TRANSCONTINENTAL PIPE LINE v. STATE OIL & GAS BD.
Legal provision: Natural Gas, or Natural Gas Policy Acts
ORAL ARGUMENT OF JOHN MARSHALL GROWER, ESQ. ON BEHALF OF THE APPELLANT
Chief Justice Burger: Mr. Grower, I think you may proceed whenever you are ready.
Mr. Grower: Mr. Chief Justice, and may it please the Court:
Transcontinental Gas Pipe Line Corporation, which I will call Transco, is an interstate pipe line company regulated by the Federal Energy Regulatory Commission.
It purchases gas in the States of Mississippi, Louisiana, Texas and off-shore.
It transports that gas for resale in markets stretching from Alabama to New York.
For many years prior to the spring of 1982, this interstate company, along with many other interstate purchasers, were purchasing gas at a period of time when there was a severe shortage.
They were able to take all of the gas that their contract producers could deliver to them.
Their contracts provided that they could do so.
The contracts did not obligate them to take all of that gas, it only obligated them to take a certain minimum.
These long-term contracts were part of the regulatory scheme.
These contracts provided for minimum-take obligations and take or pay obligations if those minimum takes were not made.
However, in the spring, particularly May of 1982, it became apparent to the gas industry as a whole particularly that there was becoming a surplus of deliverability of gas.
There was a loss of market for a number of reasons that I will not take my time here, the drop in the price of oil, surplus oil, for many reasons.
But, there was an unprecedented, an unforeseeable loss in the markets for natural gas.
That created a problem whereby the interstate pipe line companies, and Transco in this case, could not then purchase all of the gas that was required to be purchased under its contracts.
Unidentified Justice: In other words, they couldn't sell it.
Mr. Grower: That is exactly right, Your Honor.
They could not sell it.
Unidentified Justice: They could buy it.
They could buy it if they had the money.
Mr. Grower: The pipe line is not the market.
The pipe line is the conduit to the market and if the market can't take it, they can't buy it.
It is that simple.
Now, when they were unable to buy all of their contracted gas, they had to cease buying gas from owners that they had no obligation to purchase the gas from.
Now, these owners in East Morgantown and Greens Creek field areas of Mississippi, Coastal and others, had chosen not to commit their gas to contract.
In 1978, '79 and '80, when the long-term contracts in this field were made with Getty, Harkins, Florida Gas, and others by Transco, of course, there was a shortage and these particular producers chose not to commit their gas to contract.
All indications were that for the foreseeable future prices were going to continue increasing, oil prices were going up, the market was going to expand, everything look rosy.
There was no need to commit their gas they thought.
I assume they thought that.
So, in essence, when the axe dropped and they were no longer able to sell their gas to Transco at the high prices being received by the contract producers under those 1979 and '80 contracts, they sought relief from the Mississippi Oil & Gas Board pursuant to Rule 48 of the Board which required the ratable taking of gas from the State of Mississippi.
It was a state-wide rule.
The Board enforced that rule.
The Board required Transco to take the non-contract gas and to take it without discrimination.
The impact, the consequence of that order was to displace contract purchasers, because, as we said in the beginning, the market is limited, they cannot take any more than the market could take, so if they are required to take non-contract gas, they have got to cut back on taking some contract gas, the effect of the order.
Unidentified Justice: What is the effect of that state order, because I am not sure I understand it.
Did it require Transco to take more gas or simply to spread the payments around for the gas that it did take?
Mr. Grower: The effect of the order, Justice O'Connor, was to increase... take or pay payment for one thing.
I will explain that.
In that the contracts required a certain minimum take.
Unidentified Justice: Well, if you could answer my question it would help me understand your response.
Did the state order require Transco to take more gas or simply to spread the payments out to a broader group of people for the gas it did take?
Mr. Grower: The effect of it was to ultimately require the taking of more gas.
That was the practical effect.
Because of the take or pay requirement... this is complicated and difficult for me to explain.
I know it is not difficult for you to understand, but these contracts require take or pay which in essence the cost of making take or pay payments are a flow through to the consumer.
It increases the cost.
But, that take or pay may be recouped in a five-year period.
And, if that gas can be recouped, it is only recouped out of the excess above the minimum take.
So, we are either going to pay for the gas twice if we can't recoup it or when we are catching up and producing above the minimum we are going to have to produce more gas from that contract while at the same time producing the non-contract gas that the state requires us to take.
Unidentified Justice: Well, right now, I suppose, the court below remanded for a determination of what price ultimately would have to be paid for these other pool owners, so we don't even know what it would cost ultimately, I gather.
Mr. Grower: Your Honor, we know what it would cost from this standpoint.
The take or pay payments under the high-cost contracts... Those contracts at this time were $7.90.
So, when you have to pay for gas you can't take at $7.90, that increased cost increases substantially.
Unidentified Justice: Well, maybe I misunderstand the order, but I thought that to the extent that the state interfered with your arrangement, it was on behalf of the other owners of the common pool and that the amount to be paid then was not the amount to be paid Getty under the contract--
Mr. Grower: That is right, Your Honor.
Unidentified Justice: --but some reasonable rate based on present or then current market.
Mr. Grower: That is right, Your Honor.
But, Transco did not want to take this gas at all.
Its market could not take this gas without increasing its obligations under its contract.
That is the main problem.
Unidentified Justice: Mr. Grower, what is a take or pay?
Mr. Grower: Take or pay obligation is... For instance, in these contracts that were made after the NGPA when there was a severe shortage in the pipe lines needed gas supply, under their contract made in that context, they were required to purchase from 85 to 90 percent of the deliverability of those wells and if they did not purchase 85 or 90 percent, whichever the figure was in the contract, they would then have to pay... in a particular year, they would then have to pay for the gas not taken in addition to the gas taken.
