• Sabine Bankruptcy Judge Issues Binding Ruling That Covenants in Rejected Midstream Agreements Do Not Run With the Land
  • June 14, 2016 | Authors: Thomas A. (Tom) Howley; Omar Samji; Jeffrey A. (Jeff) Schlegel
  • Law Firm: Jones Day - Houston Office
  • On May 3, 2016, Judge Chapman issued a binding ruling in the Sabine chapter 11 cases that the covenants in the rejected midstream gathering agreements “do not run with the land either as real covenants or as equitable servitudes.” See Sabine Oil & Gas Corp. v. HPIP Gonzales Holdings, LLC (In re Sabine Oil & Gas Corp.), 2016 BL 140707 (Bankr. S.D.N.Y. May 3, 2016).

    After Judge Chapman authorized Sabine to reject the gathering agreements on March 8, 2016, Sabine commenced adversary proceedings against Nordheim and HPIP, seeking a declaratory judgment that the covenants contained in the agreements do not run with the land.

    The court granted Sabine’s motion for summary judgment in that proceeding for substantially the same reasons articulated in the March 8 opinion. Among other things, the court concluded that, in accordance with Texas law, the covenants in the agreements do not “touch and concern” Sabine’s real property. “By the plain terms of the [agreements],” the court wrote, “the mineral dedications concern only minerals extracted from the ground, which indisputably constitute personal property, not real property, under Texas law.”

    The court also concluded that, even if “horizontal privity of estate” were a requirement under Texas law for a covenant to run with the land, such privity does not exist between Sabine and Nordheim or between Sabine and HPIP. The court explained that horizontal privity is created by “the conveyance of an interest in property that itself is being burdened with the relevant covenant, not the conveyance of an interest in property that is distinct from (even if somewhat related to) the property burdened by the covenant.”

    Finally, the court ruled that the covenants at issue do not limit the use of or burden Sabine’s mineral estate such that they could run with the land as equitable servitudes, because the agreements with Nordheim and HPIP “are fundamentally service contracts relating to personal property of Sabine.”

    The treatment of covenants running with the land and similar rights that parties have historically incorporated into midstream gas and handling agreements varies from state to state. The court’s rulings with respect to dedications in such agreements that do not qualify as real property interests under Texas law could have a significant impact on the oil and gas industry moving forward. The potential that the existence of such dedications will not be deemed to be an impediment to rejection of the underlying agreements in other bankruptcy cases, and that such dedications themselves might not be protected in a bankruptcy, may affect other oil and gas producer bankruptcies in the near term and may deter other midstream companies from building infrastructure in the future in reliance on long-term producer dedications on similar terms.

    On May 13, 2016, Nordheim filed a motion seeking permission to appeal directly to the Second Circuit Court of Appeals Judge Chapman’s rulings in Sabine authorizing rejection of the gathering agreements and finding that the covenants in the agreements do not run with the land under Texas law. On May 17, 2016, Judge Chapman authorized Sabine to enter into an alternative gas gathering agreement with DCP South Central Texas LLC.