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Presumably to the surprise of the involved energy companies and the trial judge, the trial judge’s forthwith cost order of approximately $600,000 in the Ownership Trial was paid and an appeal of both the trial judge’s ownership ruling and cost award was filed with the Court of Appeal of Alberta. The appeal was heard in September of 2001. The Appeal Court released its Memorandum of Judgment in June of 2002.

The Court of Appeal of Alberta was not concerned with the trial judge’s finding that the Privy Council’s summary of the lower court decision it upheld was not binding upon her and was wrong. It agreed with the trial judge that the summary was inconsistent with the balance of the Privy Council decision because it could not “find any reference to that “compromise” in the reasons for decision” of the Appellate Division in Borys. In FHOA’s view, the fact that there is no reference to any compromise in the Appellate Division decision is irrelevant. The Privy Council chose to characterize the decision of the Alberta Court of Appeal in Borys as a “compromise” between the ruling of the Chief Justice of the trial division in Borys and the ownership position being advanced by the CPR and Imperial. The issue is not how the Privy Council’s characterized the Appeal Court decision in Borys, but what the decision of the Appeal Court meant to the superior court which upheld it. The Privy Council clearly and succinctly stated its interpretation of the Appeal Court decision in Borys and the Court of Appeal of Alberta has no more right than the trial judge to ignore the Privy Council summary and substitute its own interpretation of the Appellate Division decision for that of a superior court.

The Alberta Court of Appeal was also not concerned with the CPR’s petroleum leases. According to the Appeal Court, the trial judge was correct to conclude that these leases evidenced the settled expectation of the oil and gas industry. Courts are rightfully reluctant to overturn long-standing legal decisions because these decisions are relied upon by society and give rise to ‘settled expectations’. But these settled expectations arise from the unbiased application of legal precedent. The concept that the Alberta Court of Appeal believes that settled expectations can somehow arise from improper contractual demands defies belief. Does the Court of Appeal in this Province really believe it is proper for the CPR and its successors to demand royalties on hydrocarbons it doesn’t own or to require indemnification from its lessees in the event it is caught?

The Court of Appeal acknowledged that the trial judge had not specifically considered the meaning of the words used in the CPR’s reservation to describe the petroleum reserved – “all petroleum which may be found to exist”, but this did not undermine the correctness of her decision. According to the Appeal Court:

“At the time the C.P.R. reservation was created, it was not known if petroleum existed below the surface of the land. Therefore, the reservation would only attach to petroleum which might be found to exist through exploration or production. Those words merely express a limitation on the operation of the reservation. Those words do not mean that the petroleum must be reduced to possession before it can be subject to ownership. Indeed, the same words appeared in the Borys reservation, and ownership was declared before possession.”

The petroleum ‘which might be found to exist through exploration or production’ in the Borys case could not possibly be the petroleum which existed at the time of the reservation. The Borys courts knew this because the CPR and Imperial had retained “an array of the world's greatest living scientists”1 to explain fundamental reservoir mechanics (Major J.A. acknowledges this in the subsequent Supreme Court decision). Justice Fruman knew this, or should have known this, because it was common ground between the parties that the petroleum in a mixed pool like the Leduc Woodbend D-3 pool beneath Mr. Borys lands changes in both composition and volume once production starts and the pool had been on production for four years at the time of the Borys trial.

The Privy Council in Borys clearly stated that “petroleum means a substance formed from a hydrocarbon admixture in its liquid form when in position in its container under ground”. The Court of Appeal of Alberta has acknowledged that the ‘which may be found to exist’ wording expresses “a limitation on the operation of the reservation” such that “the reservation would only attach to petroleum which might be found to exist through exploration or production”. So petroleum is a liquid and the CPR’s reservation only attaches to the petroleum which is found to exist. But the Appeal Court upheld the trial judge's decision in which she clearly stated that the CPR owned not just the liquid petroleum found to exist in a well drilled on split title lands but also any gas found to exist in the well if that gas had been in solution in petroleum somewhere in the reservoir a hundred years ago. Go figure!

Furthermore, in Borys, the CPR and Imperial argued, and both the Privy Council and the Appeal Court accepted, that the principles of law applicable to percolating water were applicable to oil and gas. Every first year law student knows that water cannot be owned absolutely until it is reduced to possession. That does not mean that water is not subject to ownership at common law. It means that ownership of water, which like oil and gas is a fugacious substance, is different from ownership of hard minerals. In Alberta, every freehold owner of oil or gas has a title certifying his or her ownership. This does not mean that the freeholder owns the fugacious minerals in his title absolutely. In Alberta, like every other oil and gas producing jurisdiction in the world, what you own is what you recover in a well legally drilled on your property, not what might have existed beneath the lands a century ago. At least that was the situation before special ownership privileges were created for the CPR and its successors.