Now, that take or pay gas, it is paid for, then may be recouped within the next five years, but it can only be recouped out of the 10 or 15 percent excess above the 85 or 90 percent that is available to recoupment, because you still have the minimum requirement to take 90 percent.
Unidentified Justice: So, it can be recouped only by taking more than 85 percent?
Mr. Grower: Only by taking more than 85 percent.
Now, the problem now is that under today's market conditions, where the market cannot take that gas, they are incurring additional take or pay problems that are so severe that there is no way that they can catch up out of that 10 or 15 percent.
Unidentified Justice: Well, what are today's market conditions compared to what they were when this problem arose?
Mr. Grower: Well, it has gotten worse, it has gotten worse.
The take or pay problems today are much greater than they were then.
They were just starting then.
Today... In this case, we are talking about $50 million to $70 million incurred at that time, a short period of time.
Today it is in the billions.
Unidentified Justice: Incurred.
What do you mean?
I don't even know what you are talking about when you say $50 million incurred.
Mr. Grower: All right.
The pipe lines are incurring these take or pay obligations to producers for gas it cannot take.
Unidentified Justice: I see.
Mr. Grower: Because of the unprecedented and unforeseeable drop in the market.
Unidentified Justice: Well, it is a drop in demand for the gas?
Mr. Grower: That is correct.
A serious drop in demand, I might say.
The problem is exacerbated by the fact that the more the market drops under the regulatory scheme and the take or pay obligation is incurred and if those costs are added, you are increasing the cost, you are losing more market and you just have the--
Unidentified Justice: Well, I guess you are going to tell us probably after lunch what is wrong with the order.
The order may hurt you, but are you going to tell us why it is beyond the state's power?
Mr. Grower: --Yes, sir, I hope to and I think the main trouble with the order is--
Chief Justice Burger: We will take that up right after lunch.
Mr. Grower: --Thank you.
Chief Justice Burger: Mr. Grower, you may resume your argument.
ORAL ARGUMENT OF JOHN MARSHALL GROWER, ESQ. ON BEHALF OF THE APPELLANT
Mr. Grower: Mr. Chief Justice, and may it please the Court:
The order in this case by the State Oil and Gas Board of Mississippi requiring the purchase of non-contract gas at any cost directly impacts on the cost of service of the pipe line.
Also, the order which requires additional take or pay increases the cost of the gas to the consumer which is a direct impact on the cost of service also.
These matters have been condemned by this Court, particularly in Northern Natural versus the State Corporation Commission of Kansas in 1963.
It is almost an identical case.
The question today is--
Unidentified Justice: Wasn't that a price regulation in Northern Natural?
Mr. Grower: --No, sir.
Unidentified Justice: What was the regulation?
Mr. Grower: It was a ratable take order exactly like this one, Northern Natural versus State Corporation Commission of Kansas.
Unidentified Justice: Well, the Supreme Court of Mississippi thought it was different though.
Mr. Grower: The difference, Your Honor, today is and the issue raised today is whether or not the Natural Gas Policy Act has changed the jurisdiction so that the state may now enter this field and regulate the interstate pipe line.
Unidentified Justice: Northern Natural said that that regulation was bad because what?
Mr. Grower: Well, it interfered with the cost of service of the pipe line.
Unidentified Justice: And, therefore, what?
Mr. Grower: It pre-empted the--
Unidentified Justice: All right.
That is the bottom line, isn't it?
Mr. Grower: --Right.
The pervasive and comprehensive regulation under the Natural Gas Act and the Natural Gas Policy Act today simply sweeps the field clean.
There is no room left for state regulations.
The Natural Gas Policy Act didn't change that.
Unidentified Justice: Well, didn't the Natural Gas Policy Act deregulate for this type of gas that is involved here?
Mr. Grower: Justice O'Connor, it deregulated--
Unidentified Justice: What action specifically could the Federal Energy Regulatory Commission take that would conflict with the state's order here?
Mr. Grower: --Well, in the first place, it conflicts with... the state order here conflicts with the jurisdiction of the Federal Energy Regulatory Commission to regulate the cost structures of the pipe line company which--
Unidentified Justice: Well, this particular gas was taken out of their regulatory jurisdiction, wasn't it?
Mr. Grower: --The price of the gas at the well head was deregulated, but my point, Your Honor, is that any price that the company is required to purchase this gas affects its cost structures which has been held by this Court on several occasions, and recently in Maryland versus Louisiana and Exxon versus Eagerton, that that regulation of the cost structures of the interstate pipe line is the exclusive domain of the FERC.
Unidentified Justice: But, if you are right about that, I would assume that the state's order, even just as applied to intrastate gas purchases, would have the same kind of effect and subject the state to the same argument.
Mr. Grower: Well, intrastate gas is not sold in interstate commerce.
It does not impact on the interstate price.
Unidentified Justice: Well, we are talking about the pre-emption argument, I guess.
Mr. Grower: Well, the NGPA has given the states the right to establish lesser prices for intrastate gas than the maximum price allowed by the NGA.
That is the only jurisdiction that has been given and very well state regulations of intrastate that would conflict with that might be pre-empted.
Of course, that is not the issue here, if the Court please, and I have not looked at that point.
Unidentified Justice: May I ask one question, Mr. Grower.
You have talked a great deal about the take or pay contract.
Had your client not entered in any take or pay contract, but had foreseen the economic situation that later developed, would you still contend that the Missouri rule was unconstitutional?
Mr. Grower: The--
--Mississippi rule, I am sorry.
Your Honor, yes, because, as I say, the regulation which requires the company to purchase non-contract gas at any cost impacts directly on the cost of service of this pipe line.
The price of the gas is a direct cost of service that flows through subject to the FERC regulations.
Unidentified Justice: So that then the discussion of the take or pay contract is not really critical to your constitutional argument?
