Chesapeake Operating, LLC v. State

537 P.3d 1134

CHESAPEAKE OPERATING, LLC, Appellant (Petitioner),

v.State of Wyoming, DEPARTMENT OF REVENUE, Appellee (Respondent).

S-23-0036

Supreme Court of Wyoming.

November 7, 2023

Representing Appellant: Walter F. Eggers III and Kasey J. Schlueter, Holland & Hart LLP, Cheyenne, Wyoming. Argument by Mr. Eggers.

Representing Appellee: Bridget Hill, Wyoming Attorney General; Brandi Monger, Deputy Attorney General; Karl D. Anderson, Supervising Attorney General; James Peters, Senior Assistant Attorney General. Argument by Mr. Peters.

Before FOX, C.J., and KAUTZ, BOOMGAARDEN, GRAY, and FENN, JJ.

GRAY, Justice.

[¶1] The Wyoming Departments of Audit and Revenue (Department) conducted a mineral tax audit of Chesapeake Operating, LLC's (Chesapeake) oil and gas production for the production years 2010-2012 and 2014-2016. It issued audit assessments increasing the value of Chesapeake's production based on a point of valuation downstream from the custody transfer meters located near each wellhead. Chesapeake disputed the Department's assessments and point of valuation. The Board of Equalization (Board) affirmed. Chesapeake appealed, arguing the Board erred in affirming the point of valuation because Chesapeake's field facilities were "processing facilit[ies]" under Wyo. Stat. Ann. § 39-14-203(b)(iv) and that the proper point of valuation for its gas production is at the custody transfer meters. Pursuant to W.R.A.P. 12.09(b), the district court certified the case directly for this Court's review. We affirm.

ISSUE

[¶2] The parties present a single issue for review:

Did the State Board of Equalization misinterpret Wyo. Stat. Ann. § 39-14-203(b)(iv) when it found Chesapeake's facilities did not qualify as processing facilities?

FACTS

[¶3] The crux of this dispute is where Chesapeake's natural gas production stops and processing begins. Under Wyoming's tax code, costs incurred in the production of oil and gas are not deductible from severance and ad valorem taxes, but costs incurred for processing are deductible. See Wyo. Stat. Ann. § 39-14-203(b) (severance taxes); §§ 39-13-102(m)(i), 103(b)(iv) (ad valorem taxes). Accordingly, the closer to the wellhead processing occurs, the more advantageous it is to the taxpayer. Williams Prod. RMT Co. v. State Dep't of Revenue , 2005 WY 28, ¶ 10, 107 P.3d 179, 183–84 (Wyo. 2005).

[¶4] Chesapeake produces oil and natural gas from horizontal wells in Converse County, Wyoming. Initially, the gas was flared¹ and oil was sold out of storage tanks at the well pads. Between 2010 and 2016, Chesapeake began selling the natural gas and expanded its production by drilling more wells. Over this period, seven separately located facilities (referred to here as "the seven facilities" or "the facilities") were built to assist with the expanded operations. These are known as the Pronghorn, Antelope, Gumbo Hill, No Name, Pale Horse, Rawhide, and Appaloosa facilities. All seven facilities were essentially identical to each other for the production years in question. In these proceedings, the parties used the Rawhide facility as the exemplar for all seven facilities.

[¶5] Chesapeake's production system is complex. Oil and gas are extracted from the field using wells extending from well pads. After extraction, a vertical separator near the wellhead separates liquids from gas. Oil and water move to heater treaters.² The heater treaters remove additional liquid from the gas and separate oil from water. The water and oil are stored in tanks. Key to this discussion, after separation at the wellhead, the gas passes through the custody transfer meter and is transported through a natural gas pipeline to one of the seven facilities.

[¶6] Each of these facilities is large and includes multiple buildings. They are fenced and occupy 12 acres of land. They are monitored remotely, 24 hours a day, 7 days a week by the operators of the system, who are available to address any problems that might arise. When the gas arrives at a facility, it first flows to separators where heavier condensate, oil, water, and other substances are removed. From there, the liquids are piped to an onsite slug catcher³ for further separation. Heavier hydrocarbons are stored in tanks and ultimately sold. The separated gas flows to compressors where gas is pressurized to meet pipeline specifications. At the Rawhide facility there are ten compressors housed in two separate buildings. The compressors increase the gas stream pressure from about 40 pounds per square inch (psi) to between 800 and 900 psi. The gas then moves to the triethylene glycol (TEG) dehydrator⁴ where water vapor is removed.⁵ Gas exits the TEG dehydrator and is moved through high pressure transport lines to one of two natural gas liquids (NGL) extraction facilities for processing and eventual sale. The two NGL extraction facilities are the Tallgrass and Bucking Horse facilities. The parties do not dispute that these facilities are processing facilities.

