Shell Oil Co v. Babbitt

Opinions of the United
1997 Decisions States Court of Appeals
for the Third Circuit

9-19-1997

Shell Oil Co v. Babbitt
Precedential or Non-Precedential:

Docket
97-7035

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Recommended Citation
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http://digitalcommons.law.villanova.edu/thirdcircuit_1997/223

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Filed September 19, 1997

UNITED STATES COURT OF APPEALS
FOR THE THIRD CIRCUIT

No. 97-7035

SHELL OIL COMPANY,

Appellant

v.

BRUCE BABBITT; THE UNITED STATES
DEPARTMENT OF THE INTERIOR

On Appeal from the United States District Court
for the District of Delaware
(D.C. Civ. No. 95-00492)

Argued August 14, 1997

BEFORE: STAPLETON, GREENBERG, and COWEN,
Circuit Judges

(Filed: September 19, 1997)

L. Poe Leggette (argued)
Jackson & Kelly
2401 Pennsylvania Avenue, N.W.
Suite 400
Washington, D.C. 20037

Attorneys for Appellant

Lois J. Schiffer
Assistant Attorney General
Gregory M. Sleet
United States Attorney
Wilmington, Delaware 19899
Patricia C. Hannigan
Assistant United States Attorney
Wilmington, Delaware 19899
J. Carol Williams
Michael J. Robinson
Robert L. Klarquist (argued)
Attorneys, Department of Justice
Environment & Natural Resources
Division
P.O. Box 23795, L'Enfant Station
 Washington, D.C. 20026
Geoffrey Heath
Lisa K. Hemmer
Sarah L. Inderbitzin
Office of the Solicitor
Department of the Interior
Washington, D.C. 20240

Attorneys for Appellee

OPINION OF THE COURT

GREENBERG, Circuit Judge.

This case is before this court on an appeal by Shell Oil
Co. ("Shell") from an order of the district court which
sustained an order of the Department of the Interior
Minerals Management Service ("MMS") requiring Shell to
produce certain documents. The district court had
jurisdiction under 28 U.S.C. S 1331, and we have
jurisdiction under 28 U.S.C. S 1291. This appeal turns on
issues of statutory and regulatory interpretation.

I. FACTUAL AND PROCEDURAL HISTORY

Congress has empowered the Department of the Interior
to enter into and administer leases to develop oil and gas

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resources on federal lands. Congress enacted the Federal
Oil and Gas Royalty Management Act ("FOGRMA") in 1983,
to strengthen the ability of the Secretary of the Interior
("Secretary") to collect oil and gas royalties by developing a
comprehensive system of royalty management in order
properly to collect and account for all royalties. 30 U.S.C.
SS 1701 et seq. FOGRMA authorizes the Secretary to "audit
and reconcile, to the extent practicable, all current and
past lease accounts for leases of oil and gas and take
appropriate actions to make additional collection or refunds
as warranted." Section 101(c)(1), 30 U.S.C. S 1711(c)(1).
Section 103(a) of FOGRMA, 30 U.S.C. S 1713(a), deals with
maintenance of information and production of records:

A lessee, operator, or other person directly involved in
developing, producing, transporting, purchasing, or
selling oil or gas subject to this chapter through the
point of first sale or the point of royalty computation,
whichever is later, shall establish and maintain any
records, make any reports, and provide any
information that the Secretary may, by rule, reasonably
require for the purposes of implementing this chapter
 or determining compliance with rules or orders under
this chapter. Upon the request of any officer or
employee duly designated by the Secretary or any State
or Indian tribe conducting an audit or investigation
pursuant to this act, the appropriate records, reports,
or information which may be required by this section
shall be made available for inspection and duplication
by such officer or employee, State, or Indian tribe.

Section 3(12) of FOGRMA defines "person" as "any
individual, firm, corporation, association, partnership
consortium, or joint venture." 30 U.S.C. S 1702(12). Thus,
Shell as a corporation can be a person within section 103(a)
and its implementing regulations.

The Secretary has delegated royalty enforcement
responsibilities to the Director of the MMS. MMS
regulations require "each lessee, operator, revenue payor or
other person [to] make and retain accurate and complete
records necessary to demonstrate that payments of rentals,
royalties . . . and other payments . . . are in compliance
with lease terms, regulations, and orders." 30 C.F.R.

