How to Negotiate an Oil + Gas Lease

by Caron C. Loffland on December 12, 2017

Negotiating-Lease-Post.jpgOklahoma is one of the greatest producers of oil and gas in the nation. For generations, many Oklahomans have profited as owners of mineral interests, whether by active investment or inheritance.

For the mineral owner, maximizing that profit can hinge upon understanding and negotiating favorable terms in an oil and gas lease.

 

The Purpose of an Oil + Gas Lease

Prior to the drilling of an oil and gas well, an Operator must account for every mineral owner’s interest in the proposed unit in order to determine how the proceeds of a potentially successful well may be paid. For a mineral owner, their interest in a well will be determined by the number of mineral acres they own and the terms agreed upon in an oil and gas lease. 

By negotiating a favorable oil and gas lease, mineral owners can retain greater control over their interest and investment and avoid being force pooled by the oil and gas operator.

 

Navigating the Oil + Gas Lease

The oil and gas lease is, essentially, a contract between the mineral interest owner (“Lessor”) and another party (“Lessee”), in which the mineral owner grants the Lessee the exclusive rights to drill and produce oil, gas, and other minerals from the land in exchange for certain terms and payments.

While there are certainly terms included in the modern day oil and gas lease that are considered typical, not every lease is the same and the mineral interest owner should be aware that many terms are negotiable. Successfully negotiating these terms can increase one’s short term and long term profits.

Here are just a few of the negotiable terms to consider before signing an oil and gas lease:

Bonus and Royalty

  • A bonus is cash paid up front to the Lessor and is based on a dollar amount per mineral acre. The amount of the bonus may depend upon the level of exploration and production in the area.
  • The royalty clause provides the interest that will be paid to the Lessor for their share of any production from a well, in proportion to their acreage in the unit. The royalty offered under an oil and gas lease typically ranges between 1/8 and 1/4.
  • Also, a Lessor may want to negotiate a lower bonus up front in exchange for a higher royalty payment or vice versa, depending upon their immediate cash needs and the potential for future profit.

 

Duration of the Lease

  • The duration of an oil and gas lease is generally defined by two terms. The “Primary Term” establishes the initial length of time the lease remains in effect. This term is typically between 1 and 5 years.
  • In addition to the Primary Term, an oil and gas lease has a provision for a “Secondary Term,” which establishes that, if drilling operations and oil and gas production are commenced prior to the expiration of the Primary Term, the lease shall remain in effect as long thereafter as oil or gas is produced.

 

Warranty Clause

  • An oil and gas lease may contain a warranty clause, which means the Lessor is, in essence, providing a guarantee with regard to the mineral interest being leased.
  • Under the terms of a warranty, if it is later discovered that the Lessor actually owns less acreage than originally paid for, the Lessor could be responsible for paying the Lessee back for the difference. If you are unsure about the exact acreage and/or marketable title of your mineral interest, you may want to negotiate an oil and gas lease that does not provide a warranty.

 

Depth Clause

  • A Lessor can negotiate to include a depth clause in an oil and gas lease which will limit the Lessee from holding certain non-producing mineral interests beyond the Primary Term of the lease, even if production is obtained.
  • A depth clause will typically contain language that mandates the lease shall expire at the end of the primary term as to all depths below the deepest producing formation from any well drilled during the primary term of the lease.
  • Including a depth clause can be very beneficial to the Lessor because it opens up the opportunity to re-lease deeper mineral rights that aren’t producing under the terms of the initial lease.

Conclusion

Like any contract, it is important to understand what you are agreeing to before signing an oil and gas lease. A title attorney can help navigate and negotiate the complex terms of an oil and gas lease, help determine the level of exploration and production of oil and gas in the proposed area, and can also help ensure that you have marketable title for your mineral interest in order to maximize your potential profit.

Are you a mineral owner facing an oil and gas lease negotiation? Are you an operator looking for industry leading help on Oil and Gas Title Examinations? Call our offices today at 405-701-5355.

 

Topics: Caron Loffland, Oil, Gas, + Energy, Oil + Gas Title Examination