[¶7] The Department audited Chesapeake's natural gas production for the years 2010-2012 and 2014-2016. The Department first determined the point of valuation. Wyoming statutes provide that the "fair market value for crude oil, lease condensate and natural gas shall be determined after the production process is completed ... [and] expenses incurred by the producer prior to the point of valuation are not deductible in determining the fair market value of the mineral[.]" Wyo. Stat. Ann. § 39-14-203(b)(ii) (LexisNexis 2023). The Department concluded despite the functions described above, the seven facilities were production facilities and production was not complete until the natural gas left the TEG dehydrators. It used the outlet of the TEG dehydrators as the point of valuation and determined Chesapeake owed an additional $872,838.14 severance tax and interest for the 2010-2012 production years and an additional $3,245,064.90 severance tax and interest for the 2014-2016 production years.

[¶8] Chesapeake timely appealed to the Board. Chesapeake argued that because the seven facilities are "processing facilities" as the term is used in the mineral tax statutes, production is complete when natural gas enters the custody transfer meter at the wellhead, prior to the arrival at one of the seven facilities. It asserted the custody transfer meter is the point of valuation. The Department stood by its position that the seven facilities are production facilities, and the point of valuation is at the outlet of the TEG dehydrator. After a contested case hearing, the Board concluded the Department was correct and that Chesapeake had offered "no technical evidence" supporting its contention that the seven facilities were processing facilities. Chesapeake appealed and the parties filed a joint motion asking that the case be certified to this Court. This Court accepted certification on February 28, 2023.

STANDARD OF REVIEW

[¶9] "When an administrative agency case is certified to this Court under W.R.A.P. 12.09(b), we apply the standards for judicial review set forth in Wyo. Stat. Ann. § 16-3-114(c)." Jonah Energy LLC v. Wyo. Dep't of Revenue , 2023 WY 87, ¶ 6, 534 P.3d 902, 905 (Wyo. 2023) (quoting Wyodak Res. Dev. Corp. v. Wyo. Dep't of Revenue , 2017 WY 6, ¶ 14, 387 P.3d 725, 729 (Wyo. 2017) (citing Wyodak Res. Dev. Corp. v. Wyo. Dep't of Revenue , 2002 WY 181, ¶ 9, 60 P.3d 129, 134 (Wyo. 2002) )). Wyo. Stat. Ann. § 16-3-114(c) provides:

the reviewing court shall decide all relevant questions of law, interpret constitutional and statutory provisions, and determine the meaning or applicability of the terms of an agency action. In making the following determinations, the court shall review the whole record or those parts of it cited by a party and due account shall be taken of the rule of prejudicial error. The reviewing court shall:

(i) Compel agency action unlawfully withheld or unreasonably delayed; and

(ii) Hold unlawful and set aside agency action, findings and conclusions found to be:

(A) Arbitrary, capricious, an abuse of discretion or otherwise not in accordance with law;

(B) Contrary to constitutional right, power, privilege or immunity;

(C) In excess of statutory jurisdiction, authority or limitations or lacking statutory right;

(D) Without observance of procedure required by law; or

(E) Unsupported by substantial evidence in a case reviewed on the record of an agency hearing provided by statute.

Wyo. Stat. Ann. § 16-3-114(c) (LexisNexis 2023).

[¶10] Chesapeake does not challenge the Board's findings of fact. It asserts the Board incorrectly applied the law to the facts. To resolve the dispute, we must interpret Wyo. Stat. Ann. § 39-14-203 and determine whether the Board correctly applied the statute to the undisputed facts. Statutory interpretation is a question of law subject to de novo review. Jonah Energy , ¶ 7, 534 P.3d at 905 ; Exxon Mobil Corp. v. State, Dep't of Revenue , 2009 WY 139, ¶ 11, 219 P.3d 128, 134 (Wyo. 2009).

[¶11] When we interpret statutes, we first determine whether the statute is unambiguous. Exxon Mobil , ¶ 11, 219 P.3d at 134 (citations omitted). A statute is unambiguous if reasonable persons can "agree as to its meaning with consistency and predictability. Unless another meaning is clearly intended, words and phrases shall be taken in their ordinary and usual sense. Conversely, a statute is ambiguous only if it is found to be vague or uncertain and subject to varying interpretations." Id. (citations omitted).

DISCUSSION

[¶12] The fair market value of natural gas for severance and ad valorem tax purposes is determined after "the production process is completed." Wyo. Stat. Ann. § 39-14-203(b)(iv). "It is not always clear ... just where the production process is completed and other operations, such as transportation, are begun."

Exxon Mobil , ¶ 12, 219 P.3d at 134. In 1990, the legislature defined the completion of natural gas production:

The production process for natural gas is completed after extracting from the well, gathering,

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