Leasing 101

So… you have just been contacted by mail or phone by an oil company that they want to lease your land. I bet you’re initial reaction is Jackpot! After doing a little happy dance, you need to take a step back and take a more measured approach to this situation.

 

(DISCLAIMER – DETAILED BELOW ARE SUGGESTIONS FOR YOUR CONSIDERATION IN FORMING OPINIONS – THIS IS NOT LEGAL ADVICE.  ONLY ACCEPT LEGAL ADVICE FROM A LAWYER)

The Landman Cometh

  1. What you have may have been sent is a standard lease agreement. The standard lease agreement is an agreement that reserves for the oil company the best terms for them. Yep, that’s right, they have their own best interest at heart. Big surprise right! Who can blame them, there here to make money, and there is nothing wrong with that. The best agreement however, is one in which both parties gain a mutual benefit.
  2. If you did not receive a lease agreement, then perhaps you received a commitment  letter. That’s even worse. Let me tell you why. Signing that agreement would obligate you to signing a lease without provisions such as the striking of  inclusion of costs by the oil company such as transportation costs, marketing costs or many other costs that will lower your income in the future, and more importantly,  you lose your ability to negotiate any protective provisions such as enhanced water protection provisions or any other protections in the event of an drilling accident. Not to mention, you are now committed to this company. You cannot solicit bids from other companies after signing. In our opinion you should not even consider signing such a letter. That’s a binding contract without provisions! Probably not a good idea.
  3. If you received the standard lease agreement, STOP! In our opinion you should not EVER sign the standard lease agreement. Period!  As a mineral owner you have YOUR own best interest at heart and you need representation to make sure you get the best deal, and that all your interests, whatever they may be, are represented in writing. It is after all YOUR OIL! This is contract law, what is in writing counts, what is verbally said is forgotten. So, this means getting an oil and gas attorney! This is not a big deal considering what is at stake: a 20+ year marriage with an oil company for better or worse. The “worse” part is what you might be concerned about and what should be written into a lease agreement.
  4. Everything in a lease agreement is negotiable!
  5. If you are a landowner with less than 160 acres you stand the best chance of getting a good deal by banding together with your neighbors and bargaining as a unit (currently 640 (if in the Niobrara) acres or a section) for a better deal.You do not have to, and probably should not, accept the first offer made to you. The more mineral acres your group can accumulate collectively for a bargain, the better deal and more power you will have with prospective lessors. Once accumulated, you can shop your acreage around. Its just good business.

Pressure and The Force Pool Card

  • So you have resisted or ignored individually, or as a group, a few lease agreement attempts and you are now being threatened with forced pooling. Not to fear, it will be OK. Don’t give into the pressure.
  • The oil companies do not really want to force pool you, (because it costs them time, money and paperwork) but land-men sometimes use this rule to intimidate the un-informed into signing agreements quickly that might not be at market price or have limited or no protections for you, the mineral/surface owner.

Colorado Oil and Gas Commission Rules on Forced Pooling

What we provide here is a summary of our understanding of the rules. Please DO NOT take our word for it, go to the COGCC website and READ! Click here to go to the 530 series Rules on involuntary (forced) pooling. Before you are force pooled the following good faith efforts must be taken by the oil company before they would be granted a force pool by the commission.

  • The oil company must notify you with multiple certified letters of an intent to negotiate a lease.
  • The efforts must be made in good faith and be in line with current market conditions. (i.e. no lowballing)
  • If you still resist the lease attempts, the COGCC will probably call you in to convince you to agree to a lease agreement in good faith.

If you resist all good faith attempts to lease the COGCC may indeed rule in favor of the oil company and force pool your minerals. If that happens you will become a mineral interest owner in the well. You will receive a royalty of 100% your mineral acreage/unit size of the oil from the unit only after 200% of the cost of the drilling has been recovered by the operating company. Remember that many of these wells can have a steep decline curve and you may not any receive money until the most productive capacity of the well has been exhausted. In other words, you will get the drippings. In almost every conceivable situation that’s a bad deal for you.

County RegulationsFor a more detailed and very well written description of this pivotal topic of “Forced Pooling” and how it works, please read this excellent paper by Attorney, Matthew Sura – What is Forced Pooling?

The Million Dollar Question: What percentage of a unit must be leased before a forced pool can take place?

Under the COGCC rules no set percentage exists, and landmen will use this to their advantage in negotiations. Theoretically you could be force pooled if only 1 acre in 640 were leased, however it would be economically illogical for an oil company to try a force pool with only one mineral acre per unit because they would only be able to draw on that 1/640 to recover their costs and it would be difficult and un-profitable. This situation would probably never be requested for a force pool, and if requested, most likely denied.

Industry standard however suggests that oil companies usually look for a 75% leased mineral acres per unit before they would try to force pool mineral owners that are un-locatable or reluctant to lease.

Bottom Line Suggestions

Your goal is a fair value agreement, it will be equitable for the oil company who will make money from drilling the well and taking a risk, and it will reserve for you a fair valuation of YOUR oil for you should the well be a success, and provide you protections should bad things happen during the drilling and completion operation. Its Good for you, and Good for the Oil Company. a classic Win, Win. But, you will have to be smart and make sure you get a win win situation. Some suggestions on being smart are listed below:

  • Organize into groups to gain bargaining power
  • Hold your group together as there may be attempts to break away separate owners to weaken your bargaining position.
  • Hire a good Oil and Gas Attorney to write your leases and split the cost with your neighbors
  • Try shopping your mineral interests to other buyers, competition is good
  • Protect your water and your continued access to it in the future
  • Make sure your surface conditions are restored to nearly original conditions within reason if there are activities conducted on your land, you will need this provision even if drilling won’t occur on your land.
  • Add any other conditions that you deem are essential to preserve your property value.
  • A checklist of considerations for what should be in a lease and crossed out can be found here

Should I sign a lease with a 3rd party Land Company?

  • The benefits a 3rd party land company offers is that they work for a small fee and usually a cut of the royalties they negotiate, so they are very highly motivated to get you the best deal so they can profit as well.
  • They frequently know the ins and outs of how to get the best terms from the oil  companies and know the current market prices and how to get them. Some of them may be on good terms with some of the bigger companies.
  • On the down side, even with a land company representing you, you might still need to hire an oil and gas attorney unless they have one on staff.
  • Some oil companies prefer not to work with some 3rd parties and that could eliminate some market competition for your leases.
  • Ultimately the decision of who can best represent you, is yours.

Access some more very valuable links on Leasing and what kind of pitfalls you may find in a lease and a detailed description of some protections you may want to include in your lease:

 

Share Button
Print Friendly