Cull v. Canadian Superior Oil Ltd., [1972] SCR 89

Supreme Court of Canada

Cull v. Canadian Superior Oil Ltd., [1972] S.C.R. 89

Date: 1971-04-27

Ida Armilda Cull (Defendant) Appellant;

and

Canadian Superior Oil Ltd. (Plaintiff) Respondent.

1971: March 19; 1971: April 27.

Present: Abbott, Martland, Judson, Hall and Laskin JJ.

ON APPEAL FROM THE SUPREME COURT OF ALBERTA, APPELLATE DIVISION

Mines and minerals—Petroleum and natural gas lease—Right of lessee, having commenced to drill prior to expiration of primary term, to drill well to completion—Added provision for continuance if production obtained—Whether production must commence immediately upon completion of drilling operations.

The respondent lessee commenced drilling a well on certain leased lands before the expiration of the primary term of the lease and shortly after such expiration the well was completed. Although the well was then capable of producing oil, the flow was shut off because there was no equipment ready to treat and store the production. Some days later, following the erection and installation of facilities to treat and save the oil, the well was reopened and put into production. Thereafter, subject to the monthly quota allowable under the regulations of the Oil and Gas Conservation Board, there was continuous production and the royalties payable in connection therewith were received by the appellant lessor.

The respondent filed a caveat against the leased lands, under the provisions of The Land Titles Act, giving notice of the interest which it claimed therein. The appellant gave notice, under the Act, requiring removal of the caveat, unless proceedings were launched by the respondent to substantiate its interest. An action was then brought seeking a declaration that the lease was good, valid and subsisting. The appellant, by her defence, claimed that the lease had expired.

While the trial judge found that the lease had terminated, he found that the appellant was estopped from raising this contention by reason of her execution of an amending agreement. On appeal, the Court of Appeal disagreed with the trial judge as to his finding with regard to termination of the

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lease, and, accordingly, they found it unnecessary to deal with the finding on estoppel. The appellant then appealed to this Court.

Held: The appeal should be dismissed.

The lease was never terminated and was a good, valid and subsisting contract.

The provisions of cl. 12 of the lease gave to the respondent the right, having commenced to drill a well, prior to the expiration of the primary term of the lease, to drill that well to completion with reasonable diligence and dispatch. This it did. At that point, cl. 12 went on to provide that if oil or gas should be found in paying quantities the lease should continue. This was a provision for continuance of the lease beyond the date of completion if the required condition was met, as it was here, i.e., the finding of oil or gas in paying quantities.

The remainder of cl. 12 said that the lease “shall… be in force with like effect as if such well had been completed within the term of years herein first mentioned” (i.e., within the primary term). The position of the respondent, under the terms of the lease, had it completed a well capable of producing oil in paying quantities within the primary term, would have been that, if the well were put into production, the lease would continue for so long after the primary term as oil was produced from the leased land.

Clause 2, which defined the term of the lease, extended the lease after the primary term for as long as drilling operations were being conducted under the authority of cl. 12 and also “during the production of oil, gas or other mineral resulting therefrom.” This was not construed to mean that, in order to extend the lease during such production, the production must commence immediately upon the completion of drilling operations. It was sufficient if, following completion of the well, production was obtained from it with reasonable diligence and dispatch.

Canadian Superior Oil of California, Ltd. v. Kanstrup et al., [1965] S.C.R. 92; Canadian Superior Oil Ltd. et al. v. Hambly, [1970] S.C.R. 932, distinguished.

APPEAL from a judgment of the Supreme Court of Alberta, Appellate Division[1], dismissing an appeal from a judgment of Sinclair J. Appeal dismissed.

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R.A. McLennan and J. W. K. Shortreed, Q.C., for the defendant, appellant.

D.O. Sabey and J. P. Peacock, for the plaintiff, respondent.