The Court of Appeal did overturn the trial judge’s ludicrous finding that the vernacular meaning of petroleum included water at the turn of the last century.

According to the Appeal Court, “gas which was in solution within connate water at initial reservoir conditions does not belong to the petroleum owner”. The order which gave rise to the preliminary issues of law and the ownership trial called for the courts to determine the ownership of hydrocarbons produced from wells on split title lands and the duty of industry operators to account for this production. Gas evolved from connate water is produced from wells on split title lands and the only parties claiming ownership of this gas were the CPR and its successors (the petroleum owner) and the individual freehold owners of natural gas. One might conclude from the Appeal Courts judgment that gas evolved from connate water is owned by the individual freehold owners of natural gas and that industry operators should account to the freeholders for this production. Not so!

Subsequent to the release of the Appeal Court decision, EnCana Corporation took the position that although the Appeal Court had stated that the petroleum owner did not own gas evolved from connate water, the Appeal Court had not specifically stated that this gas belonged to the individual owners of natural gas. In March of 2003, the Appeal Court confirmed EnCana’s interpretation.

According to the Court of Appeal, it was appropriate for the trial judge to have ordered the freeholders to pay more than $600,000 to the defendant oil companies for a 6 1/2 day trial because of the technical nature and complexity of the litigation and because of the seriousness and significance of the issue to the energy companies. The Court of Appeal also agreed with the trial judge “that this was an appropriate case for directing payment of costs forthwith”. The only reason provided by the trial judge for ordering the freehold owner-plaintiffs to pay costs forthwith was that the freehold owners did not appear to be paying for the litigation. The Court of Appeal acknowledged that the trial judge had erred in relying on evidence that was not properly before her in reaching this conclusion, but did not see fit to indicate what other reason there might be for a forthwith cost award.

The full text of the Court of Appeal judgement is set forth below with FHOA’s comments in blue.

APPEAL FROM THE JUDGMENT OF THE HONOURABLE MADAM JUSTICE FRUMAN 
DATED THE 15TH DAY OF JULY, A.D. 1998
FILED THE 16TH DAY OF JULY, A.D. 1999
____________________________________________________

MEMORANDUM OF JUDGMENT
____________________________________________________

COUNSEL:

N. K. Machida
T. S. Meagher

For the Appellants

L. M. Sali, Q.C.
W. R. Pieschel, Q.C.
R. W. Block

For the Respondents

_____________________________________________

MEMORANDUM OF JUDGMENT
____________________________________________________

THE COURT:

Introduction

[1] There are many mineral titles in the Province of Alberta in which the petroleum is owned by one person and the non-liquid or gaseous hydrocarbons by another. This appeal involves a determination of what is included in a reservation of petroleum, and of the point in time when the proportions of gas that belong to the petroleum owner and to the non-petroleum owner are quantified.

[2] The unique nature of hydrocarbons is at the root of this appeal along with the interpretation of the decisions of this Court and the Privy Council in Borys v. C.P.R. and Imperial Oil Ltd., [1951] 2 W.W.R. (NS) 145 (Alta S.C.); reversed in part, [1952] 4 W.W.R. (NS) 481 (Alta S.C., App. Div.), affirmed, [1953] 7 W.W.R. (NS) 546 (J.C.P.C.).

[3] Hydrocarbons reside in sub-surface containers in three forms: oil reservoirs, gas reservoirs, and mixed reservoirs. In mixed reservoirs, before the reservoir is penetrated by drilling, the percentage of liquid and gaseous hydrocarbons is fixed. Once the mixed reservoir is drilled, phase changes, that is, changes in the proportion of liquid and gaseous substances, occur as the temperature and pressure in the reservoir change.

It is not drilling but production which results in phase changes.

[4] Production also causes the pressure in the mixed reservoir to decline. As the pressure declines, some of the liquid hydrocarbons are converted into gaseous hydrocarbons in the reservoir. These gaseous hydrocarbons are referred to as "evolved gas" or "secondary gas cap gas." By contrast, "free gas" or "primary gas cap gas" is comprised of gaseous hydrocarbons at initial reservoir conditions, that is prior to drilling. Evolved gas intermingles with the primary gas cap gas and becomes indistinguishable.

[5] Changes in pressure caused by drilling may also cause some of the gaseous hydrocarbons to condense into liquid hydrocarbons. Phase changes also occur while the hydrocarbons move up the well bore to the surface.


[6] The definition of terms has been a contentious issue in this litigation. To provide certainty, the definition of the terms “solution gas” and “evolved gas” should be clarified.

