Background
This appeal arose from a dispute over royalties owed to the federal government for natural gas production on federal leases. State officials audited Devon Energy in two thousand and nine and disallowed certain deductions for treating and transporting gas. The Office of Natural Resources Revenue overruled Devon Energy’s objections and ordered payment of over two million dollars. Devon Energy sought judicial review, claiming the agency acted arbitrarily and capriciously. The district court affirmed the agency’s decision.
The court’s reasoning
The court applied de novo review under the arbitrary and capricious standard. It found the agency acted arbitrarily by failing to consider a prior settlement agreement that Devon Energy argued controlled the calculation of treatment costs. The settlement agreement was an important aspect of the problem because it could affect over eighty percent of the disputed royalties. The court rejected the government’s arguments that the error was harmless, noting the record was insufficient to determine if the entities were the same, if the agreement was assumed, or if the rates had expired due to ambiguity in the agreement’s language.
In our view, however, the agency acted arbitrarily and capriciously by failing to consider the effect of a prior settlement agreement.
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The dissent
Because the settlement agreement, even if ambiguous, did not set treatment rates that continued through the relevant audit period, I would affirm the district court and uphold the agency’s decision.
Tymkovich
What it means going forward
The decision requires the agency to reconsider the royalty calculation with proper consideration of the settlement agreement. It clarifies that an agency must address significant factual and legal aspects of a dispute, including prior settlements, to avoid arbitrary and capricious findings.