The judgment of the Court was delivered by

MARTLAND J.—The issue to be determined in this appeal is as to the validity of a petroleum and natural gas lease, dated December 30, 1947, granted by the appellant to the respondent. It was made in respect of the North West Quarter of Section 17, Township 39, Range 26, West of the 4th Meridian, in the Province of Alberta, subject to certain specified exceptions, and a portion of the South Half of that Section. The lease was for a primary term of ten years, and the relevant portions provided:

1. Lessor in consideration of $306.00 of lawful money of Canada, the receipt of which is acknowledged by Lessor and the covenants and agreements hereinafter contained, has granted, demised, leased and let and by these presents does grant, demise, lease and let exclusively unto the Lessee for the purpose and with the exclusive right of drilling wells, operating for and producing therefrom oil, gas, casinghead gas, casinghead gasoline and related hydrocarbons, the right to pull any and all casing with rights of way and easements for passage over and upon and across said land and for laying pipelines, telephone, telegraph and power lines, tanks, power houses, stations, gasoline plants, ponds, roadways and fixtures and structures for producing, saving, treating, and caring for such products and housing and boarding employees and any and all other rights and privileges necessary, incident to or convenient for the economical operation on said land for the production of oil, gas, casinghead gas, casinghead gasoline and related hydrocarbons and erection of structures thereon to produce, save, treat, and take care of said products, all that certain tract of land described as:…

2. Subject to the other provisions herein contained this lease shall be for a term of ten years from this date (called “primary term”) and as long thereafter as oil, gas or other mineral is produced from the said land hereunder, or as long thereafter as Lessee

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shall conduct drilling, mining or re-working operations thereon as hereinafter provided and during the production of oil, gas or other mineral resulting therefrom.

Clause 6 required the commencement of operations for drilling on the leased land on or before one year from its date, or the payment of a delay rental of $306. Provision was made for further postponement of the drilling operations from year to year during the primary term by payment of the agreed delay rental.

The relevant portions of cl. 7 of the lease provided:

7. If prior to the discovery of oil or gas on said lands Lessee should drill a dry hole or holes thereon, or if after the discovery of oil or gas the production thereof should cease from any cause, this lease shall continue in force during the primary term, if on or before the rental paying date next ensuing after the expiration of ninety (90) days from date of completion of dry hole or cessation of production Lessee commences drilling or re‑working operation or commences or resumes the payment or tender of rentals, or after the primary term if Lessee commences additional drilling or re-working operations within sixty (60) days from date of completion of dry hole or cessation of production, and if production results therefrom then so long as such production continues.

It was provided by cl. 12 of the lease that:

12. If Lessee shall commence to drill a well within the term of this lease or any extension thereof, Lessee shall have the right to drill such well to completion with reasonable diligence and dispatch, and if oil or gas be found in paying quantities, this lease shall continue and be in force with like effect as if such well had been completed within the term of years herein first mentioned.

Drilling on the leased land was commenced on November 28, 1957, and continued until December 23, 1957, when the desired depth was reached. On December 24 and 25 cores were taken to determine the porosity and permeability

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of the limestone in the target area and on the basis of the sample cores a drillstem test was run from the bottom of the core hole which recovered 2,180 feet of gas and oil and 150 feet of oil and mud emulsion in the drill pipe. It was at this point that the respondent decided to take the necessary steps to complete the well.

Drilling resumed and continued until December 29 when total depth of 6,958 feet was reached. A log was run, the production casing was set and a head was put on the well. On December 30 the main drilling rig was released and, after it had been dismantled and moved away, a smaller service rig was moved on to the site. This was rigged up on January 2, 1958. On January 3 some casing was lost in the well and was not recovered until January 5. The hole was then circulated, a radioactive log was run, perforations were made so as to increase the flow of oil from the producing formation and the final production tubing was put in place. On January 6 the well was treated with 500 gallons of acid which resulted in four or five barrels of oil rising to the surface, thus confirming that the formation had been opened. The acid was then forced out of the well by 150 barrels of “load” oil which was hauled on to the site and introduced into the well. On January 7 six swabs were pulled which caused an undetermined amount of “load” and formation oil to flow from the well. The well was then capable of producing oil, but, because there was no equipment ready to treat and store the production, the flow was shut off.