[7] “Solution gas” means gas which was dissolved in liquid hydrocarbons in the reservoir prior to human disturbance, but which emerges from time to time as gas following changes in temperature or pressure. Solution gas may emerge from the liquid hydrocarbons in the reservoir as the temperature and pressure change following human intervention into the reservoir or in the well bore as the hydrocarbons are drawn up to the surface during production.

The Borys courts used the generic term ‘gas in solution’ which has no time connotation throughout and at no point referred to ‘solution gas’.

[8] “Evolved gas” is a type of solution gas which emerges from liquid hydrocarbons in the reservoir due to changes in temperature or pressure.

[9] Because of phase changes, the point in time when ownership of gas is determined is critical. Ownership of gas will vary depending upon whether ownership is determined at initial reservoir conditions, at the well bore once drilling has occurred or at the surface.

[10] It is settled law in Canada that ownership is not determined at the surface. The trial judge selected initial reservoir conditions as the appropriate time in the circumstances of this case. The appellants argue that ownership should be determined as the gas is captured at the well bore.

[11] Except for her conclusion regarding connate water, we are in substantial agreement with the analysis and conclusions of the trial judge which are reported at Anderson v. Amoco Canada Oil and Gas (1998), 225 A.R. 277 (Q.B.).

Facts

[12] In 1912, the Canadian Pacific Railway (C.P.R.) began to grant farm-sized portions of its land to settlors, reserving to itself "all coal, petroleum and valuable stone which may be found to exist in upon or under the said land." These reservations created "split title" lands, where one party owned the coal, petroleum and valuable stone (the "petroleum owner") and the other party owned the other minerals (the "non-petroleum owner"). The appellants derive title from the non-petroleum owners pursuant to such grants. The respondent, PanCanadian, derives title from the petroleum owner.
It was 1906, not 1912 when the CPR first began to reserve petroleum.


[13] The question of when entitlement to gas is to be determined spawned 84 law suits. The trial judge was asked to determine a preliminary issue as to the ownership of gas.

There were 21, not 84 law suits. The trial judge was asked to determine two preliminary issues of law - the ownership of hydrocarbons produced from a well on split title lands and the duty of energy company-lessees to account to the respective owners of gas and petroleum. The trial judge did not address the duty to account.

Issues

[14] Was the trial judge correct in finding that ownership of hydrocarbons on split title lands is determined at initial reservoir conditions? Did the trial judge err in her order for costs?

Ownership of Hydrocarbons on Split Title Lands

Standard of Review

[15] To determine ownership of petroleum and natural gas, the trial judge considered and interpreted the reservation of petroleum contained in the grants to the appellants’ predecessors. She also interpreted Borys v. C.P.R. and Imperial Oil Ltd. (supra). The standard of review for the trial judge’s interpretation of the reservation and of Borys is correctness.

[16] The appellants argue that the trial judge misapprehended the issues before her, in particular, that she misconstrued arguments about when ownership of hydrocarbons is determined and whether phase change is relevant to determining ownership. They also argue that she failed to apply the principles of property law related to tracing, and failed to consider the words "which may be found to exist" in the reservation. The standard of review for these issues is also correctness (Stevens v. Morrisroe (2001), 281 A.R. 201 (C.A.)).

Decision of the Trial Judge

[17] The trial judge concluded that the determination of ownership turned on an analysis and interpretation of Borys. She found that the ratio of this Court’s decision in Borys was that petroleum included oil and any other hydrocarbons and natural gas existing as liquid in their natural condition in strata and that the petroleum, including all hydrocarbons in solution or contained in the liquid in the ground, is the property of the petroleum owners.


[18] The trial judge held that the Privy Council had to determine the meaning of petroleum in situ in a container below ground. She noted the Privy Council’s statement at 557 that "petroleum means a substance formed from a hydrocarbon admixture in its liquid form when in position in its container under ground."

[19] The trial judge concluded that the Privy Council confirmed that what was included in the reservation of petroleum was to be determined at the time of the grant at which time the hydrocarbons were at initial reservoir conditions. However, she was perplexed by Lord Porter’s statement at 554 that "...[T]he Court of Appeal adopted a compromise, viz., the condition of the substance as it emerges from time to time from the reservoir." The trial judge concluded that this statement was an inaccurate description of this Court’s decision and was inconsistent with the rest of Lord Porter’s reasons. Applying Borys, the trial judge concluded that evolved gas belonged to the petroleum owner because it was in liquid form at initial reservoir conditions prior to human disturbance.

