Blog Entry - April 10, 2017
Understanding Key Terms in your Oil and Gas Lease
“In life, as in chess, forethought wins.”
Negotiating an oil and gas lease is like playing a game of chess – it’s a back and forth of skills but the truly talented player will attempt to stay several moves ahead. You may be negotiating with a novice or a highly experienced veteran landman. Either way, it is always beneficial to understand the rules of the game.
Prior to starting any negotiations, know what you own. Depending on the size of your acreage and the proximity to the wellbore, your negotiating power may considerably increase. Line up ownership documentation and be prepared to provide that information to cure title defects with a landman. Royalties are often suspended due to title deficiencies that can easily be cleared with the mineral owner’s own records. Upon clearing title questions, it’s time for the first move.
PRODUCER’S 88 LEASE FORM:
“It's a very sobering feeling to be up in space and realize that one's safety factor was determined by the lowest bidder on a government contract.”
Lease terms will always start out with the lowest possible bid. It is the mineral owner’s responsibility to negotiate those terms to their benefit, with the understanding that a producing well may hold that leased acreage for a steady half-century and beyond.
Contracts can be tricky business. It takes attorneys years to master the art of contract writing and then it can all change with new technology and industry developments. The terms within may be the difference between profit for both parties and years of heated litigation.
The Producer’s 88 is the common name for an oil and gas lease form; but don’t be fooled, there is nothing common about it. The truth behind the name “Producer’s 88” has been lost over time with numerous stories regarding its origin. The name may have stuck, but the terms within are rarely identical. Even if you have signed a Producer’s 88 in the past you should not expect it to line up with any other Producer’s 88 in the future. The American Association of Professional Landmen (AAPL) has created a form Producer’s 88 which is often used; however, all lessee’s can add or adjust terms that adhere to their prospects and drilling schedules. It is the mineral owner’s responsibility to understand the contract they are signing.
If you own substantial amounts of acreage, you may already have a lease form that you prefer to use. In the alternative, it may be wise to discuss options with an oil and gas attorney or mineral manager and possibly draft an Addendum that can be attached to a Producer’s 88 lease form. The Addendum should include language which states that its terms will supersede any terms contained in the Producer’s 88. Your Addendum can be as broad or narrow as you insist, but realize that the lessee may not be able to accept all of your requirements. Having this addition will provide you with greater negotiating power and provide an increased peace of mind once the deal is finalized.
Oil and gas leases can be lengthy and contain multiple pages of boilerplate legalese but there are a few key clauses that may provide some additional security. Below are a few clauses that may need a second look.
“The meek shall inherit the Earth, but not its mineral rights.”
Owning mineral interests is often the product of a well written deed. Or possibly the result of a poorly written deed. Texas has extensive case law describing such events and the heirs or assignees that believed they owned interests that they, in fact, did not own.
Similar to the warranty clause in a real estate deed, the warranty clause provides that the lessor agrees to protect and defend any outside claims of ownership. The lessor would need to provide documentation (a deed, probate documents or some other conveying instrument) to prove their rights and title to the land in question. An adverse claim of warranty could result in a legal dispute and could be costly to the mineral owner. Depending on the language in the lease, it could also require the lessor to return any received bonus or royalty income.
Landmen are typically hired to run an abstract of title - historical research of owners in title from Sovereignty of the Land to present day - prior to approaching a potential lessor about lease terms. If done correctly, the landman should have extensive knowledge of the history of the land and all surrounding acreage as well as documentation to back up those assertions. However, if there are pending transactions or legal cases that may affect title you should inform the landman and/or discuss any repercussions with an attorney prior to signing any lease with a warranty clause. Whether or not you should warrant your ownership in a mineral lease is completely up to the lessor. If signing the lease as a Power of Attorney, Agent or mineral manager, it’s generally accepted to limit or wholly strike any warranty of ownership.
“The best things in life are free / But you can give them to the birds and bees /I want money / That’s what I want.”