Mr. Grower: It is not critical, but it is the point that was the focus in the Northern Natural case, because in the Northern Natural case take or pay was indicated to be one of the problems of conflict that could occur where it increased the price to the consumer and affected the cost of service.
I would like to take some additional time for rebuttal, if the Court please.
Chief Justice Burger: Very well.
ORAL ARGUMENT OF JEROME M. FEIT, ESQ. ON BEHALF OF THE APPELLANT
Mr. Feit: Mr. Chief Justice, and may it please the Court:
This case very squarely raises the pre-emption question as the continuing vitality of Northern Natural.
The facts, as Mr. Grower stated, are essentially the same statutory scheme, either comply with the state ratable take order and take more gas than it was able to need for its customers or take less gas under its take or pay provisions and incur costs with the ultimate result being, as Northern Natural said, that that could seriously impair the Federal Commission's authority to regulate the intricate relationship between the purchasers' cost structures and eventual cost to wholesale customers.
The question, and the state courts quite clearly recognized, that the decision would go in favor of Transco in that case if Northern Natural was still good law.
The divergence, the difference was that Northern Natural, the courts found, was not good law by virtue of their reading of the Natural Gas Policy Act and the Natural Gas Act.
Our reading, on the contrary, is totally to the opposite.
We believe that both under the Natural Gas Policy Act and the Natural Gas Act that the Northern Natural case has continuing validity.
Let me turn to the Natural Gas Policy Act.
There are two kinds of things under that statute which I think indicate the continuing nature of non-state intervention and effective federal control.
As you know, this was... The Act was to set up a nation-wide market in gas because of the problems that had arisen.
And, what Congress did under the Natural Gas Policy Act in Title I was statutorily fix the prices, statutorily fix... detail the prices for gas.
FERC no longer had any authority under that to fix those prices.
But, in addition to that kind of scheme... In addition to that, FERC did have specific authority under Title VI of the Natural Gas Policy Act to prohibit the pass through of such gas costs which is found to be the product of fraud, abuse, or similar grounds.
So, what you had was just the opposite of a commission of state intervention.
You had a free market under Title I which FERC could not interfere with as you pointed out in the Mid-Louisiana opinion.
And, on the other hand, you had FERC's control to assure that gas costs... that pricing practices of pipe lines are not fraud, abusive, or invalid on similar grounds from passing through.
That is the Natural--
Unidentified Justice: Would you fit this under the fraud or abuse section?
Mr. Feit: --I don't know if... My point is the power exists.
I don't know whether in fact this amounts to fraud or abuse or similar grounds.
It seems to me--
Unidentified Justice: The power only exists if it does amount to that.
Mr. Feit: --Well, the power to impose denial to pass through exists.
Unidentified Justice: Right.
Mr. Feit: I might add that this very case is presently pending not under the Natural Gas Policy Act, but my next point, under the Natural Gas Act prudent standing in which the staff of FERC is arguing to the Commission that the fact that Transco complied with the state order, complied with the state order, in fact, made those purchasing practices subject to Natural Gas Act prudence regulation.
And, this, I think, pinpoints the concern in Maryland v. Louisiana.
The concern is that we regulate interstate pipe lines under the Natural Gas Act and in Mid-Louisiana it was made crystal clear that while FERC has no continuing regulatory control on the prices under Title I, it has continuing control, as it always had, under the relationship of the pipe line to its downstream customers.
So that rather than Northern Natural in our view losing vitality by virtue of the Natural Gas Policy Act, the Natural Gas Policy Act has established a free market, no state interference with whatever authority exists, exists in FERC under Title VI.
To the extent there is additional authority, it exists under the prudent standard of the Natural Gas Act.
So, it seems... Without even reaching the question of the commerce clause issue, it seems to us that this is a clear case of federal pre-emption by statute and--
Unidentified Justice: Well, Mr. Feit, what do you think that a state can properly do within its regulatory powers that remain to protect common pool owners?
Mr. Feit: --I was going to turn to that exactly.
I think, one, Northern Natural makes plain at that time that states can affect the producers; that is the statute shall be directed... The device in Northern Natural was the problem of affecting the interstate pipe line.
I realize that that may not be a complete answer.
There is another case coming before this Court.
Unidentified Justice: I don't understand your answer.
What is it that you think the states can properly do within their regulatory authority?
Mr. Feit: I think at the bottom line is the states can set up a scheme which is regulated by market demand situations.
Let me just... The reason I mentioned what Northern Natural said, because that was the rule of Northern Natural.
Northern Natural said you cannot deal with the interstate pipe line, you can only regulate the producer.
I am suggesting now that there may be other more sophisticated efforts.
Many states have adopted market demand where denominations are made by the pipe lines and it is based on... Even Texas has monthly kinds of crude.
That may pass constitutional muster because what the state is doing then, it seems to me, is taking care of its own mining interest, protection of waste, protection of the owners of the pool, which clearly, Your Honor, the states have.
We have never taken the position, and I don't take it now, that the states do not have significant rights over their minerals within the state and natural gas is such a mineral.
The problem is that to the extent the state action intrudes upon the federal structure the state action must fail.
That this Court has said repeatedly in Arkla v. Hall, Maryland v. Louisiana.
And, the reason I am not answering--
Unidentified Justice: Well, if there were no take or pay contract, do you think the state regulation would be valid here?
Mr. Feit: --If there were no take or pay contracts... It is hard to answer the question.
I think it would turn on whether the pipe line is being required to change its purchasing practices in a way that makes it take more gas than it wants, because it affects... It is not only Mississippi that is involved here, pipe lines have sources of supply throughout the producing state.
And, the concern of FERC is not that one state provision fails, the concern of FERC is how the entire scheme operates.
It seems to us that it may well be a case where a state directing... more than produces may have a valid statute.
Our position here is simply that this order is not a valid statute.
Unidentified Justice: You think if there were no take or pay contract it might be valid.