[20] The trial judge also considered this Court’s decision in Prism Petroleum Ltd. v. Omega Hydrocarbons Ltd., [1994] 6 W.W.R. 585. She found that Prism confirmed that Borys stands for the proposition that the petroleum owners were entitled to solution gas, which was gas in liquid form under initial reservoir conditions. She held that although the court in Prism used the term gas in solution, that term was equivalent to solution gas and both terms included evolved gas.

It was the Borys court that used the term ‘gas in solution’, the Prism court used solution gas.

[21] She concluded that Prism did not support the appellants’ contention that solution gas which emerges from the liquid hydrocarbons in the reservoir was to be treated differently than solution gas which emerges as gas at the surface.

[22] The trial judge found that Canadian courts have not yet settled on a theory of oil and gas ownership but that it was not necessary for her to do so in this case as the petroleum and non-petroleum owners derived their rights from the C.P.R. reservation.

If something cannot be owned before being reduced to possession (as is the case with respect to petroleum and natural gas in the majority of the principle producing jurisdictions in North America), how can ownership possibly be divided before the thing is possessed?


[23] The trial judge also addressed the rule of capture. She held that Borys confirmed that the rule of capture applied in Canada but that the rule was applicable in inter-tract situations and not applicable in intra-tract situations. That is, the rule of capture applied between owners of adjacent land but not between the owners of split title lands.

[24] In summary, the trial judge concluded that Borys, as confirmed by Prism, stood for these propositions: the reservation was to be interpreted and title determined as at the time of the grant at which time the hydrocarbons were at initial reservoir conditions; solution gas belongs to the petroleum owners; free gas or primary gas cap gas belongs to the non-petroleum owners; and solution gas (evolved gas) that emerged from the liquid hydrocarbons in the reservoir, at the bottom of the well bore, at the surface or anywhere in between, belongs to the petroleum owners. She found that condensate and natural gas liquids, which derive from primary gas cap gas, belong to the non-petroleum owners; and condensate and natural gas liquids, which derive from the evolved gas, belong to the petroleum owners.

[25] She also concluded that connate water, a liquid under initial reservoir conditions, belongs to the petroleum owners.

Position of the Appellants

[26] The position of the appellants is that Borys determined where ownership occurs, that is in the reservoir, but did not determine when ownership was to be decided. The appellants argue that, to be consistent with the rule of capture and the decisions in Borys, ownership of petroleum should be determined at the date the hydrocarbons are recovered from the ground and as they emerge from the reservoir.

The appellants argued no such thing. The appellants argued that Borys clearly determined where and when ownership was to be determined - in the ground based on “the condition of the substance as it emerges from time to time from the reservoir” and enters the bottom of the well bore.

[27] The appellants base their position on their assertion that the reservoir under the Borys’ land had been penetrated at the time of trial and was no longer at initial reservoir conditions. It follows, they argue, that the phrase “in situ” utilized in Borys means merely that ownership is to be determined by location, that is, in the reservoir, but not as at the time of initial reservoir conditions. The appellants also argue that the words “which may be found to exist” in the C.P.R. reservation are prospective and imply that title to petroleum can only attach when petroleum is found and recovered.


Position of the Respondents

[28] The respondents’ position is that the trial judge properly considered and interpreted the C.P.R. reservation. They argue that the trial judge correctly analyzed and applied Borys and Prism, correctly interpreted the words in the reservation, correctly determined the property interests of the parties, and correctly applied the principles of property law.

[29] The respondents also argue that the trial judge correctly applied the doctrine of settled expectations in the context of the regulatory environment, the conservation regime and the decisions in Borys and Prism.

Analysis

Introduction

[30] Ownership is determined by the C.P.R. reservation. The reservations in this appeal have the same or similar wording as the reservation considered in Borys and were contained in grants made about the same time. The parties acknowledge that Borys is relevant and binding law in this case. However, Borys did not explicitly examine the implications of phase change.

The Borys courts were well aware of phase changes because the CPR and Imperial retained what the CPR described as “an array of the world's greatest living scientists” to explain the problem. The Borys courts had no need to discuss phase change - as acknowledged by the Court of Appeal, ownership is determined by the CPR reservation. The CPR reserved “all petroleum which may be found to exist”. The hydrocarbons beneath a tract of split title land are not found at the time of the reservation; they are found when a well is drilled and hydrocarbons enter the well bore through the perforations. The Borys courts clearly stated that “petroleum means a substance formed from a hydrocarbon admixture in its liquid form when in position in its container under ground”. The fact that phase changes occur in a reservoir as production continues is irrelevant and the Borys courts had no need to explicitly examine the implications of phase change - what the CPR owns is what it finds in the ground in liquid form pursuant to the wording of its own reservation.
The trial court in Borys honoured the wording of the CPR reservation by ruling that the phase condition of the substances as they were found to exist at surface determined ownership. The higher courts simply moved the point of ownership determination to the bottom of the well bore where the hydrocarbons were first recovered.

