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The recent spike in natural gas prices may have helped numerous drilling companies avoid disaster. Often, natural gas companies involved in drilling in the Marcellus Shale in West Virginia lease mineral rights from landowners and sign contracts to provide natural gas to third parties. When natural gas prices are low, drilling companies may have difficulty seeing profit due to price suppression. Yet those companies may feel compelled to continue drilling and supplying natural gas based on their obligations under the contract.
Prophylactic Avoidance of Low Price Drilling
As mentioned, suppressed natural gas prices can damage the profitability of gas companies. Based on the economic law of supply and demand, natural gas prices will likely remain low for the foreseeable future. In January of 2016, the Washington Times reported that a single natural gas well in Ohio County, West Virginia produced enough natural gas to power over 24,000 homes in 2014. With the substantial amount of natural gas drilling along the Marcellus Shale, natural gas prices are likely to stay low.
A gas company seeking to avoid the risk of drilling for natural gas when it is not profitable may want to negotiate a price clause in the contract. That is, the company should stipulate that it will only drill if the market price stays above a set price. This would assure the gas company that it does not have to deliver natural gas when prices are too low, per a stipulation in the agreement.
Similarly, a gas company may want to condition delivery of natural gas upon a pipeline. Currently, in most instances in West Virginia, there is no widespread pipeline system that carries natural gas from the well to a refinery. Instead, after extraction from the ground, the people working the field load the natural gas into a tanker truck, which transports the natural gas to a refinery. If, instead of a tanker, a pipeline existed, the gas company extracting the natural gas would be able to cut out the tanker truck. By conditioning delivery on a pipeline when drilling is not profitable, a gas company would be able to prophylactically avoid this issue.
U.S. contract law provides for certain “defenses” when a party does not or cannot fulfill its obligation under a contract. Note that negotiating a bad deal does not remove one’s obligation under a contract.
One such defense to a contract is indefinite. This means that a court might find a contract to be unenforceable if that contract has an indefinite time frame. The argument is that a party can claim that the contract was not finalized as evidenced by at its lack of definitiveness. If a gas company has an indefinite term to provide a third party with, then this may be a good argument. The gas company would probably need to point to other contracts in the industry and the area. If those contracts do have a definitive nature then the indefinite defense may be compelling.
If you are in the natural gas business in West Virginia and have questions regarding certain contract requirements, contact the law firm of Hendrickson & Long, oil and gas defense specialists.