Although rare in the past, cost-free clauses have become a common expectation for most mineral owners. A cost-free clause is meant to restrict the operator’s ability to pass post production expenses to the royalty owner, such as transportation, marketing, compression and dehydration costs. Including this language does, however, require the mineral owner to closely review check detail for any improper deductions.
The definition of “cost-free” has given rise to multiple lawsuits and settlements over the past few years. With new technology comes new processes and terminology. If your cost-free language is too specific, it may not cover all possible deductions. When negotiating an oil and gas lease you should consult with an attorney or mineral manager to verify that the language in your lease is updated to account for any recent litigation that may have created exceptions to the general rule.
Most states provide a look-back period to review royalty payments for improper deductions. Texas provides for a 4-year period. If you have cost-free language in your lease and notice expenses related to your royalties, it may be wise to consult a professional mineral manager to audit your royalty interests and determine if the deductions were allowable per the lease terms. Since 2008, Argent Mineral Management has recovered over $20 Million in unpaid and underpaid royalties for its clients.
FORCE MAJEURE CLAUSE:
“For my ally is the Force, and a powerful ally it is.”
The Force Majeure clause enables the lessee to extend lease terms and/or delay drilling operations due to actions beyond the lessee’s control, typically considered to be Acts of God, such as a flood, earthquakes, severe weather, war, riot, or strike. The use of Force Majeure does not breach the oil and gas lease but provides a means to prolong the lease due to unforeseen interruptions. The clause can be as general or specific as you agree but specifics are the key.
An operator may try to lean on the force majeure clause even when it’s not suitable so the lessor should be aware of the terms in their particular lease and request explanation if the reasoning appears to be outside the limited scope. At Argent Mineral Management, we recently had an operator provide a letter stating that they were enforcing the force majeure clause based on pipeline contractor delays and limited equipment. The force majeure clause in our lease was very specific to severe weather, war, or riots. When brought to their attention, we quickly received a check to cover the shut-in royalty.
A Force Majeure clause should require written notification to the lessor. A good negotiator will require that the notification state the reason the clause has been invoked and an estimated amount of time needed to remedy the situation. Depending on the size of the acreage leased and the proximity to the drill site, it may be possible to place additional limitations on the time extended.
FAVORED NATIONS CLAUSE:
“I’ll have what she’s having.”
Originating in the 1800’s as a way for foreign governments to receive similar rates on trade, the Favored Nations or Most Favored Nations Clause is now used in contracts ranging from the entertainment industry to oil and gas. The Favored Nations clause provides that if the lessee negotiates better terms within certain parameters (i.e. distance proximity, within unit border, within a certain time period) then the lessee will honor those same terms with the original lessor.
Although often rejected by lessees during oil and gas lease negotiations, this clause may be included based on the size of your acreage or the location along the wellbore. With bonus prices increasing rapidly, especially in West Texas counties, the Favored Nations clause can ensure you get the best price possible for your leased acreage. This clause can include bonus and royalty terms. If you are not even attempting to get this clause in your lease, you may be leaving money on the table.
“Most people who are selling their mineral rights, this is a once-in-a-lifetime transaction. The people who are buying, the landmen who are coming in, do it every day. So there’s a little inequity there about knowledge.”
If you are unsure or have questions about your mineral interests, contact an expert. Do not rely on the landman trying to lease your interests. They are focused on making the deal in their best interest, not yours. There are oil and gas attorneys that can aid in lease negotiations or mineral management companies, like Argent Mineral Management, that can provide full managerial services from lease negotiations to royalty accounting. Whether you have a single tract of land, hundreds of acres throughout the county, or thousands of acres across the country, make sure your mineral interests are being handled correctly.
Argent Mineral Management has 5 offices across Texas, Oklahoma and Louisiana. If you have concerns about your mineral interests, contact one of our Property Managers or visit us at www.argentmineral.com.
Argent is the largest independent, trust-based wealth management firm domiciled in the South. Responsible for more than $14.5 billion of our clients’ assets, we have the scale and sustainability to meet the unique needs and goals of individuals and families, businesses, foundations, and public entities.