Court of Appeal: Borys

[31] The trial judge conducted a detailed and thorough analysis of the decisions in Borys and the arguments advanced by the appellants in support of their core contention that Borys did not decide when ownership is to be determined. We will not repeat that analysis with which we are in substantial agreement. However, it is important to confirm the import of the Borys decisions.

[32] In Borys, the C.P.R. transferred land to Borys’ father in 1918 reserving “all coal, petroleum and valuable stone which may be found to exist within, upon or under the said land.” Borys sought a declaration that he owned all the natural gas within or under the land. At the time of the transfer, the reservoir was in its natural state, and the hydrocarbons were at initial reservoir conditions. By the time of trial, producing oil wells had been drilled on other lands overlying the reservoir, but drilling on Borys’ land had not penetrated the reservoir.

[33] The trial judge granted a declaration that Borys was the owner of the natural gas within, upon or under the land.

[34] In this Court, Parlee, J.A. stated at 494 that in order to resolve the:

"sharp contention between the parties as to the meaning to be ascribed to the reservation... we must ascertain the knowledge of the parties at the time of the original agreement and all the surrounding circumstances to determine, as best we may, what the parties to the agreement intended by the reservation."

[35] Parlee, J.A. noted that Borys’ land was located within the Leduc-Woodbend oil field and that this field was in production. He noted that oil in paying quantities would be found on Borys’ land and that a reservoir with a gas cap of free natural gas on top of oil would also be found.

[36] Parlee, J.A. affirmed the lower court’s finding that petroleum and natural gas were two different substances. However, he disagreed with the trial judge’s findings on the ownership of petroleum. He said this at 495:


"The trial judge found that petroleum and natural gas were, by common usage, two different substances, and that conclusion ought not to be disturbed. I am, however, with respect, unable to agree with him that the reservation "petroleum" did not include gas in solution in the liquid as it exists in the earth. What was reserved to the railway company was petroleum in the earth and not a substance when it reached the surface. It is true that, by change of pressure and temperature, gas is released from solution when the liquid is brought to the surface but such a change ought not to affect the original ownership.

In other words, petroleum includes oil and any other hydrocarbons and natural gas existing in its natural condition in strata.

In my opinion, all the petroleum reserved, including all hydrocarbons in solution or contained in the liquid in the ground, is the property of the defendants who are entitled to do as they like with it, subject, of course, to the observance of all relevant statutory provisions and regulations.

All gas not included in the reservation of petroleum as indicated is the property of the plaintiff."

[37] Parlee, J.A. held that the petroleum reservation necessarily included the right to produce petroleum and that the C.P.R. could use all reasonable means to extract the petroleum. Accordingly, the C.P.R. could produce the petroleum even if it interfered with and wasted Borys’ gas so long as modern operating methods were employed.

Privy Council - Borys

[38] Lord Porter delivered the judgment of the Privy Council. He described the reservoir under Borys’ land as containing three layers: water on the bottom layer, petroleum in the middle layer and gas on top, and acknowledged that this reservoir stretched beyond Borys’ land. He noted that Imperial Oil had not penetrated the reservoir container below Borys’ land at the time of the trial.


[39] Lord Porter summarized this Court’s decision as determining four different points. First, gas in solution in strata that was in liquid form in the petroleum was part of the petroleum and was one of the products reserved. Second, the reservation included a right to work. Third, the petroleum reserved was the property of the C.P.R., and all gas not included in the reservation was the property of Borys. Finally, the C.P.R. was entitled to extract all of the substances belonging to it from the earth even if its action caused interference with and wastage of the gas belonging to Borys.

[40] However, Lord Porter also said this at 554:

"[T]he question is what substance can the respondents withdraw and to what extent they can make use of the gas whether free or in solution.

The answer, say the respondents, is to be found in a wide interpretation of the word petroleum, which, it is maintained, includes all kinds of hydrocarbons whether in liquid or gaseous form. On the other hand, the appellant contends that gas is gas whether in solution with oil in a liquid form or in a gaseous state. The test is what is liquid and what is gas at the conventional figure of 60o Fahrenheit and 4.65 pressure, i.e., its state at what is a mean temperature and a mean pressure on the surface.

The learned Chief Justice took the latter view; the Court of Appeal adopted a compromise, viz., the condition of the substance as it emerges from time to time from the reservoir."

[41] We cannot find any reference to that “compromise” in the reasons for decision of this Court. We agree with the trial judge that this reference is inconsistent with the balance of Lord Porter’s reasons.