Is that what I--
Mr. Feit: I think if there were no take or pay contracts and the pipe line was taking no more gas than it needed for its customers or it was required to take, that would be a different... might be a different case because there was more... You see, the vice that we find in it is that somehow by the state requiring the pipe line to take more gas than it wants... It is not the pipe line that is the essence of our concern.
The essence of our concern is the downstream customer.
It then kind of intrudes upon that relationship and that is where the difficulty arises.
So, while I think there can be valid state laws, as Northern Natural pointed out, and market demand may be another way to deal with the problem.
These are a myriad of concerns.
Northern Natural said that FERC cannot kind of deal with each little state statute and have the state accommodate to the federal concern... I am sorry, the state must accommodate the federal concern and not the federal on the states' concern.
Unless there are any further questions, I think my time is up.
Chief Justice Burger: Very well.
ORAL ARGUMENT OF GLENN GATES TAYLOR, ESQ. ON BEHALF OF THE APPELLEE
Mr. Taylor: Mr. Chief Justice, and may it please the Court:
Before coming to my submission, I would like to address the question that Your Honor raised about take or pay payments.
Take or pay payments are refundable pre-payments for gas.
A fundamental assumption is that during the period of a 20-year contract that there will be significant periods of time during which a purchaser will not need all of the gas that the producer can deliver, but at the same time the producer needs some sort of cash flow.
So, if and where and the parties agree, they agree to include a take or pay provision which provides that if you get to the end of a contract year and the pipe line has not taken all of the minimum quantity that it agreed to, it will pre-pay for the balance and it will recover it either in kind or in cash under cash balance.
If, at the time the take or pay obligation is called for, they cannot make up the gas, if they are being called to pre-pay for, then they have a contractual defense.
Now, as interesting as all that is, it has nothing to do with what the state has required in this case.
Forget the exaggerations that have been made about what the State of Mississippi has required and look at pages 14 and 15 of our brief and how our Mississippi Supreme Court has construed this requirement.
The requirement is not that a pipe line has to take the first MCF of gas.
It is that the pipe line when and if... this is on 14 and 15 of our brief... when and if a pipe line decides to take gas from a pool, then whatever quantity it wants to take, it must offer to take those quantities ratably as among the different wells in the pool so they are not taking 100 percent out of one well and 10 percent out of another one, which is virtually the example we had in this case, and they must offer to pay a market price unless the parties agree otherwise.
The parties are free to agree to two cents, two dollars, or twenty dollars.
But, in the absence of that agreement, if somebody wants their gas taken so that no drainage occurs, the state is not going to allow drainage to occur simply because somebody is being obstinate about the price that ought to be paid.
They called for a market-responsive price.
And, as we point out in our brief, Transco has been complying with this by offering a market-out clause price since December of 1982.
Now, let me get to the issue which is pre-emption.
We submit that Under Section 601(a) of the NGPA Congress clearly eliminated FERC's Section 1(b) jurisdiction over wholesales of deregulated natural gas in interstate commerce.
Consequently, the states are once again free to attach a reasonable ratable take requirement to any purchaser's takes of deregulated gas.
I want to explain why Mississippi's requirement is not pre-empted.
I want to explain the inconsistency of FERC's position in this case and why producers need this simple protection.
It is a question of implied pre-emption.
No one claims that this state power, ratable take power, is pre-empted by Congress.
FERC... it is briefed on page 15... concedes that point.
It is a question of implied pre-emption; that is in passing the NGPA did Congress intend to prohibit the state from attaching reasonable conservation requirements to takes of deregulated gas or did Congress intend to create a gap into which the states could not step with their conservation powers.
We submit that Congress didn't either.
First, look at the legislative history and look at the Act itself.
Congress intended that the states would play a major role in what was the overriding objective of Congress to increase the supply of natural gas available to the interstate commerce and end the perpetual shortages of gas in that market.
Congress vested the states with broad powers under Section 503 to make these fundamental determinations that would determine what price you got if it was regulated gas or whether it was going to be deregulated gas.
As importantly, the legislative history reflects that the [= NGPA] was not to intrude on the states' historical conservation powers or their traditional conservation functions.
Unidentified Justice: But, Mr. Taylor, as I understand this case, the conservation power is not implicated.
The Mississippi Supreme Court expressly disclaimed that as I understood.
Mr. Taylor: No, Your Honor.
Unidentified Justice: They just relied on fairness, didn't they?
Mr. Taylor: The unfairness was that because of these discriminatory takes drainage would result.
The concept of drainage is a concept of fair share; that the owners in a pool must have an opportunity to get their fair share of gas.
Unidentified Justice: And, they expressly disclaimed, did they not, reliance on conservation as the motivating force for the regulation?
Mr. Taylor: No, Your Honor, they did not.
They explained that the overriding purpose is fairness.
They cited Shell Oil versus James, which is a drainage case.
I mean, drainage is wrapped up in the fairness issue.
In order to breathe life into an owner's opportunity to recover his fair share, he must have the mere opportunity to get into the market at the well head.
I was going to point out that in the legislative history Congressman Dingell in submitting the NGPA to the House made this statement on October 14, 1978.
He said that the legislation does not contemplate that FERC will intrude into the traditional conservation functions performed by the states.
This is a matter reserved to the state agencies.
During the exercise of their historical power will continue to regulate such matters and he goes on to say such as drilling locations, completion techniques, production rates, etcetera.
He could have just as easily said such as ratable take orders which this Court in the Phillips case, in the Northern Natural case pointed out.
Ratable take orders have always been part of the states' historical powers.
Unidentified Justice: Mr. Taylor, Justice Stevens asked you a couple of moments ago whether the Supreme Court of Mississippi hadn't disclaimed reliance upon the conservation element.
And, if you look at page 34a of the jurisdiction statement which the Appellant... I am looking at the opinion of the Supreme Court of Mississippi.
