropriate. The form was not made consistent in filling the blanks. Thus, it provides for extensions of time to begin drilling after December, 1928, and yet it provides that the whole period to begin drilling shall not exceed one year from December 17, 1927; and, although such extensions are impossible, it provides rent of $1.00 per acre for them. Such provisions would have been appropriate in a longer lease. This leads to the speculation that in some leases the last provision may have a useful purpose in entire harmony with the term clause. Thus, in a long-term lease it may be used to require commencement and diligent prosecution at an intermediate period. There may be other proper uses which will be disclosed as what is now an infant industry in this State casts off its swaddling clothes. In any event, the most that can be said in favor of plaintiff's contention is that the lease is ambiguous. Under the rule, the construction must be in favor of the lessor.

Our construction of the lease is that the term clause dominates the time during which the lessee may operate without production; that the fixed time therein stated is not to be extended by mere commencement of a well, nor by indirect, ambiguous, and negative language in the development clause; but it may, and must, if at all, be extended by direct and affirmative provision therefor. Upon our initiation into this subject of litigation we feel impelled to encourage clarity and certainty in the time provisions of oil and gas leases.

The decree will be reversed, and one entered for defendant on her cross-bill declaring that the lease expired December 18, 1928, with costs to defendant.

NORTH, C.J., and WIEST, CLARK, McDONALD, POTTER, and SHARPE, JJ., concurred. The late Justice FELLOWS took no part in this decision.