The appellant (Mr. Borys was appealing the Court of Appeal decision) argued that ownership was to be determined based on the phase condition of the substances as they emerged at surface under standard temperature and pressure conditions. The Chief Justice accepted this position. The respondents (CPR and Imperial) argued that the word ‘petroleum’ in the reservation included natural gas. The Privy Council chose to characterize the Court of Appeal’s decision to essentially move the point of ownership determination from the surface to the subsurface as a compromise between these two views. 

Whether the current Court of Appeal can find any reference to this “compromise” in the Privy Council’s reasons is irrelevant. The issue is not how the Privy Council’s characterized the Appeal Court decision in Borys or whether the trial judge and the current Court of Appeal think the summary is inconsistent with the rest of the Privy Council decision. The issue is what the decision of the Appeal Court meant to the superior court which upheld it. The Privy Council clearly and succinctly stated its interpretation of the Appeal Court decision in Borys and, in FHOA’s opinion, the Court of Appeal of Alberta has no more right than the trial judge to ignore the Privy Council summary and substitute its own interpretation of the Appeal Court decision for that of a superior court. The Court of Appeal has exceeded its authority.

[42] After discussing this Court’s decision, Lord Porter outlined the Privy Council’s view of the ownership of hydrocarbons. He stated the issue to be determined and his conclusion at 556:

"In these circumstances their Lordships, with such assistance as is to be obtained from the facts as given in evidence, must form their own opinion purely as a matter of construction as to the meaning which the word “petroleum” bears when the substance referred to is in situ in a container below ground. In this matter they agree with the observations of the majority in the Supreme Court of Alberta as expressed by Parlee, J.A. in his judgment, when he says:

"The trial judge found that petroleum and natural gas were, by common usage, two different substances, and that conclusion ought not to be disturbed. I am, however, with respect, unable to agree with him that the reservation “petroleum” did not include gas in solution in the liquid as it exists in the earth. What was reserved to the railway company was petroleum in the earth and not a substance when it reached the surface. It is true that, by change of pressure and temperature, gas is released from solution when the liquid is brought to the surface but such a change ought not to affect the original ownership.


In my opinion, all the petroleum reserved, including all hydrocarbons in solution or contained in the liquid in the ground, is the property of the defendants who are entitled to do as they like with it, subject, of course, to the observance of all relevant statutory provisions and regulations.""

[43] The Privy Council also addressed the right to work and found that the reservation necessarily implied a right to recover the petroleum. In assessing the right to work, Lord Porter was prepared to assume that the gas in situ was the property of Borys, even though it had not been reduced to possession. He affirmed this Court’s conclusion that the C.P.R. did not have an obligation to refrain from utilizing the gas when extracting the petroleum and found that the C.P.R.’s direct grant of petroleum included such a right.

[44] In the result, the Privy Council concluded that the Court of Appeal’s judgment was correct in all respects and dismissed the appeal.

[45] In Prism at 549, this Court confirmed that in Borys:

"The Privy Council held, inter alia, that as a matter of construction the reservation of petroleum included gas in solution in the liquid state as it existed in the earth, and was the property of Imperial Oil Limited as the entity entitled to the petroleum under the leased lands."

Therefore, Prism does not support the appellants’ position in this Appeal.

Firstly, the Privy Council used the present tense of the verb exist, not the past tense cited in the above quote from the Prism decision. Secondly, the Court of Appeal in Prism did not have the benefit of the CPR reservations in front of it.

Application

[46] Borys is a complete answer to the appellants’ position. The courts in Borys granted a declaration of ownership based upon an interpretation of the reservation at the time of the grant when the hydrocarbons were at initial reservoir conditions, before any human intervention and phase changes had occurred, or any of the hydrocarbons had been located, captured or produced.

[47] The facts that the reservoir in Borys had been penetrated at the time of trial and that phase changes may have occurred were not relevant to the ownership determination which was fixed at a prior point in time. This case is indistinguishable from Borys.

Yes, this case is indistinguishable from Borys and, as per Par 46, the declaration of ownership in Borys was based upon an interpretation of the reservation. But the words in the reservation divided the ownership of the hydrocarbons based on their phase state when they were found to exist not at some prior point in time.

[48] It is true that the Privy Council in Borys did not use the term "solution gas" and did not explicitly state that solution gas or evolved gas belonged to the petroleum owner. However, the conclusion that gas in liquid form under initial reservoir conditions belonged to the petroleum owner leads inexorably to the conclusion that solution gas, including evolved gas, belongs to the petroleum owner.

