STATE OF ALASKA, DEPARTMENT OF NATURAL RESOURCES, Appellant and Cross-Appellee,
v.
ALASKAN CRUDE CORPORATION and JAMES W. WHITE, Appellees and Cross-Appellants.
Appeal
from the Superior Court No. 3 AN- 10-04671 CI, of the State
of Alaska, Third Judicial District, Anchorage, Charles W.
Ray, Jr., Judge.
John
C. Hutchins, Assistant Attorney General, and Jahna Lindemuth,
Attorney General, Juneau, for Appellant and Cross-Appellee.
James
W. White, pro se, Houston, Texas, Appellee and
Cross-Appellant.
James
B. Gottstein, Law Offices of James B. Gottstein, Anchorage,
for Appellee and Cross-Appellant James W. White (limited
appearance for oral argument).
No
appearance by Appellee and Cross-Appellant Alaskan Crude
Corporation.
Before: Stowers, Chief Justice, Winfree, Maassen, Bolger, and
Carney, Justices.
OPINION
MAASSEN, JUSTICE.
I.
INTRODUCTION
An oil
and gas lessee conducted drilling activity on the last day of
the lease term; the lease provided that such activity would
extend the term. Two days later, however, the Department of
Natural Resources (DNR) sent the lessee a notice that his
lease had expired. The lessee suspended drilling activities
and asked DNR to reconsider its decision and reinstate the
lease.
DNR
reinstated the lease several weeks later. The lessee,
however, contended that the reinstatement letter added new
and unacceptable conditions to the lease, and he pursued
administrative appeals. Six months later DNR terminated the
lease on grounds that the lessee had failed to diligently
pursue drilling following the lease's reinstatement.
The
superior court reversed DNR's termination decision,
ruling that DNR had materially breached the lease by
reinstating it with new conditions. Both DNR and the lessee
appealed to this court. DNR asks us to affirm the termination
of the lease, and the lessee asks us to remand to the agency
for a determination of his damages.
We
conclude that although DNR breached the lease in its notice
of expiration, it cured the breach through reinstatement. And
DNR's subsequent decision to terminate the lease is
supported by substantial evidence that the lessee failed to
diligently pursue drilling activities following
reinstatement. Finally, we conclude that neither DNR nor the
superior court erred in failing to address the lessee's
damages claim. We reverse the superior court's decision
reinstating the lease and affirm DNR's termination
decision.
II.
FACTS AND PROCEEDINGS
A.
Facts
On
January 1, 2002, DNR and an individual lessee entered into a
competitive oil and gas lease identified as ADL 389922,
covering a 4, 800-acre parcel near Cook Inlet. The lessee
later assigned the lease to James W. White.[1] The lease had
a primary term of seven years, but it also identified
circumstances in which the term could be extended.
On the
leased land was a plugged and abandoned well. It was
White's intent to reenter and test this well, but reentry
was prohibited by spacing regulations of the Alaska Oil and
Gas Conservation Commission (AOGCC) because of the well's
proximity to a property line. The AOGCC granted White an
exception from the regulations, and in March 2005 it granted
White a permit to reenter and test the well.
White
began drilling in June 2007, but he soon suspended operations
following the announcement that a fertilizer plant, his only
prospective buyer, was about to close. On December 31, 2008,
the last day of the seven-year lease term, a DNR inspector
observed signs of activity at the drill site: the presence of
a drill rig, the assembly of a blowout preventer, and
completion of the initial reentry of the well plug.
B.
Agency Actions And Proceedings
On
January 2, 2009, DNR mailed White a notice of expiration,
informing him "that in accordance with the lease
agreement, ADL 3 89922 expired on December 31, 2008,"
and "[t]he case file has been closed in this
office." White suspended operations and moved his
equipment from the drill site. But on January 15 he wrote the
Director of the Division of Oil and Gas, asking him to
clarify whether the expiration notice had been sent in error.