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S 212.51(a). The "lessee, operator, revenue payor, or other
person required to keep records" must maintain them for
six years and make them available for inspection. 30 C.F.R.
S 212.51(b)-(c).

Shell Western E & P, Inc. ("Shell Ex") is primarily a
producer of oil and is a wholly owned subsidiary of Shell,
which primarily markets oil. App. at 175, 181. Shell Ex
produces oil from land within 32 federal leases in California
issued under the Mineral Lands Leasing Act, 30 U.S.C.
S 181, and pays royalties to the federal government on the
oil produced.1 App. at 181. Shell Ex sells much of this oil
to Shell pursuant to an agreement dated January 1, 1985,
under which Shell pays its posted prices for that
geographical area or uses third-party price postings, as was
done here because Shell does not post prices for California.
App. at 175-76, 290.

The Secretary can delegate audit authority for federal
leases to the state in which they are located. 30 U.S.C.
S 1735(a). Pursuant to this delegation of authority, the
California State Controller's Office ("State") reviewed Shell
Ex's onshore leases in California for the period from
January 1, 1985, to December 31, 1988. The State
requested that Shell provide records relating to its
disposition of federally derived oil purchased from Shell Ex,
but Shell declined to comply with this request on the basis
that the transactions between Shell Ex and Shell
constituted the point of royalty computation. App. at 181-
82.

On April 3, 1990, the Denver office of the Royalty
Compliance Division of MMS ordered Shell to turn over the
documents requested by the State, which included all
documents regarding the disposition of federally derived oil,
the sales contracts and verification of all revenue from sales
of this oil to third parties, and a detailed schematic showing
the pipeline system used to transport this oil. App. at 168-
69. MMS stated in the order that data regarding Shell's
arm's-length sales of the oil were necessary to determine
_________________________________________________________________

1. For onshore leases like the ones at issue here, the state in which the
leases are located receives 50% of the royalties. 30 U.S.C. S 191.

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whether the non-arm's length price Shell paid Shell Ex was
acceptable for royalty valuation purposes.

Shell appealed this order to the Director of MMS, who
sustained the order of the Denver office. The Director ruled
that the gross proceeds rule2 required that Shell be
considered the "lessee" whenever it resold oil purchased
from Shell Ex, and thus the requested documents were
necessary to determine the proper royalty valuation. App. at
183-84.

Shell then appealed from the Director's decision to the
Interior Board of Land Appeals ("IBLA") which originally
ruled in its favor. Shell Oil Co., 130 IBLA 93 (1994). In its
opinion the IBLA ruled that under the March 1, 1988
revisions to the MMS regulations, Shell's proceeds are only
relevant if Shell is a "marketing affiliate" for Shell Ex. See
30 C.F.R. S 206.102(b)(1)(i) (when oil sold to marketing
affiliate, lessee's "gross proceeds" is value obtained by
marketing affiliate in arm's-length sale of oil). The IBLA
found that Shell was not a marketing affiliate of Shell Ex,
as defined in 30 C.F.R. S 206.101, and thus information
relating to Shell's proceeds was not relevant. 130 IBLA at
96-97.

The IBLA reversed itself after MMS petitioned for
reconsideration. Shell Oil Co. (On reconsideration), 132 IBLA
354 (1995). The IBLA ruled that the marketing affiliate
issue was irrelevant to whether the gross proceeds rule
applied and information regarding Shell's proceeds from the
oil was necessary to determine the value of production. Id.
at 356-58. The IBLA later denied Shell's petition to
reconsider this decision.

Shell then filed this suit in the district court in Delaware
seeking a declaration that MMS could not order it to
_________________________________________________________________

2. This rule was amended on March 1, 1988, and now states that "under
no circumstances shall the value of production, for royalty purposes, be
less than the gross proceeds accruing to the lessee for lease production,
less applicable allowances determined pursuant to the subpart." 30
C.F.R. S 206.102(h). Previously, the rule stated that "[u]nder no
circumstances shall the value of production . . . be deemed to be less
than the gross proceeds accruing to the lessee from the sale thereof
. . . ." 30 C.F.R. S 206.103 (1987).