The well was reopened on January 11, after a 500-barrel tank, a separator and miscellaneous ancillary equipment had been erected and installed at the well site. The first oil to flow into the collecting tank was a mixture of “load” oil and new formation oil. For accounting purposes the respondent treated all of the oil produced on January 11 and 12 as the return of its “load” oil so that actual production was not considered to have commenced until January 13, 1958. Thereafter the production of oil allowable for the well for the month of January, 1958, under the regulations of the Oil and Gas Conservation Board, was

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obtained. Subject to such monthly production allowable, there has been continuous production since that time. The appellant received all royalty cheques payable in connection with production from the well in question.

The respondent, in December 1957, sought to obtain the appellant’s consent to the incorporation into the lease of a pooling clause. It also sought to obtain certain corrections in the description of the leased lands. After considerable correspondence, an agreement was made on July 11, 1958. The respondent paid to the appellant a consideration of $1,000 for her execution of this agreement. It substituted a new land description, which omitted certain exceptions which appeared in the land description contained in the lease. It incorporated a pooling clause into the lease. It provided that its effective date should be November 21, 1957, and that all other terms, covenants and conditions contained in the lease should remain in full force and effect.

The respondent filed a caveat against the leased lands, under the provisions of The Land Titles Act, now R.S.A. 1970, c. 198, giving notice of the interest which it claimed therein. The appellant gave notice, under that Act, requiring removal of the caveat, unless proceedings were launched by the respondent to substantiate its interest. This action was then brought, seeking a declaration that the lease was good, valid and subsisting. The appellant, by her defence, claimed that the lease had expired.

The appellant contended, in the first place, that the “drilling” of the well had been finished on December 28, 1957, and that cl. 12 of the lease never became applicable. Consequently, there being no production at the expiration of the primary term, the lease automatically expired. The learned trial judge held that the well had not been drilled “to completion” when the primary term expired, and that cl. 12 gave the respondent the right, after such expiration, to continue to drill to completion. He also held, contrary to the appellant’s contention, that the respondent had conducted its drilling operations with reasonable diligence and dispatch as required by cl. 12. I would not disturb these conclusions.

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He went on to hold that the well had been completed on January 7, 1958, and that it would have been physically possible to produce oil directly from the well into trucks on that date, but that no prudent operator would have considered doing this because of the danger of hydrogen sulphide. He found that it would have been possible to have ordered and installed the tank, separator and associated equipment and to have connected them to the well so as to produce, treat and save the oil, in a safe manner, within a few hours after the service rig was released on January 7. The first day the facilities were in fact available for that purpose was January 11.

He found, however, that the ordering and installation of the tank, separator and associated equipment was actually done in a manner consistent with good oilfield practice and with reasonable diligence and dispatch, and that there was no intention on the part of the operator to cease operations or to shut in the well. There was a bona fide intention to proceed diligently to place the well on production and this intention was effectuated with reasonable diligence and dispatch, and the well commenced to produce on January 13.

The appellant’s main contention, which was accepted by the learned trial judge, is that the lease expired because, even if it was continued beyond the primary term by the operation of cl. 12, such continuance extended the lease only until the completion of the well, i.e., January 7. It could only be continued thereafter if production was being obtained from the leased lands, and there had been no such production until January 13.

The learned trial judge went on to hold that, although the lease had expired, for the reason submitted by the appellant, the appellant was estopped from raising this contention by reason of her execution of the amending agreement made on July 11, 1958. For that reason he decided in favour of the respondent, and gave judgment declaring the lease to be a good, valid and subsisting contract.

The appellant’s appeal from this judgment was dismissed. The Appellate Division, disagreeing with the learned trial judge on this point, held

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that the lease had never expired. This being so, it was unnecessary to consider whether, assuming it had expired, it had been extended by the amending agreement, or, as held at trial, on the ground of estoppel arising out of that agreement.