White called the Director's attention to paragraph
4(c)(1) of the lease, which allowed extension of the lease if
drilling had "commenced as of the date on which the
lease otherwise would expire";[2] White asserted that he
was drilling on the last day of the lease term, as witnessed
by the DNR representative at the site. He claimed that the
expiration notice was "a direct breach of [the] lease
contract" and damaged his interests as lessee. He asked
DNR to "please correct [the notice] and advise me by
email before 2:00PM Friday, January 16th that the lease is
still in effect." DNR did not immediately respond to
White's letter.
On
January 20 White appealed the expiration notice to the DNR
Commissioner, seeking "reinstatement of the lease
term" or an acknowledgment that the lease had not
expired. White sent another letter to the Commissioner on
January 26. Urging the Commissioner to make a decision, he
asserted that DNR had "received ample documentation of
prior well boring activities, along with video, eye witness
testimony and photos of... setting the blowout preventer on
December 31, 2008."
On
January 27 the Commissioner retracted the expiration notice
and reinstated the lease. The Commissioner found that
White's documented activity on the last day of the lease
term was "drilling" as defined in paragraph 34(4)
of the lease and extended the lease under paragraph 4(c)(1).
But the Commissioner advised White that the well had to be
completed "within 90 days of this decision" or the
lease would be automatically terminated. The Commissioner
added: "After 90 days from the date of this letter,
April 27, 2009, we will review your progress to determine
whether continued lease extension is warranted." The
Commissioner summarized:
[T]he continued extension of the lease is contingent upon (1)
continued drilling of the well; (2) completion of the well by
April 27, 2009; (3) valid permits for all operations; and (4)
sustained production within 90 days following the cessation
of drilling. The failure to comply with any of these
conditions will result in the automatic termination of this
lease.
On
February 11 White sought reconsideration of the reinstatement
letter. He asserted that the letter's conditions on
reinstatement were in fact attempts to unilaterally modify
the original lease, and he asked the Commissioner to
"remove any and all extra conditions included in [his]
decision." Taking particular issue with the requirement
that he complete the well by April 27, White warned that he
could not drill once winter was over and would not "risk
further capital and resources if the lease will expire if [he
does] not finish the drilling operations before the arbitrary
deadline."
On
February 18 the Commissioner granted reconsideration and gave
White the opportunity "to submit additional written
material or request a hearing." The Commissioner advised
White that during reconsideration the reinstated lease
"remain[ed] in effect for [White] to pursue continued
drilling operations." White declined a hearing but
submitted another letter explaining his position in detail.
On June 10 the Commissioner reaffirmed the January 27
reinstatement letter, explaining that the language White
deemed a modification was simply a departmental
interpretation of lease paragraph 4(c)(1) and governing law -
AS38.05.18O(m) and 11 Alaska Administrative Code (AAC)
83.125. The Commissioner wrote that the April 27 deadline was
his interpretation of the lease requirement that drilling be
completed with reasonable diligence and that it had been
calculated by trebling the 30-day estimate White gave in his
own original plan of operations. Responding to White's
argument that DNR "could not require that he bring the
completed well into production within 90 days after drilling
ends," the Commissioner stated that "the 90 day
requirement is clearly set forth in AS 38.05.l8O(m) and [the]
lease."[3]
Six
weeks later, by letter from the Director of the Division of
Oil and Gas dated July 23, 2009, DNR terminated White's
lease for "two independent reasons": first, because
"according to the AOGCC, Mr. White [did] not have a
valid drill permit"; and second, because "White did
not continue to diligently drill after the lease was
re-instated on January 27, 2009." The Director explained
that DNR had attempted to confirm White's drilling
activities and permit status following the reinstatement. DNR
had sent White letters, and White had responded but without
answering DNR's specific questions. DNR eventually
learned that the AOGCC had terminated White's drilling
permit, an action White was appealing.
White
appealed the termination of his lease to the Commissioner,
asking that it again be reinstated. After some procedural
delay not relevant here, White was granted an administrative
hearing presided over by the Deputy Commissioner. White asked
for "reinstatement of ADL 389922 lease terms, or
alternatively an acknowledgment from DNR that the lease term
did not expire as stated in a letter dated January 2nd, 2009,
and also an order dated July 23rd, 2009." The Deputy
Commissioner's decision affirmed termination of the
lease.