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produce the documents in question. Thus, Shell requested
an order vacating the MMS's order. The Secretary of the
Interior unsuccessfully sought to have the suit dismissed or
transferred on venue grounds. Shell Oil Co. v. Babbitt, 920
F. Supp. 559 (D. Del. 1996). The government then filed a
counterclaim seeking enforcement of the MMS order. After
both parties moved for summary judgment, the court ruled
in favor of the government and upheld the IBLA's decision
on November 14, 1996. Shell Oil Co. v. Babbitt, 945 F.
Supp. 792 (D. Del. 1996). The district court held that
FOGRMA section 103(a), 30 U.S.C. S 1713(a), defined only
the class of persons from which the Secretary can obtain
documents and did not limit, as Shell argued, the type of
documents to be maintained. The court also found that
Shell was covered by 30 C.F.R. S 212.51 as an"other
person" despite the fact that Shell did not have paying or
operating responsibility on the lease.

Shell then filed a timely notice of appeal. Shell now
argues that neither section 103(a) of FOGRMA nor 30
C.F.R. S 212.51 gives the Secretary authority to seek
documents relating to events after the first sale of oil from
a federal lessee, regardless of whether the sale is to an
affiliated company. We review the district court's
interpretation of both statutes and regulations on a de novo
basis. United States v. Brace, 41 F.3d 117, 122 (3d Cir.
1994); Sheet Metal Workers, Local 19 v. 2300 Group, Inc.,
949 F.2d 1274, 1279 (3d Cir. 1991). Nevertheless, if
Congress has not spoken directly to the question in issue,
we will defer to a reasonable construction of a statute by
the agency which administers it. Chevron U.S.A. Inc. v.
Natural Resources Defense Council, Inc., 467 U.S. 837, 842-
43, 104 S.Ct. 2778, 2781-82 (1984). Moreover, we will
uphold an agency's interpretation of its own regulations
"unless it is plainly erroneous or inconsistent with the
regulation." Thomas Jefferson Univ. v. Shalala, 512 U.S.
504, 512, 114 S.Ct. 2381, 2386 (1994).3
_________________________________________________________________

3. A challenge to the validity of a subpoena for similar documents
covering 1989-96 is pending in United States v. Shell Oil Co., Misc. No.
31372 (C.D. Cal.). Shell also is challenging an MMS order to pay
additional royalties for a portion of the time period at issue here. Shell
Oil Co. v. Babbitt, No. 96-CV-1078-H (N.D. Okla.).

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II. DISCUSSION

A. Section 103(a) of FOGRMA

Shell argues that section 103(a) does not give the
Secretary the authority to seek the requested documents
relating to Shell's disposition of the oil it bought from Shell
Ex. It contends that the Secretary and the district court
erred in determining that the underlined portion of section
103(a) -- "A lessee, operator, or other person directly
involved in developing, producing, transporting,
purchasing, or selling oil or gas subject to this chapter
through the point of first sale or the point of royalty
computation, whichever is later, shall establish and
maintain any records . . ." 30 U.S.C. S 1713(a) (emphasis
added) -- limited only the class of persons from whom the
Secretary could request documents and did not limit the
type of document involved. Shell contends that the phrase
"through the point of first sale or the point of royalty
computation" limits the type of documents, not the type of
person.

In a case almost directly on point, the Court of Appeals
for the Tenth Circuit ruled that MMS has the authority to
request exactly the type of documents at issue here,
records of subsequent sales by a company which
purchased oil from an affiliated federal lessee.4 Santa Fe
Energy Prods. Co. v. McCutcheon, 90 F.3d 409 (10th Cir.
1996). While the Santa Fe court did not specifically address
the argument Shell raises here, it ruled that section 103(a)
covers the first purchaser of oil produced under a federal
lease because such a purchaser is a " `person directly
involved in . . . purchasing . . . oil or gas subject to this
chapter through the point of first sale or royalty
computation.' " Id. at 414 (quoting 30 U.S.C. S 1713(a)).