It says in the middle paragraph beginning
"Coastal, Getty and the other producers argue that conservation of an important natural resource and the prevention of waste are implicated. "
"Without doubt, if this were so, such would be a legitimate local interest. "
It is difficult, however, for us to see how there is a waste of natural resources when an interstate pipe line company refuses to take ratably or otherwise.
And, in the paragraph after that they go on and say that
"the true and entirely legitimate local interest here implicated is fairness. "
Mr. Taylor: Yes, sir.
And, if you go on--
Unidentified Justice: Is there some place else where they say that it is conservation?
Mr. Taylor: --Yes, sir.
If you go to the last four pages of the Supreme Court's opinion... I am referring to the Southern citation... if you go to those last four pages in which they are construing the purpose and objective and power of the Oil and Gas Board under Rule 48, it is designed to prevent drainage and to insure fairness of correlative rights because it is fundamentally unfair for ratable takes to occur and a purchaser to take indirectly what he will not take directly.
Unidentified Justice: Is that a conservation concern?
Mr. Taylor: Absolutely it is a conservation concern for this reason.
Unidentified Justice: We are just not talking about the same thing, I guess.
Mr. Taylor: Your Honor, we are.
As we explain at pages six through ten of our brief, the legitimate state interest involved, drainage is a phenomenon of life.
Judge Robertson in the Supreme Court's opinion pointed that out.
In order to breathe meaning into the opportunity of someone to recover their fair share of production, they cannot bag it, they cannot store it, they cannot wait to get their one percent until 99 percent has been produced.
They must have an opportunity to take when others take and to sell when others sell.
So, I respectfully would have to disagree that the purpose of this rule is to insure fairness in the sense that it is unfair to deny and deprive owners possessed of correlative rights the opportunity to recover their fair share.
Secondly, no gap was intended by Congress in passing the NGPA.
Unidentified Justice: Mr. Taylor, it seems to me that you are arguing fair share, not conservation at all.
Mr. Taylor: They are part and parcel of the same thing.
Fair share is conservation.
If you look at Mississippi Code, Section 5311 which is the Preamble to the Conservation Act, it says that it is the purpose and intent of this Act to insure and afford the opportunity of each owner in a common source of supply the opportunity to recover his fair share.
Unidentified Justice: You may deem that conservation, but it doesn't sound like the Mississippi Supreme Court thought that, what conservation was.
Mr. Taylor: Your Honor, they did.
Conservation is... Part and parcel of conservation is preventing drainage, preventing unratable takes, preventing reservoir damage.
The purpose of this rule is to allow each owner the mere opportunity to recover his fair share so this is not--
Unidentified Justice: Mr. Taylor, your definition is quite different from the Mississippi Supreme Court.
They seem to think that conservation is avoidance of waste and they say that it is difficult for us to see how there is a waste of natural resources when an interstate pipe line company refuses to take ratably or otherwise.
Waste would seem to follow from taking too much, not too little.
Mr. Taylor: --But, if you don't--
Unidentified Justice: Do you disagree with that?
Mr. Taylor: --I don't disagree with that but you have got to read the tail end of the opinion in which... First, they consider the constitutional questions, then they move to the legitimate state interest in connection with the commerce clause and there is no way to separate... Waste is defined under Mississippi law as the non-ratable or disproportionate taking of gas so as to cause drainage.
If you get down to the point in the opinion in which Judge Robertson says we regard fairness as one of the more noble attributes of this rule.
He cites Shell Oil Company versus James which is a drainage case and he says drainage is a phenomenon of life in the gas pool.
It must be prevented.
In other words, the purpose of the Conservation Act, one of the fundamental purposes, is to prevent drainage which gets me back to my gap argument.
Unidentified Justice: That is only drainage as among owners, not drainage which would result in waste.
Mr. Taylor: No, Your Honor.
Waste is defined as some owners recovering... Under Mississippi law some owners recovering more than their fair share because of non-ratable disproportionate takes of gas.
And, it is this.
You have several wells in a pool.
In this case, you had Transco taking 100 percent from the Florida Gas wells and taking 40 percent from the Getty wells and it was undisputed in the record that drainage was occurring.
Transco was taking indirectly by way of drainage what they refused to take directly.
That is exactly what these ratable take requirements in all of the oil and gas producing states... and there is not a nickel's worth of difference between that fundamental requirement, whether it is in Colorado, whether it is in New Mexico, whether it is in Texas or whether it is in Louisiana.
The purpose is to give the owners in the pool the opportunity to recover their fair share, which gets me back to the no-gap intended argument and you have to cross the Attleboro decision in covering the pre-emption question and the commerce clause.
In 1938, Congress wrote into law this Court's decision in the Attleboro line of cases which was that because of the commerce clause the states can't regulate these wholesales.
Congress came along and passed the Natural Gas Act, saying because the states can't do it because of the commerce clause, we are going to allow the Federal Power Commission to do it.
Ironically, after the Natural Gas Act was passed in 1938, this Court went off and abandoned that line of cases.
And, the decision from a couple of terms ago in the Arkansas Electric Cooperative case makes it very clear that the Attleboro test has for all practical purposes been abandoned, the Pike test has been applied.
Now, we take that back to the NGPA.
In other words, even in Phillips, this Court acknowledged that after Attleboro and after the Natural Gas Act was passed, the constitutional restrictions on the ability of the states to regulate activities that impacted interstate commerce had been loosened.
It was recognized in Phillips and a perfect example is the Peerless case in which this Court upheld the ratable take minimum price order.
There the State Conservation Commission fixed the price.
This Court upheld that type order against a commerce clause challenge.
Now, bring it all into focus.
The only barrier before was the commerce clause, so we had the Natural Gas Act, Section 1(b) jurisdiction.
The Court goes off and adopts the new Pike test.