The view of the Appellate Division is summarized in the following passages from the reasons of Johnson J.A., who delivered the judgment of the Court. After referring to the judgment of the Appellate Division in Canadian Superior Oil Ltd. et al. v. Murdoch[2], (from which an appeal to this Court was dismissed, without written reasons) and to the judgment of this Court in Canadian Superior Oil of California, Ltd. v. Kanstrup et al.[3] and Canadian Superior Oil Ltd. et al. v. Hambly[4], he went on to say:

It will be seen that the present problem is quite different and, reduced to its simplest terms, is: given a ready market for oil, does the combined effect of these clauses require that production be taken the very moment that the well had been completed? I have said “the very moment” for it must be realized that in every case there will be a period, however short, while the well is connected to the gathering systems and the valves are being turned on, when no production is obtained. It is the submission of appellant’s counsel, that if there is such a period of time, this Court, because of what has been said in these earlier cases, must hold that the lease has not been extended. Certainly there is nothing in the evidence to suggest that, having regard to the usual oilfield practice, it would ever be possible to have production at the exact moment the well was completed. If this argument is valid, lessees would never be able to take advantage of cl. 12.

It is not reasonable, I suggest, to apply so stringent an interpretation. Wells are not permitted to produce constantly. The Conservation Board sets a quota for each well. To fill this quota wells produce for only a few hours each day. No one would suggest that because, at the expiration of the primary term of the lease, the well was shut down and not producing because it had already reached its allotted production for that month, the term of the lease would not be extended under para. 2 of the lease.

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Under that clause, the lessee is permitted to conduct “drilling, mining or re-working operations”. If this required disconnecting the storage system from the well, there would again be a period, short or long, between the completion of these operations and the reconnecting up of the storage tanks and restarting the oil flow. If the appellant is correct in this submission, that delay would also terminate the lease because no production could be obtained during that short time.

…

The learned trial judge, among the findings that he made, said:

“The ordering and installation of the tank, separator and associated equipment was actually done in a manner consistent with good oilfield practice, and with reasonable diligence and dispatch.”

This finding is amply supported by evidence. This was but the second well which was drilled in this area and while it could not be classified as a wildcat, it would not be said to be an established production area. The evidence is that when drilling such wells it is not usual to construct the tank battery until it has been determined that production can be obtained. The oil contained a significant content of noxious gas that was dangerous to persons who came in contact with it. Expert evidence was given that it is prudent to limit the people around the area of the well when such gas is present.

What I consider to be of utmost importance is that the well produced and marketed its full quota of oil for the month of January and the lessor’s assignee received the reserved royalty which the lessor was entitled to receive.

Paragraph 12 requires that the well be drilled to completion “with reasonable diligence and dispatch” and when the procedures which follow are found to have been done in accordance with good oilfield practices and in a reasonable time and have been done “with reasonable diligence and dispatch” it is reasonable to conclude that the requirements of the lease have been complied with and the lease is accordingly extended for so long as production is continued from the well.

I am in agreement with the conclusion of the Appellate Division that this lease did not expire, and I agree that the judgments in this Court in the Kanstrup case and in the Hambly case are not

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contrary to this view. In the Kanstrup case a well had been drilled during the primary term. It was a gas well, and, in the absence of a market, gas was not produced from it. It was capped before the primary term expired. While the lessee had the right, but not the duty, to make a money payment in lieu of actual production, which would have the same effect as if gas were being produced, no such payment was made until after the primary term had expired. The lease, therefore, was not continued beyond that term by the words “and as long thereafter as oil, gas or other mineral is produced from said land”.

The lease in the Hambly case contained a provision in the same terms as cl. 12 of the present lease. The lessee commenced to drill a well shortly before the expiration of the primary term, which was completed thereafter. It was a gas well and there was, at that time, no available market for gas produced from it. It was not intended to be put into production, nor was it put into production. The lessee did not seek to avail itself of its privilege to pay money, in lieu of production, until a week after the completion of the well.