Nowhere in the Borys decisions did the courts conclude “that gas in liquid form under initial reservoir conditions belonged to the petroleum owner”. This conclusion is what the trial judge and the Court of Appeal of Alberta interpret the quotation from the Privy Council in Borys at Par 42 to mean. 
At Par 42, the Privy Council quotes the ratio (the reason for the decision) of the Borys Appellate Division decision with which it agreed. This quote addresses the meaning of the word ‘petroleum’ - it includes “gas in solution in the liquid as it exists in the earth” and clarifies the property rights of the CPR and Imperial – “all the petroleum reserved, including all hydrocarbons in solution or contained in the liquid in the ground, is the property of the defendants”(emphasis added). The CPR had reserved all petroleum which may be found to exist and Imperial had leased the petroleum “which may be found” within, upon or under Mr. Borys’ lands.

[49] Accordingly, the trial judge’s conclusion that evolved gas belongs to the petroleum owner along with solution gas that emerges at the surface was correct and was consistent with the principles set out in Borys.

[50] Nor did the trial judge misconstrue the relevant principles of property law. She correctly concluded that Canadian courts have not yet committed to a particular theory of oil and gas ownership. She properly acknowledged that petroleum does not have to be reduced to possession to become the subject of ownership. This is evident from the decision in Borys which declared ownership before the reservoir had been penetrated.

The only declaration of ownership in Borys was that of Chief Justice Howson whose declaration that Mr. Borys was the owner of all gas within, upon or under his lands was overturned by the Court of Appeal.


[51] Although the trial judge did not specifically consider the meaning of the words "which may be found to exist" used in the reservation, the correctness of her decision is not undermined. At the time the C.P.R. reservation was created, it was not known if petroleum existed below the surface of the land. Therefore, the reservation would only attach to petroleum which might be found to exist through exploration or production. Those words merely express a limitation on the operation of the reservation. Those words do not mean that the petroleum must be reduced to possession before it can be subject to ownership. Indeed, the same words appeared in the Borys reservation, and ownership was declared before possession.

The Appeal Court is correct to the extent that the ‘which may be found to exist’ wording is a limitation on the operation of the reservation but as per Par 50, Chief Justice Howson’s declaration that Mr. Borys was the owner of all gas within, upon or under his land was the only ownership declaration in Borys and it was overturned on appeal. In particular, there was no ownership declaration in respect of the CPR. What Lord Porter for the Privy Council said was set forth by the Appeal Court at Par. 42, “all the petroleum reserved, including all hydrocarbons in solution or contained in the liquid in the ground, is the property of the defendants” (emphasis added). 
The Court of Appeal has confused the CPR’s right to the petroleum which may be found to exist which is ‘property’ with fee simple absolute ownership of the petroleum as it existed at the time of the reservation. 
It might be possible for Mr. Borys to own all mines and minerals except coal and petroleum within, upon or under his lands absolutely if Alberta was an ‘ownership in place’ jurisdiction. But even if this were the case, it would not be possible for the CPR to own petroleum absolutely because the property rights of the CPR arose solely as a result of its reservation and in this reservation it specifically reserved the right to the petroleum which may be found to exist.

[52] The trial judge did not make a palpable or overriding error in her fact finding. In particular, she did not err in finding that the settled expectations of the industry are that solution gas is owned by the petroleum owner. Her finding was based on evidence concerning the regulatory environment in Alberta and the leasing arrangements made by the C.P.R. as petroleum owner. Her finding was also supported by Borys as confirmed by this Court in Prism.

Settled expectations arise from the unbiased application of legal precedent. In each of the petroleum leases in evidence, the petroleum owner demands a royalty on hydrocarbons which, according to the trial judge’s and the Court of Appeal’s interpretation of Borys do not belong to the petroleum owner. In most of these leases the failure of the petroleum lessee to pay the prescribed royalties to the petroleum owner is a default which may lead to forfeiture of both the lessee’s lease rights and any productive oil wells it may have drilled on the lands. Furthermore, the petroleum lessees have indemnified the CPR and its successors from damages and court costs in the event a successful legal action is brought by the owner of natural gas. The Alberta Court of Appeal’s upholding of the trial judge’s ruling that compliance with these leases gave rise to settled expectations can only be described as ludicrous.

[53] However, we do not agree with the trial judge’s conclusion that gas which emerges from connate water belongs to the petroleum owner. The reservation did not reserve water. Therefore, gas which was in solution within connate water at initial reservoir conditions does not belong to the petroleum owner.

Conclusion

[54] We conclude that Borys is authority for the proposition that ownership must be determined as at the time of the reservation. In this appeal, as in Borys, the hydrocarbons were in initial reservoir conditions at the date of the reservation. Phase changes that occur subsequently are irrelevant to ownership. Accordingly, the situation here is indistinguishable from Borys and ownership must be determined at initial reservoir conditions.