The Secretary urges precisely this interpretation of
FOGRMA here. We agree with both the Secretary and the
Court of Appeals for the Tenth Circuit. Further, wefind
that this interpretation is the most natural reading of the
_________________________________________________________________

4. Shell does not distinguish this case except to note that the court did
not discuss the legislative history of FOGRMA. Br. at 32 n.20.

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statute,5 and thus the intent of Congress is clear without
resort to the legislative history. See Chevron, 467 U.S. at
842-43, 104 S.Ct. at 2781-82. We therefore do not
comment on Shell's exhaustive discussion of the legislative
history of FOGRMA except to say that we do not find
sufficient remarks dealing with the narrow issue in this
case to support its position. Id. at 862, 104 S.Ct. at 2791.
Since the legislative history does not compel a different
result, we must find the plain language of the statute
dispositive. Consumer Prod. Safety Comm'n v. GTE Sylvania,
Inc., 447 U.S. 102, 108, 100 S.Ct. 2051, 2056 (1980).

B. Implementing Regulation

Shell also argues that the implementing regulation for
section 103 of FOGRMA, 30 C.F.R. S 212.51, does not apply
in this case. Section 212.51(a) provides:

Each lessee, operator, revenue payor, or other person
shall make and retain accurate and complete records
necessary to demonstrate that payments of rentals,
royalties, net profit shares, and other payments related
to offshore and onshore Federal and Indian oil and gas
leases are in compliance with lease terms, regulations,
and orders. Records covered by this section include
those specified by lease terms, notices and orders, and
by the various parts of this chapter. Records also
include computer programs, automated files, and
supporting systems documentation used to produce
automated reports or magnetic tape submitted to the
Minerals Management Service (MMS) for use in its
Auditing and Financial System (AFS) and Production
Accounting and Auditing System (PAAS).
_________________________________________________________________

5. We do not find the "acute redundancy" which Shell argues this
reading of the statute creates. Br. at 25. The phrase "directly involved"
in section 103(a) of FOGRMA modifies a number of activities in addition
to purchasing oil (developing, transporting, selling). Shell's argument
that the parties involved in the first sale of oil necessarily are
directly
involved in purchasing oil is true, but someone directly involved in
transporting oil is not, and the phrase "through the point of first sale"
is
therefore necessary to limit the class of people required to maintain
records. Without the limitation, section 103(a) could apply far
downstream.

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Shell argues that only those documents specified in the
latter two sentences of section 212.51(a) can be requested.
The Secretary contends that the regulation creates a duty
to maintain all documents "necessary to demonstrate" that
the lessee is complying with royalty requirements and that
the second and third sentences are illustrations rather than
an exhaustive list. The Secretary contends that the
language of the regulation neither states nor implies that
the examples listed are complete. It merely says that
required records "include" those listed. See 30 C.F.R.
S 212.51(a).

Shell argues that the Secretary's "original intent" in
drafting the regulation supports its view. Shell's main
support for this "intent" argument is that the preamble
does not explicitly deny the reading Shell urges. We,
however, do not find that the preamble resolves the issue.
Shell also argues that the Secretary's statements to the
Office of Management and Budget under the Paperwork
Reduction Act ("PRA"), 44 U.S.C. SS 3501 et seq., do not
support the Secretary's current interpretation of the
regulation. Shell does not mention that the PRA does not
apply to the collection of information during FOGRMA
audits. See Phillips Petroleum Co. v. Lujan, 963 F.2d 1380,
1387 (10th Cir. 1992) (discussing 44 U.S.C. S 3518(c)(1)(B)
PRA exemption for administrative investigations).

Shell also argues that it is not covered under the
regulation because the last sentence of section 212.51(b)
states: "Lessees, operators, revenue payors, or other
persons shall maintain the records generated during the
period for which they have paying or operating
responsibility on the lease for a period of 6 years." Shell
argues that this 6-year limit only applies to "lessees,
operators, revenue payors, or other persons" who have
"paying or operating responsibility on the lease" and since
Shell does not have such responsibility the limit does not
apply to it. Thus, according to Shell, either Shell has to
keep records forever, or it does not have a duty to keep
records at all. In other words, in its view Shell is not an
"other person" under section 212.51(a). Since FOGRMA
itself also imposes a 6-year record-keeping limitation
period, 30 U.S.C. S 1713(b), Shell contends that section

9
212.51 also applies only to persons having paying or
operating responsibility.