We then come down the NGPA in which Congress eliminates the very Section 1(b) jurisdiction that was applied in Phillips which leaves us only with the commerce--
Unidentified Justice: I am a little slower, I think, perhaps than you are, but I think you are arguing just commerce now and not pre-emption at all.
Mr. Taylor: --That is what I am bringing it all down to.
Unidentified Justice: Do you think the two arguments merge or are quite the same?
Peerless has nothing to do with pre-emption as I understand it.
Mr. Taylor: --Peerless had nothing to do with it.
Peerless is an example of a court having abandoned the Attleboro test and applied the Pike test.
In Peerless the Court cited South Carolina versus Barnwell and that line of cases as representing the more modern approach.
And, if you look at Pike, that is the same test that the Court has applied under the commerce clause and that is exactly my point; that since the NGPA eliminated Section 1(b) jurisdiction which was a codification of Attleboro, since they eliminated that, there is no statutory pre-emption question.
It is a question of the commerce clause.
If you apply the commerce clause test to Pike, which, under another name it was applied in Peerless, this simple state requirement passes that test, because there are strong interests in the state and it is consistent with the policy of Congress in encouraging more producers to get involved in the process of drilling more wells, discovering new gas, and offering that gas and making it available for sale in interstate commerce.
That is all this rule does.
It goes no further.
Let me turn to FERC's conflict claim with this perspective in mind.
At the time of the Northern Natural decision, we had a pervasive scheme of federal regulations.
Producers could not sell into interstate commerce without FERC authority.
Pipe lines could not bid for gas, there were no deregulated sales.
It was truly regulated from the well head to the burner tip.
It was because of that... The Court in Northern Natural cites Attleboro and they rely on Section 1(b).
They rely on Phillips.
They say because of that pervasive scheme there is a likelihood or an imminent possibility of collision.
If you go back to Northern Natural, the Court did not require an actual conflict be shown.
The recent decisions of this Court have made it clear that the Court is no longer content to settle for these speculative, hypothetical possibilities of collision which brings me to FERC's position.
All they have been able to offer in the way of an alleged conflict is that this state requirement might in some way conflict with their Section 601(c) powers which is the power not to prevent somebody from buying gas, but the power to deny a pass-through of a payment for fraud or abuse.
There is nothing about this requirement that prevents the exercise of that power.
If they can, with a straight face, stand up here and claim that the payment of a market price is the result of fraud or abuse, then they have still got the power to deny the pass-through.
The same holds true for the take or pay payments.
If they claim that a take or pay payment that somebody makes and then tries to pass-through as the result of fraud or abuse, they can deny that pass-through which brings me to this closing point.
Without the protection of this simple rule... producers are not dumb.
For the same considerations that they sought the protection of the intrastate market before the NGPA was passed, where they could get a better deal, they will seek the protection of an intrastate market in which they are not treated like this, in which the Coastals of the world, the one percent owners, whether they are professionals, whether they are farmers who have leased, will not be treated like this, or the state will resort to more disruptive measures.
In other words, the state could come in and completely shut in the field until every owner had a contract signed up.
It would be disruptive, but it would clearly be within the conservation powers to prevent waste.
It will discourage producers from competing against one another.
Independents... All the world of oil and gas is divided into independents and majors and if the independents end up with the contracts and the majors... the majors end up with the contracts and the independents are left to scramble for themselves, they don't compete.
More fundamentally though, this practical observation: If because of the NGPA a producer and a pipe line can agree like they did in the case of the Florida Gas contract, that we will take all owners' gas regardless of whether they are signed up and we will take their gas ratably, and there is nothing FERC can do to prevent that.
If they can contract for that protection, which they can, and nobody denies it... They did it in the Harkins contracts in the states, they did it in the Florida Gas contract, then there is nothing to prevent the state in the exercise of its conservation powers from stepping in and providing that minimal protection where the parties fail to agree.
One question has come up about, well, is there a better way that the states can handle this, the so-called market demand allocation system.
That is a gimmick and a game which Mississippi decided in 1948 that we are not going to play.
It serves only one or two purposes, allowing the pipe lines to run the state allowable system or getting the state involved in a socio-economic decision that you pipe lines tell us how much gas you want to buy and we will dole it out among the different pools in the state.
That is not a conservation function.
The purpose of that rule is not to protect owners in a given pool from drainage and it is not to give owners in a pool an opportunity to sell.
It gets the state intruding even more so into contractual affairs.
Mississippi has a pure allowable system and to the claims that the market demand allocation system is the best way to go, I refer the Court to the Texas Law Journal article which cites that the blue ribbon panel appointed by the Texas Railroad Commission to investigate the question of unratable takes found that under their own system of market demand allocations that unratable takes were still occurring.
While some people might think that that is the best way to go, Mississippi has chosen a pure allowable system in which, based on maximum efficient rate of flow of wells, they set the ceiling and the pipe lines are free to come in and take 100 percent, one percent, 50 percent, they can vary their takes at noon and at midnight.
They have the complete freedom on what their takes are going to be.
The state is not involved in some game of manipulating and gerrymandering allowables.
Thank you, Your Honor.
If there are no questions, the Attorney General would like to talk.
Chief Justice Burger: Mr. Noble?
ORAL ARGUMENT OF ED DAVIS NOBLE, JR., ESQ. ON BEHALF OF THE APPELLEE
Mr. Noble: Mr. Chief Justice, and may it please the Court:
My purpose is to explain what the legitimate state interest of the State of Mississippi is with its Rule 48.
We believe that it encourages the development of its natural gas by protecting the correlative interest of each owner, operator, and producer in a particular pool, but more importantly, Rule 48 also satisfies the statutory requirement that the Oil and Gas Board at least attempt to conserve the natural gas in the State of Mississippi; that is to prevent drainage as it has been defined by co-counsel, waste and reservoir damage caused by unratable and disproportionate withdrawals of gas.