In the present case the respondent drilled a well to completion and, as the trial judge has found, it had a bona fide intention to proceed diligently to place that well on production, which intention it carried out with reasonable diligence and dispatch. It commenced to produce oil on January 13, 1958, and achieved its monthly production allowable in the balance of that month.

The provisions of cl. 12 of the lease gave to the respondent the right, having commenced to drill a well, prior to the expiration of the primary term of the lease, to drill that well to completion with reasonable diligence and dispatch. This it did. At that point, cl. 12 goes on to provide that if oil or gas should be found in paying quantities the lease should continue. This is a provision for continuance of the lease beyond the date of completion if the required condition is met, as it was here, i.e., the finding of oil or gas in paying quantities.

The remainder of cl. 12 says that the lease shall “be in force with like effect as if such well

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had been completed within the term of years herein first mentioned” (i.e., within the primary term). What would have been the position of the respondent, under the terms of the lease, had it completed a well capable of producing oil in paying quantities within the primary term? Its position would have been that, if the well were put into production, the lease would continue for so long after the primary term as oil was produced from the leased land.

Clause 12 does not compel the assumption that the well was to be considered as completed at the moment the primary term expired. The assumption is that of a well completed within the primary term.

In my opinion the fallacy of the appellant’s argument is in construing cl. 12 as extending the lease only to the moment of completion of the well, the drilling of which it permits. It ignores the added provision for continuance if the well which it authorizes to be drilled produces oil or gas in paying quantities. That provision was of no avail in the Hambly case, because the lessee had decided not to produce and took no further steps to produce after the well’s completion. In the present case, the necessary steps were taken, with reasonable diligence and dispatch, and the well was put into production.

I am reinforced in the view which I have taken as to the effect of cl. 12 by considering it in conjunction with the provisions of cl. 2. That clause, which defines the term of the lease, after stating that “this lease shall be for a term of ten years from this date”, goes on to provide: “and as long thereafter as oil, gas or other mineral is produced from the said land hereunder, or as long thereafter as Lessee shall conduct drilling, mining or reworking operations thereon as hereinafter provided and during the production of oil, gas or other mineral resulting therefrom.”

The latter part of this clause, i.e., the second “as long thereafter” provision begins with the word “or”. This part of the clause contemplates, among other things, a possible extension of the

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primary term not only by production, but also by drilling “as hereinafter provided”.

The learned trial judge stated that he believed the words “as hereinafter provided” are intended to refer to cl. 7 of the lease. With respect, it is my view that they should not be interpreted as being so limited. It is true that cl. 7 refers to “drilling or re-working operations”, while cl. 12 refers only to drilling, but neither clause refers to “mining” operations, and the phrase “drilling, mining or re-working operations” would be applicable to any one of those three operations. The words “as hereinafter provided” are broad enough to cover any subsequent provision of the lease dealing with the conduct of drilling, mining or reworking operations authorized to be carried on after the primary term. For these reasons I think that these words apply to cl. 12 as well as to cl. 7.

Clause 2 extends the lease after the primary term for as long as drilling operations are being conducted under the authority of cl. 12 and also “during the production of oil, gas or other mineral resulting therefrom.” I do not construe this to mean that, in order to extend the lease during such production, the production must commence immediately upon the completion of drilling operations. To require that, as urged by the appellant, would deprive that portion of cl. 2, as also cl. 12, of any effect whatever. As was pointed out in the judgment of the Appellate Division, there was nothing in the evidence to suggest that, having regard to usual oilfield practice, it would ever be possible to have production at the exact moment the well was completed. It is sufficient if, following completion of the well, production is obtained from it with reasonable diligence and dispatch.

For these reasons, I am of the opinion that the lease was never terminated and is a good, valid and subsisting contract. In view of this conclusion it is not necessary to consider the other submissions of the respondent based upon the amending agreement made on July 11, 1958.

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I would dismiss the appeal, with costs.

Appeal dismissed with costs.

Solicitors for the defendant, appellant: Ross, McLennan, Ross, Geddes & Ranson, Edmonton.

Solicitors for the plaintiff, respondent: Saucier, Jones & Co., Calgary.