While this is an intricately constructed argument, it
ultimately collapses under its own weight. We acknowledge
that there is some ambiguity in section 212.51(b), but Shell
proposes that we resolve that ambiguity by distorting
section 212.51(a). The plain language of section 212.51(a)
makes clear that it applies to "other persons" in addition to
operators and payors, and it does not make sense to read
other persons as "other persons with paying or operating
responsibility."

Shell has failed to demonstrate that the agency's
interpretation of section 212.51 is "plainly erroneous or
inconsistent with the regulation." Thomas Jefferson Univ.,
512 U.S. at 512, 114 S.Ct. at 2386. We therefore must give
the interpretation "controlling weight," id., and affirm the
district court's ruling that section 212.51 applies to Shell
and MMS has authority to order the production of the
documents at issue.

C. 1988 Regulatory Amendments

We address one final issue. On March 1, 1988, amended
royalty valuation regulations became effective. These
regulations apply only to oil produced after their effective
date, see Santa Fe, 90 F.3d at 413, which is only the last
ten months of the period at issue here. For the bulk of the
period in this case, Santa Fe is applicable, and we follow it
and hold that the Secretary clearly has authority to seek
the requested documents. For the last ten months,
however, we must consider the effect of the new
regulations, an issue Sante Fe did not address explicitly.

Under 30 C.F.R. S 206.102(b)(1)(i), when oil is sold or
transferred by a federal lessee to its marketing affiliate,
which then resells it, the value of the oil for royalty
purposes is the value the marketing affiliate receives from
an arm's-length purchaser. Shell, however, is not a
marketing affiliate of Shell Ex because it does not acquire
and market oil only from Shell Ex. See 30 C.F.R. S 206.101.
Non-arm's-length transactions, other than with marketing
affiliates, are covered by 30 C.F.R. S 206.102(c), which lists

10

several different methods of royalty computation. The IBLA
originally found that the third-party posted prices used in
the sales from Shell Ex to Shell met the requirements of 30
C.F.R. S 206.102(c)(2). Given this holding, MMS did not
need the documents requested because the gross proceeds
rule is only applicable to an affiliate when it is a marketing
affiliate, thus distinguishing Santa Fe. 130 IBLA at 97. On
reconsideration, however, the IBLA determined that the
marketing affiliate distinction was not relevant to this case
because the gross proceeds rule, 30 C.F.R. S 206.102(h),
supersedes all other royalty calculation methods. 132 IBLA
at 355-56.

It is undisputed that Shell paid Shell Ex a "market price"
for the federally derived oil it purchased. The gross
proceeds rule requires that the federal royalties be based,
at a minimum, on what the lessee receives for the oil, not
the "market price" of the oil. If Shell Ex sold the oil at a
premium above the market price, federal royalties would be
based on that premium price. Shell appears to be arguing
that it can avoid this result by purchasing the oil from
Shell Ex at the market price and then reselling it at a
premium itself. MMS is entitled to documents which will
allow it to determine if Shell Ex is undervaluing oil for
royalty purposes by first transferring it to Shell. Whether or
not that is so we are satisfied that for auditing purposes
Shell must disclose the records the State requested.

III. CONCLUSION

We conclude by emphasizing that our ruling is narrow.
We do not find that MMS can impute the proceeds received
by Shell to Shell Ex. We will leave the determination of that
issue to a case in which it is presented. Thus, we agree
with Shell that this appeal "does not directly concern the
proper value of royalties on oil produced from [Shell Ex's]
32 leases." Br. at 7. Consequently, we hold only that given
an administrative agency's broad investigative authority,
see United States v. Morton Salt Co., 338 U.S. 632, 642-43,
70 S.Ct. 357, 364 (1950), and the statutory and regulatory
scheme we have described, MMS is authorized to order the
production of documents relating to Shell's arm's-length
sales of the oil it purchased from Shell Ex in non-arm's-

11

length transactions. In the circumstances, we will affirm
the order of the district court entered November 11, 1996.

A True Copy:
Teste:

Clerk of the United States Court of Appeals
for the Third Circuit

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