RECENT_DEVELOPMENTS_FINAL.DOC 12/18/2008 12:21:21 PM RECENT DEVELOPMENTS IN TEXAS, UNITED STATES, AND INTERNATIONAL ENERGY LAW I. INTRODUCTION...................................................................................... 111 II. RECENT DEVELOPMENTS IN TEXAS ENERGY LAW .......................... 112 A. Texas Oil, Gas, and Energy Case Summaries ........................ 112 B. Texas Energy Sector Update: Red Hot Activity That Just Keeps Going and Going and Going . .................................. 118 III. RECENT DEVELOPMENTS IN UNITED STATES ENERGY LAW .......... 125 A. Federal Oil, Gas, & Energy Case Summaries ........................ 125 B. An Empirical Analysis of State Ethanol Production Incentives: Do They Work? ..................................................... 130 IV. RECENT DEVELOPMENTS IN INTERNATIONAL ENERGY LAW......... 144 A. Signs of Pending Liberalization in China’s Oil Sector .......... 144 I. INTRODUCTION This section of Recent Developments in Texas, United States, and International Energy Law consists of selected discussions of recent case law, legislation, and regulations that affect the oil, gas, and energy industries.1 The first section focuses on Texas. It contains short summaries of recent Texas court decisions and an article by Texas Railroad Commissioner Victor G. Carrillo in which he discusses the high levels of oil and gas activity that Texas has experienced in recent years and the challenges that this poses for the Railroad Commission. The second section focuses on national issues. It includes summaries of several recent federal court decisions, as well as an article from Pablo A. Ormachea examining state incentives for ethanol production and giving a quantitative analysis of their effectiveness. Finally, in a section focusing on international energy law, Steve Zhang and Paul Saydak summarize the regulations that govern sales of oil and refined products in China, with a particular focus on areas of potential market liberalization. 1. The content of the Recent Developments section is provided for general information purposes only. The case summaries and short articles may serve as a useful starting point in the legal research process, but are not intended as a substitute for primary research of the laws of the jurisdictions discussed. RECENT_DEVELOPMENTS_FINAL.DOC 12/18/2008 12:21:21 PM 112 TEXAS JOURNAL OF OIL, GAS, AND ENERGY LAW [Vol. 4 II. RECENT DEVELOPMENTS IN TEXAS ENERGY LAW A. Texas Oil, Gas, and Energy Case Summaries 1. Coastal Oil & Gas Corp. v. Garza Energy Trust, No. 05-0466, 2008 WL 3991029 (Tex. Aug. 29, 2008). Issue: Whether hydraulic fracturing stimulation (fracing) can constitute a subsurface trespass for which damages can be sought when it causes drainage from a neighboring property. The respondents in this case, whom the court collectively referred to as Salinas, leased the mineral rights on a tract of land to Coastal Oil & Gas Corporation. Coastal also owned and operated an adjacent tract. Both tracts were located over the Vicksburg T natural gas reservoir in Hidalgo County—a “tight,” imporous sandstone formation from which gas cannot be commercially produced without hydraulic fracturing stimulation. Coastal had fraced a well on their tract that was located 660 feet from the border with the Salinas’s property. Salinas alleged that Coastal’s fracing operations on this well resulted in subsurface fissures that extended beyond the property line and caused drainage of natural gas— from the tract leased from Salinas to the well on the Coastal-owned tract, where Coastal extracted the gas without paying a royalty to Salinas. Salinas claimed this was a subsurface trespass and sought damages equal to the value of the royalty on the gas allegedly drained from their land. The court held that the rule of capture precluded a claim for damages due to drainage caused by hydraulic fracturing that extends beyond lease lines. It said Salinas did not claim an injury for which damages were recoverable because, under the rule of capture, any gas drained from the Salinas property belonged to Coastal as soon as it was extracted from Coastal’s well. The court refused to alter the rule of capture to make such a claim recoverable. It explained that the rule of capture already allows landowners recourse against drainage by drilling their own wells (or by compelling a lessee to do so) and noted that representatives from all sectors of the industry—including regulators and royalty owners—had filed amicus briefs opposing the extension of liability to drainage caused by fracing. The court limited its holding to drainage-related claims and did not answer the larger question of whether fracing can ever result in a claim for subsurface trespass. Additionally, as Justice Willett noted in a concurring opinion, the court seemed to leave open the possibility of a claim if a plaintiff could show that a defendant’s fracing caused injuries RECENT_DEVELOPMENTS_FINAL.DOC 12/18/2008 12:21:21 PM No. 1] RECENT DEVELOPMENTS 113 other than drainage, such as damages to a plaintiff’s wells or to subsurface formations. 