The requirements of Rule 48, in effect, are practical and consistent with the congressional goals of the NGPA.
And, in response to Justice O'Connor's question, it encourages the participation of all the owners, operators, or producers in a particular field and encourages them to develop the state's natural resources by permitting just compensation for their efforts in the development at a fair and current price.
Now, if the primary objective of the NGPA is to increase the supply of natural gas in intrastate, then we say that 48 is consistent with the federal program.
That is because it corrects what could be a potential market failure in the sales of gas at the well head in Mississippi.
That can occur when you see a situation which we have and that is very few purchasers in a field where there are multiple owners, operators, and producers, thereby creating a market situation of perhaps less production and lower prices offered than would be in a perfectly competitive market.
Further, the producer would be without a purchaser and, therefore, would suffer a risk under the rule of capture which exists in oil and gas and that is he would see his property extracted without compensation, and, therefore, it would conflict with the rule and the law of correlative rights.
As this Court is aware, NGPA makes no provision for the protection of the small, independent, non-contracting owners.
Well, Rule 48 provides for that such protection.
It does so merely because it provides that if you participate and if you do purchase the Rule only says that you must at least offer, no more than offer, to purchase the gas at a reasonable or current price.
Unidentified Justice: That is even though there is no contract?
Mr. Noble: --That is if there is no contract, that is correct, Justice Rehnquist.
Let us assume that that particular owner, operator, or producer refuses, what can he do?
Then he merely runs the risk of being able to recover his property; that is his oil or natural gas that he owns at a later date.
Rule 48 merely gives him the opportunity or protection of being able to recover during the purchase time at a fair rate.
If the producer is not permitted to purchase and to sell and to get his fair market price at the time in which the pipe line does, in fact, purchase, then there is a possibility that since he will not be compensated, then he would seek other markets in intrastate, thereby defeating the purpose of NGPA by reducing by whatever means the particular oil and gas which might flow into intrastate.
The State of Mississippi does not mandate taking by strict allowables or production.
It is that the Oil and Gas Board sets maximum allowables for a specific period of time which means that if you do produce in the State of Mississippi you can take anywhere from the well being shut in, that is zero, to the maximum allowable with would be 100 percent.
We would suggest to the Court that in doing so we have, in effect, a market.
The producer is ready to surrender his gas to the pipe line.
The pipe line determines what it wishes to take and if it takes within the allowables according to state law in a particular field, it may take from zero to 100 during that period of time.
So, we suggest--
Unidentified Justice: May I ask you one question?
I just want to be sure I understand correctly.
Under the Mississippi rule, must the pipe line pay the non-contract purchaser the same price that it pays the contract purchaser?
Mr. Noble: --No, sir.
Unidentified Justice: You can have a price discrimination and there is no state problem with--
Mr. Noble: That is right.
As a matter of fact, so long as the state is assured that that person will receive his fair market price, we do not... The State of Mississippi does not interfere in negotiations for what the price may be.
Unidentified Justice: --Well, does it at least insist that the price paid to the non-contract purchaser be the fair market price?
Mr. Noble: If there is no contract, there is no take or pay.
Unidentified Justice: I understand, but could they... Say the market price is $1.00 a thousand cubic feet or whatever it might be, could they just pay a nickel and would that satisfy the--
Mr. Noble: No, sir.
As the Supreme Court of the State of Mississippi said, at least that person should be assured of a fair market price for his gas.
In other words, at least, if the fair market price will not interfere with commerce or will not interfere with FERC... Will not come into play with FERC, because all we are addressing is either market price or fair market price or below.
Unidentified Justice: --Well, the Supreme Court of Mississippi remanded the case to the trial court for determination of that issue, didn't it?
Mr. Noble: It did, Mr. Justice Rehnquist.
Unidentified Justice: So, we really don't know what price will finally be determined by the Mississippi State Court.
Mr. Noble: That is correct, sir.
In allowing for a fair market price and creating a market in interstate commerce, we would also suggest that Rule 48 protects the consumer.
That is all it says is that the owner, operator, or producer will have its opportunity to be compensated and that there is no incidental hinderance to the market place because if, in fact, the end result of more production, more gas, will, in essence, create a market where there is by supply a lesser price at the well head to be paid by the consumer.
I would like to address another question posed by Justice O'Connor and that is what, if anything, would be the standard which might be or could be applied by the State of Mississippi or what should be applied?
We would suggest that the rule of the State of Mississippi is a fair one and is constitutional.
The import of NGPA is that there at least be a competitive market at the well head and it suggests that the Mississippi ratable take is a policy which is carefully calculated to reflect competitive markets.
I would suggest to the Court that this rule or any other rule would be a minimum interference with the participants at the market and particularly so that it would not injure the consumer or the public interest.
If there are no questions from the Court, thank you very much.
Chief Justice Burger: Do you have anything further, Mr. Grower?
Mr. Grower: Yes, Mr. Chief Justice, I am afraid I do.
There are a number of matters that I would like to address, but I will try to address a few of them.
Let's first take the statement that Mississippi has not required Transco to purchase any gas.
What kind of choice is that?
We have got contracts that require to take a minimum quantity of gas pursuant to the regulatory scheme under the NGA and the NGPA.
We have got that gas to purchase to supply our customers' needs.
That is part of the federal regulatory scheme.
We don't have to buy that gas because of the State of Mississippi.
ORAL ARGUMENT OF JOHN MARSHALL GROWER, ESQ. ON BEHALF OF THE APPELLANT -- REBUTTAL
Unidentified Justice: Why should the validity of the state's ratable take policy turn on the fortuity of whether your company enters into a take or pay contract?
Mr. Grower: Justice O'Connor, the take or pay contract has been a part of the regulatory scheme for almost 50 years, since 1938 when the NGA came into effect.