[55] The trial judge adopted the correct analytical framework when addressing ownership of oil and gas on split title lands. Her finding that evolved gas belongs to the petroleum owner was correct and was consistent with the principles outlined in Borys and in Prism. However, her finding that connate water belonged to the petroleum owner was incorrect. With that exception, she did not misapprehend any of the issues before her and did not make any palpable or overriding error in her findings of fact.

Costs

[56] The appellants question the costs orders made by the trial judge.

Standard of Review

[57] The trial judge enjoys “a very wide discretion when awarding costs provided that such costs are awarded judicially”: Jackson v. Trimac Industries (1993), 138 A.R. 161 at 166 (Q.B.). Similarly, this Court stated in Westersund v. Westersund (1993), 157 A.R. 276 at 278 (C.A.) that “[t]he standard of review in costs awards is not to interfere unless there is a clear, palpable and overriding error.”

Decision of Trial Judge

[58] The trial judge ruled the respondents, the petroleum owners, were entitled to costs. She examined the nature of the proceedings. This was a preliminary trial of an issue that determined ownership of hydrocarbon substances and disposed of the rights of the parties with respect to that fundamentally important issue. The petroleum owners succeeded at trial and their concession on one point did not detract from their victory.


[59] The trial judge held that the application before Moore C.J. for trial of the issue of ownership was the appropriate point in time for costs to commence. She found that the numerous petroleum owners had grouped themselves appropriately according to their respective interests and had thereby avoided duplication. The trial judge awarded one set of costs against each appellant in favour of each petroleum owner or group of associated owners.

[60] The trial judge ordered costs on the scale of Column 5 of Schedule C due to the highly technical nature and complexity of the litigation. She examined the factors appropriate to a determination of party and party costs. She applied amended Rule 601(1) and held that this case involved a serious and significant issue that warranted a precise and careful defence by the petroleum owners. She found that defence counsels' organization greatly contributed to the efficiency of the trial and made awards of additional costs to owners whose counsel took the lead in organizing the trial. The appellants did not dispute that it was reasonable for the respondents to retain experts and held that the fees of each expert were reasonable and recoverable as disbursements.

[61] The trial judge directed that costs be paid by the appellants forthwith rather than at the conclusion of the proceedings. She made this direction on the basis of her finding that the appellants were being funded by a corporation which had been formed for the purpose of pursuing the litigation. The trial judge's understanding resulted from her reference to correspondence between Wheatland Resources Ltd. and individuals who are not parties to the proceedings. This correspondence was not part of the evidence at trial. It was attached to the post-trial submission of counsel for one of the petroleum owners on costs. It was not properly before the trial judge, and she erred in referring to it. We nevertheless agree with the trial judge that this is an appropriate case for directing payment of costs forthwith.


Disposition

[62] With the exception of her improper but inconsequential consideration of the Wheatland correspondence, the trial judge made no palpable and overriding error in arriving at her costs awards. She considered and applied the relevant factors. Although we allow the appeal as it relates to gas that emerges from connate water, that should not affect the costs awards at trial since the volume of gas in connate water is so small as to be beyond engineering tolerances. We would not interfere with the trial judge’s awards of costs.

This was a trial of preliminary issues of law which pitted individuals of ordinary financial means against some of Canada’s most powerful corporations. The trial of preliminary issues was not sought by the individual plaintiffs but ordered by the Chief Justice of the Court of Queen’s Bench upon the request of the defendant energy companies. An order for costs of this magnitude to be paid immediately before the merit of the individuals’ law suits had been heard would be expected to put an end to both the law suits and any appeal of the trial judge’s decision. 
The only reason the trial judge gave for ruling that costs should be paid immediately was, according to the Appeal Court, based on an error. The Court of Appeal recognized the error but upheld the trial judge’s forthwith cost decision without providing any further reason.

[63] We are advised that the costs have been paid and are being held in trust by counsel for the respondents pending the outcome of this appeal. We direct that counsel for the respondents continue to hold the funds in trust until the remaining issues have been resolved or until further order.

Conclusion

[64] We dismiss the main appeal except as it relates to gas that emerges from connate water. We also dismiss the appeal as to costs.


APPEAL HEARD on September 13 and 14, 2001.


MEMORANDUM FILED at Calgary, Alberta,
this 26th day of June, 2002

______________________________

O’Leary, J.A.


______________________________
Russell, J.A.


______________________________
Costigan, J.A.

 

End Notes:

1. Borys v. CPR and Imperial Oil Limited Alta. S.C.T.D. [1951] 4 D.L.R. 427, 444

Freehold Petroleum & Natural Gas Owners Association

"Freehold Owners Association"

208, 1235 17th Ave SW, Calgary, AB T2T 0C2 Telephone: 403-245-4438