Managing Risk in the Marcellus Shale Region:  Best Practices for Corporate Counsel

BY: MICHAEL CONLEY & MEGHAN FINNERTY

Companies who either lease land for hydraulic fracturing (“fracking”) or provide goods, services, or workers to the gas companies in the Marcellus Shale Region should constantly reevaluate their risk management strategies.  A flurry of recent media attention in the last month of 2011 has provided these businesses with additional motivation to take stock of potential exposures moving forward into 2012.

For example, critics are currently challenging a perceived lack of governmental regulation of hundreds of miles of 20 inch, high-pressure pipelines that have been built to transport the natural gas out of the state.  With potentially no federal or state government safety checks, construction standards, inspections or monitoring of vast areas of this pipeline, it is more important than ever for businesses that contract with gas companies to evaluate how to best protect themselves from the gambit of fracking-related claims and litigation, which can include everything from on the job injuries to environmental contamination. 

Alarmingly, another recent news story has called into question whether these risks are being effectively managed.  On December 1, 2011, a research team from the Emmett Environmental Law and Policy Clinic at Harvard Law School and the New York Times made public a searchable online database with a collection of over 111,000 oil and gas leases and related documents that were compiled from responses to open records requests made to more than six dozen, natural gas rich counties.  A review of the public database confirms that many leases are woefully inadequate to insulate landowners from liability for claims arising out of the fracking process, including the transport of gas via pipeline.

Whether your company is entering into a lease or a master service agreement, you may be under the impression that the contract prepared by the gas company is offered on a take it or leave it basis.  While this may turn out to be accurate, the risks involved with fracking are too great to ignore, and companies should at a minimum be aware of issues involving indemnity and insurance with their leases and contracts, so that these issues can meaningfully be addressed either with the gas company or independently with your risk management and insurance team.

While every situation is unique, here are some considerations for businesses in the Marcellus Shale region to evaluate whether they are adequately protected for claims arising out of fracking:

1. Understand the Contractual Indemnity Provisions in Your Contract or Lease.

 
Whether you are a contractor working with oil and gas companies, or a business leasing mineral rights, in order to effectively manage your company’s exposures, you need to understand how risk is allocated in your contract with the gas company.

The majority of subcontractor agreements with gas companies include “knock for knock” indemnity provisions, meaning that each party assumes complete responsibility for its own personnel and property, regardless of fault.  Thus, when contemplating risk, you should be aware that if an explosion occurs injuring your workers, you may have an obligation to defend and indemnify the gas company even if the explosion occurred entirely as a result of the gas company’s own negligence, and through no fault of your company. 

With regard to leases, a review of oil and gas leases from the online database reveals that many leases contain boilerplate indemnity provisions in which the gas company promises to indemnify and hold harmless the property owner in the event of a claim.  These provisions may be offering property owners a false sense of security where larger corporations are using LLCs and subsidiaries to enter into these legal contracts.  An indemnification provision is only as good as the party agreeing to provide the indemnification.  Businesses should investigate the financial solvency of the entity signing the oil and gas lease or applying for the oil and gas permit.  Additionally, in order to ensure that you have adequate protection in the event you are personally tied to allegations of negligence or wrongdoing, indemnification provisions in leases should be as broad as allowable under applicable law. These indemnification provisions should include language indemnifying you for your own acts of negligence where such indemnity is not otherwise against public policy. 

2. Insist on Effective Insurance Provisions.

Businesses that lease or contract with gas companies should also pay special attention to the role insurance can play in the risk allocation matrix set forth in the contract or lease with the gas company.  

Surprisingly, many oil and gas leases contain no provision requiring any type of insurance on the part of the companies engaging in the drilling.  Businesses leasing land should require not only that they be named as an additional insured on all insurance policies of the oil and gas company, but also on the insurance policies of any contractor that comes onto the property for any purpose related to the drilling.  Moreover, simply asking to be listed as an additional insured is not enough.  Businesses should keep in mind that not all additional insured provisions in insurance policies are the same.  If left to the insurance company to choose, undoubtedly the insurance company will utilize as narrow an additional insured provision as possible.  For the greatest protection, the additional insured provision in the oil and gas lease should clearly state the scope of the coverage for the additional insured. 

Businesses should also investigate the scope of coverage contained in the oil and gas company’s insurance policies.  By way of example, most commercial general liability policies contain pollution exclusions, which insurance companies will undoubtedly rely upon to exclude coverage for the discharge of any “pollutant”.  Oil and gas companies and companies involved in drilling can and should carry specialty insurance for their operation that do not contain exclusions for pollution liability or contain only limited pollution exclusions.  Companies who lease mineral rights to gas companies should be aware that this specialized coverage is available; otherwise they may be arguing with the insurance company over coverage under a policy with a pollution exclusion. 

Conversely, if you are contracting to provide services, equipment or employees to a gas company, it may be the gas company who is insisting on being named as an additional insured on your insurance policies.  You should be aware of how your insurance scheme will be affected if you are required to name the gas company as an additional insured, as it my detrimentally affect your ability to purchase cost effective insurance, as wipe-out your limits in the event that you are able to place coverage.  Take the position in the negotiation process that contractual insurance provisions are only for purposes of assuring the gas company that you will have insurance to support your contractual assumptions of liability and indemnities. In the event you are unable to negotiate around the gas company’s request to be named as an additional insured, investigate purchasing coverage with separate limits for your liabilities and those of the gas company.

Regardless of whether you are contracting with the gas company or leasing mineral rights, businesses should dictate the terms of coverage acceptable to them, and should not rely upon Certificates of Insurance as evidence of compliance with insurance provisions of a contract, or as evidence of compliance with permitting requirements.   Certificates of Insurance may not be binding on an insurance company and often contain limited and incorrect information.  The only way to make sure the insurance policies meet either the contractual or permitting requirements is to obtain, and fully review, copies of the actual policies.

3. Engage in Effective Claims Handling.

Finally, in the event of a potential claim, businesses need to be vigilant in making sure that timely notice of a claim or potential claim is provided to under every potentially applicable insurance policy. In no instance should you rely on the gas company to give notice on your behalf.  Even if you do not have all the particulars of your claim, give notice immediately, you can always supplement the notice later.

While some fracking-related liability is the cost of doing business in the Marcellus Shale region, businesses can nevertheless minimize their uninsured exposure by engaging in effective risk management strategies from the intitial negotiation of the contract or lease all the way through to receipt of a claim.

About the Authors:

Michael Conleyis a Principal at Offit Kurman and Chair of the firm’s Insurance Recovery practice. Mr. Conley is a frequent speaker on insurance recovery and fracking issues.  To speak with Mr. Conley regarding the contents of this article, an issue related to Marcellus Shale drilling, or coverage issues in general, please contact him at 267.338.1317 or mconley@offitkurman.com.

Meghan K. Finnertyis an Associate at Offit Kurman and a member of the Insurance Recovery practice. Ms. Finnerty’s practice includes a focus on insurance recovery for environmental issues.  To speak with Ms. Finnerty regarding the contents of this article, an issue related to Marcellus Shale drilling, or coverage issues in general, please contact her at 267.338.1322 or mfinnerty@offitkurman.com.

Reprinted with permission from the December 18, 2011 editions of the Legal Intelligencer © 2012 ALM Media Properties, LLC.  All Rights Reserved.  Further Duplication without permission is prohibited.  For information, contact 877-257-3382, reprints@alm.com or visit www.almreprints.com.