The contractual relationship between the producer and the pipe line's customer have been a part of this regulatory scheme.
The pipe line must contract for supplies of gas.
They are required by federal regulation to enter these contracts.
Unidentified Justice: But, you are not required today, are you, to enter into a take or pay contract for this kind of gas by any federal requirement that you do so?
Mr. Grower: Your Honor, that is correct, but at the time these contracts were entered into it was still part of the regulatory scheme recognized by the FERC and they had regulations dealing with the manner in which take or pay, the costs were passed on to the consumer.
Unidentified Justice: Well, would the question be different here if these contracts, these take or pay contracts had been entered after the time that the FERC ceased to require them?
Mr. Grower: Well, if these contracts had no take or pay obligation, then there would be nothing to prevent the pipe line, if they had no minimum take requirements... You also may have minimum take requirements which require you to buy a certain amount of gas or pay for it, period, with no right to ever recoup it.
But, if there are no minimum take requirements, there is nothing to prevent the pipe lines from purchasing all of the gas because they don't have to take it.
Unidentified Justice: What if they had take or pay contracts and there were clauses that were voluntarily entered into by the pipe line without any requirement that it do so from the federal government.
Mr. Grower: Well, if the Court please, the take or pay problem today has been made a serious problem because of the extreme prices we have in the market.
Unidentified Justice: Are you trying to answer my question?
Mr. Grower: Yes, sir, I am.
And, the fact that there could have been contracts without take or pay, I just can't answer that directly, because there are contracts for take or pay and they were a part of the regulatory scheme and if there were no contracts with take or pay, then there would be nothing to prevent the pipe lines from purchasing this, because it would not increase their cost.
Unidentified Justice: My question to you was if there were take or pay contracts voluntarily entered into by the pipe line company without any requirement they do so from the federal government.
Mr. Grower: Well, yes.
There is not a requirement under the federal government, but it has been part of the regulatory scheme because--
Unidentified Justice: What do you mean, part of the regulatory scheme if it is not a requirement?
Mr. Grower: --It has been recognized as part of the regulatory scheme because the producers wanted to be assured that they would have a share of the market.
Unidentified Justice: So, all you are saying is it was permitted?
Mr. Grower: It was permitted because the producers wanted a share of the market and there would be no reason for a producer to enter into a contract without some minimum take obligations because they would never have any assurance that the gas would ever be produced.
It was a necessary part of the contractual process and because it was necessary it was recognized in the federal scheme.
Chief Justice Burger: Your time has expired.
Unidentified Justice: Mr. Chief Justice, may I ask a question?
Chief Justice Burger: Yes.
Justice Powell has one more question.
Mr. Grower: Yes, sir.
Unidentified Justice: I think you undoubtedly, counsel, have answered this, but I am not entirely clear about it.
It is agreed, I assume, that Section 601 of the 1978 Act removes well head sales, deep wells, 15,000 feet or under, from federal commission regulations.
Mr. Grower: It removes the price regulations.
Unidentified Justice: Well--
Mr. Grower: It removes the price regulation, but it does not remove the regulation over the pipe line concerning the transportation and resale of that gas in interstate commerce and this was made clear, if the Court please, in Mid-Louisiana by Justice Stevens.
Unidentified Justice: --The Solicitor General's brief says the NGPA makes clear that Congress, in removing certain well head sales from the Commission's regulatory jurisdiction, intended that they be deregulated.
Mr. Grower: As to price.
I agree with that as to price.
Unidentified Justice: Well, it doesn't say anything at this point in the brief about the price.
Mr. Grower: It changed--
Unidentified Justice: Let me follow up with another question.
Mr. Grower: --Yes, sir.
Unidentified Justice: If it is deregulated, is it your position the state has no authority whatever to regulate this gas?
Mr. Grower: Yes, sir, and that has been so held.
Unidentified Justice: Well, will that result in Transco being able to drain gas--
Mr. Grower: No, sir.
Unidentified Justice: --as it has been done in the past?
Mr. Grower: No, sir.
Unidentified Justice: Who will control that?
Mr. Grower: The state still controls that because they control what can be produced by these wells.
It is only being drained because the state is permitting the producers to produce the gas.
Unidentified Justice: If the ratable take rule doesn't apply, what will keep Transco from taking gas only from parties with whom it had contracts?
Mr. Grower: Transco does not determine how much gas is delivered to it.
It limits how much it can take.
But, as to the amount, that is regulated by the state as to what can legally be produced.
Now, the regulation... ratable take also implies and includes ratable production.
The state can have jurisdiction and regulate production from the wells over the producer and this is what was said in Northern Natural; that you can require the producers to produce ratably and to share the market.
This is the concept, if the Court please, of the market demand allocation.
You are requiring the producers with the market to share their market and you are limiting their production to their share of the market.
Thereby, you are eliminating the take or pay problem.
By requiring the producer to share the market and to produce only their share of the market, you are taking care of the problems.
Pipe line doesn't regulate how much can be produced by the state.
Unidentified Justice: May I repeat it once more?
Mr. Grower: Yes.
I am sorry.
Unidentified Justice: Is there any federal regulation that prevents Transco from doing what it was doing when the ratable take rule is applied here, that is drain gas from other producers, from other owners?
Is there any regulation anywhere that prevents that?
Mr. Grower: No, sir, because there is no regulation that deals with that, because, in the first place, I take issue with the premise that Transco is draining, because the producer is draining.
The producer gets the gas, the producer gets the money.
Transco is merely purchasing it.
They could take the same gas and the state could require that producer to share that market and to pay those proceeds to these other producers.
I mean, that is a state function.
That is regulation over the production and gathering of gas that has been traditional regulation that nobody contests the state has a right to.
Unidentified Justice: I don't have any further questions.
Thank you very much.
Mr. Grower: Thank you.
Chief Justice Burger: Thank you, gentlemen.
The case is submitted.