2. Centerpoint Energy Houston Electric, LLC v. Gulf Coast Coalition of Cities, 252 S.W.3d 1 (Tex. App.—Austin 2008, no. pet.). Issue: Calculating the valuation of stranded costs recoveries for unbundled Texas utilities. As part of the 1999 deregulation of Texas’s electricity sector, the Texas Legislature enacted a statutory scheme to allow utilities to recover “stranded costs.” These are costs incurred through investment in generation-related assets that would have been recovered in a regulated market through rate adjustments but are unlikely to be recoverable at competitive rates.2 The Texas Public Utilities Commission (“PUC”) makes determinations on companies’ stranded costs through “true-up” proceedings. These determine the stranded costs a company can recover based on a formula that uses the market and book values of the company’s generation assets. In a March 2004 true-up proceeding, the component companies that formerly made up Reliant Energy (CenterPoint Energy Houston Electric, Texas Genco, and Reliant Energy Retail Services) presented the PUC with an estimate of their stranded costs based on a valuation of Reliant’s generation assets. The PUC issued a true-up order in December 2004, in which it determined that the companies (whom the court calls the Joint Applicants) had misapplied some of the statutory measures for market- valuation of generation assets. Specifically, in valuing their generation assets, the Joint Applicants had used a “partial stock valuation” method, which determines market value by looking at the average daily closing price of a generation company’s stock over a period of time. The statute states that a company may use this method when it has transferred its generation assets to a corporation and “at least 19 percent, but less than 51 percent, of the common stock” of that corporation “is spun off and sold to public investors through a national stock exchange.”3 CenterPoint had distributed 19% of the stock in Genco (Reliant’s generation company) to its shareholders in 2002. Much of this had subsequently traded on the New York stock exchange, but some shares had remained in shareholders’ retirement accounts or had not traded for other reasons. The PUC ruled that, while the Joint Applicants had partially satisfied the statute by spinning off 19% of generation company 2.See Cities of Corpus Christi v. Pub. Util. Comm’n of Tex., 188 S.W.3d 681, 684-85 (Tex. App.—Austin 2005, pet. denied). 3. TEX. UTIL. CODE ANN. § 39.262(h)(3) (Vernon 2007). RECENT_DEVELOPMENTS_FINAL.DOC 12/18/2008 12:21:21 PM 114 TEXAS JOURNAL OF OIL, GAS, AND ENERGY LAW [Vol. 4 stock, less than 19% had been “sold” on a stock exchange. Partial stock valuation thus could not be used. After deeming partial stock valuation improper, the PUC opted to use its own method to value the Joint Applicant’s generation assets. Five valuation methods are given in the Texas statute,4 but the PUC stated that the Joint Applicants did not meet requisite criteria for any of these methods. Using its own approach to determine market value, the PUC generated an estimate for stranded costs that was lower than the Joint Applicants’ valuation by $1.23 billion. As part of its calculation, the PUC deducted from the Joint Applicants’ stranded costs the present value of various tax benefits that the Joint Applicants had received as investment incentives when the electricity market was regulated. The Joint Applicants appealed the PUC’s true-up order in district court. They argued, among other things, that the PUC’s reading of the partial stock valuation statute was incorrect and that the PUC had exceeded its authority by deducting the present value of their tax benefits. (On the latter point, the Joint Applicants noted that IRS normalization regulations limit the ways in which utilities can pass tax savings on to customers. They argued that the PUC’s deduction might result in a normalization violation.) Several of CenterPoint’s customers and other interested parties in its service area also intervened, seeking to avoid an increase in rates. The district court upheld much of the PUC order but increased the Joint Applicants’ true-up award by $720 million. This ruling was, in turn, appealed in the Third District Court of Appeals in Austin. The appellate court upheld the PUC’s reading of Texas statute as preventing the Joint Applicants from using partial market valuation. It also ruled that the PUC had not exceeded its authority or acted in an arbitrary manner by using its own alternative valuation method to determine the market value of the Joint Applicants generation assets. It said that, while the statute lists specific methods of valuation, these were not necessarily exclusive. Because the Joint Applicants did not meet the criteria for any other valuation method in the statute, the court took note of the “overwhelming statutory mandate that utilities be allowed to recover their stranded costs” and implied it allowed the PUC some leeway to provide the Joint Applicants with an asset valuation and an avenue to stranded cost recovery.