White
appealed to the superior court. The court ordered a remand
for a new administrative hearing on the ground that DNR
violated White's due process rights when one of its
attorneys, having initially advised DNR on White's
administrative appeal, then advised the Deputy Commissioner
in her role as hearing officer. To provide guidance on remand
the superior court also addressed the terms of the January
2009 reinstatement letter and the AOGCC permit. The superior
court directed DNR that it could not terminate White's
lease based on the permit's validity before the AOGCC had
finally decided that issue. As for the reinstatement letter,
the court interpreted its four conditions as not imposing
"new conditions or unilateral amendments .... Instead,
DNR appears to be reminding White of his obligations under
the lease." The court directed the agency on remand to
review White's efforts after reinstatement "to
determine if he continued drilling with reasonable
diligence" based on the totality of the circumstances,
stressing that failure to meet the April 27 deadline alone
was insufficient to show a lack of reasonable diligence.
On
remand, following a second administrative hearing before a
different hearing officer, the Commissioner again upheld
DNR's termination of the lease. The Commissioner
explained that White "did not demonstrate that [he]
continued to drill with reasonable diligence or... failed to
drill for reasons demonstrating reasonable diligence within
the totality of the circumstances."
White
again appealed to the superior court, where the case was
heard by a different superior court judge.[4] After
briefing and argument, the court ruled that DNR's January
2009 notice of expiration was a material breach: "An
unjustified, outright cancellation of a contract cannot be
other than a 'material breach.'" The court
further determined, contrary to the court's analysis in
the first appeal, that the breach was not cured by DNR's
reinstatement of the lease 25 days later; the court reasoned
that the reinstatement letter's requirement for
"sustained production within 90 days following cessation
of drilling" fundamentally conflicted with paragraph
4(d) of the lease, which allows a lessee at least six months
after notice to bring "a well capable of producing oil
or gas in paying quantities" into
production.[5] The court interpreted the lease as
requiring "reasonableness and diligence, not
deadlines," especially deadlines resulting in automatic
termination if not met. The court held that DNR's
material breach relieved White of his own lease obligations,
and it therefore ordered that the lease be reinstated for a
reasonable time for White "to resume, and then
diligently continue, drilling in accordance with the
Lease." The court declined to address White's damage
claims, noting that "[w]hether other remedies are in
order was not addressed by the parties."
Both
parties appealed to this court.[6]
III.
STANDARDS OF REVIEW
We
"independently review the merits of an administrative
determination."[7]
We have "recognized four principal standards of review
for administrative decisions: (1) the substantial evidence
standard applies to questions of fact; (2) the reasonable
basis standard applies to questions of law involving agency
expertise; (3) the substitution of judgment standard applies
to questions of law where no expertise is involved; and (4)
the reasonable and not arbitrary standard applies to review
of administrative regulations."[8]
"Questions
of contract interpretation generally raise questions of law
that we review de novo."[9] "Under this
standard, we exercise our independent judgment, substituting
it 'for that of the agency even if the agency's
[interpretation] ha[s] a reasonable basis in law.'
"[10] We will "adopt the rule of law
that is most persuasive in light of precedent, reason and
policy."[11]
However,
notwithstanding the usual substitution of judgment standard
for questions of contract interpretation, we have applied the
reasonable basis standard of review to agency interpretations
of specialized contract terms derived from statutes or
regulations.[12]
IV.
DISCUSSION
DNR
appeals the superior court's decision that it must
reinstate White's lease, arguing that neither the January
2009 notice of expiration nor the subsequent reinstatement
letter was a material breach of the lease. White's appeal
argues that the superior court erred by failing to remand the
issue of his damages to the agency for a determination of
what he is owed.
A.
The Commissioner Did Not Err In His 2013 Decision Affirming
Termination of the Lease.
We
agree with the superior court that DNR's January
expiration notice materially breached the lease, but we
conclude that the breach was cured by the reinstatement
letter. Thereafter, White continued to have the contractual
duty to engage in drilling operations with reasonable
diligence; the ...