Perhaps the only topic recently with as much press as the Republican presidential nomination race, is the natural gas phenomenon coming to the Dayton area. Depending on who is talking, the gas drilling technique known as “fracking” is either a potential savior of our national economy and energy demands, or our biggest environmental disaster in the making.
Nevertheless, as the residents of New York, Pennsylvania, and Eastern Ohio have experienced since 2007, anyone with a few acres of land in Western Ohio can soon expect a knock on the back door by a charming “landman” hoping to sign you to an oil and gas lease. What do you need to know when that happens?
1. WHAT COMPANY DO YOU WANT ON YOUR LAND? Standard procedure is for sweet-talking “landmen” or agents for the true lessee-company to make the initial contact with landowners. Multiple middle-men may “flip” leases, or “bundle” properties, for the benefit of a larger company. Know the identity of the company acquiring the lease, and check out the company. Get it in writing!
2. DEAL TERMS - “AGREE IN PRINCIPLE”. The “deal terms” of a lease are typically:
bonus, primary term, royalty fraction, delay rental, shut-in royalty. If you can agree to these terms “in principle” then you can move on to the details.
3. WRITTEN LEASE TERMS: The devil is in the details - it make a difference who drafts the terms of the lease. A re-opener clause may assure fair value depending on market conditions, and change in technology. What was fair ten years ago may not be fair now.
4. NEGOTIATE. Remember: all lease terms are negotiable. Identify who has authority to negotiate. Don’t be timid. Additional terms may include: option to extend the initial term; a commitment to drill a well during the primary term; a promise to pool lands into a unit for a well to be drilled; increased royalty after “payout” of a well; a minimum annual royalty.
5. BARGAINING POSITION. Your bargaining power in negotiating lease terms depends on the size of your tract, membership in a landowners group, proximity of your tract to known production; competition to acquire leases in your area; and your (or your agent’s) negotiating skills.
6. DESCRIPTION OF LEASED PREMISES. A complete legal description is necessary. Separate lease may be appropriate for multiple tracts. Delete any “mother hubbard” clause that covers any adjacent or contiguous tracts.
7. LIMIT TO OIL AND GAS. While oil and gas are not technically “minerals”, Ohio law treats most everything underground as “minerals”. Limit the lease to petroleum and natural gas and related by-products.
8. ROYALTIES. Typical minimum is 1/8 (12.5%), with higher values negotiable. Is the royalty based on “gross” or “net” proceeds? How defined? When paid? Terminate for failure to pay royalties? Audit books and records?
9. POOLING /UNITIZATION. Should you grant the lessee the right to pool your property with other tracts? Consider requiring that a minimum part of the leased premises be put in any pooled unit - ‘units’ are often like gerrymandering, to “hold by production” as many leases as possible.
10. “PUGH CLAUSE”. Provide that production from a pooled unit will not hold that portion of the lease not included in the unit.
11. CONTINUOUS OPERATIONS. Requires the lessee to release portions of the leased premises not included within “production units” designated around producing wells, at some time after the end of the primary term.
12. DEPTH SEVERANCE. Require the lessee to release all depths below the deepest producing perforation at the end of the primary term, or specify the level that you are leasing, e.g., Utica shale or Marcellus shale only.
13. ASSIGNMENT. Require lessor’s consent to any assignment by the lessee, and notice and copy of any assignment.
14. PROTECTION OF SURFACE. Type of land, current and prospective uses? Compensate for all uses of and damages to the surface estate for all operations by lessee. Location of roads and facilities, and locate same so as to minimize interference with use of the surface. Particular concerns regarding surface use that are unique to your property?
15. USE OF WATER. Prohibit use of water from lessor’s wells or tanks, and provide that subsurface fresh water may be used only for drilling operations, and not for secondary recovery operations.
These are just a few of many lease considerations. Clauses added to the written document (addendum) have a tendency to get lost - require that the entire lease be recorded. And be sure all of your “agreements” are in writing, before you sign any documents.
And call us if you need some help…