Celia Flowers and Eric SchmalbachMarch 20, 2014

FLOWERS DAVIS, P.L.L.C.

NOW THAT THERE IS NO STANDARD LEASE FORM – WHAT PROVISONS CAN WE

EXPECT TO SEE MINERAL OWNERS NEGOTIATE?

The Oil and Gas Lease is No Longer a Form

+

= No Standard Form

How to Determine What New Terms Mean

– Understand how courts interpreted old provisions

– Contract Interpretation: Read the lease carefully

Roadmap

– Initial Lease Negotiations: Bonus and Royalty

– Secondary Lease Negotiations: Lease Clauses

– Unusual Clauses– Surface Use

Initial Lease Negotiations - BONUS

• What to Expect from Lessor:– Unconditioned check– Clause increasing bonus if more net

acreage is discovered

Initial Lease Negotiations - ROYALTY

• VALUATION:– Amount realized vs.

Market value– Lessor may add language

protecting decline in market value

• POST PRODUCTION EXPENSES:– Dehydration, Processing,

Transporting– Lessor may add “no costs

provision”

Secondary Negotiations – Lease Clauses

• Habendum Clause• Shut-In Royalty Clause• Temporary Cessation

of Production Clauses• Force Majeure Clause• Pugh Clauses

Habendum Clause

• Defines duration of lease– “So long thereafter

as operations are conducted”

• Lessor Wants:– So long thereafter as

oil, gas, and minerals are being produced

Shut-In Royalty Clause

• Payments in lieu of production

• No market

• Lessor may attempt to negotiate:– The amount paid – The amount of time

can be used– The number of times

which can be used

Shut-In Royalty Clause - Examples

• Make sure to read carefully for problems:

AVOID: “Lease may not be maintained by shut-in longer than two years past primary term.”

AVOID: “Shut-in royalty paid in same amount as delay rentals” if no delay rental clause.

Temporary Cessation of Production

• Implied judicial doctrine– Mechanical problems– Operations Clause strictly interpreted

• Lessor Wants:– Limit or define operations– Limit the time to get production restored

Force Majeure Clause

• Lessee wants:– Events that are

unforeseeable AND– Events that are

inconvenient– Long list of events

• Lessor Wants:– Limit the events– Strike or omit

inconvenient acts

Pugh Clauses

• Vertical Pugh Clause

• Horizontal Pugh Clause (Depth Severance)

Horizontal Pugh Clauses – Examples

• Lessor wants to release everything above and below depth

• Severance at a particular depth:– 10,000’ below the surface– 100’ below the stratigraphic equivalent of the deepest

well drilled• Avoid using terms which could be open to interpretation

(zone, strata, horizon)

Insertion of Unusual Clauses by Lessor

• Entire tract to be included in unit• Anti-dilution provisions• Assignment upon approval of

lessor• Changes to warranty language• Rights to title opinions,

accounting and other documents, access to rig floor

• Payment clauses for tracts with a horizontal wellbore

Surface Estate – Rights to Use Surface

• Rights of Lessee:– Rights to develop

and produce– Rights to

ingress/egress– Rights to use as

much of tract as reasonably necessary

Surface Estate – Limitations

• Limitations of Lessee to use surface:– Not to use more than is

reasonably necessary– Non-negligent use– Due

regard/Accommodation– City ordinances– Express provisions

Surface Estate – Use by the Mineral Owner

• Rights under the lease and case law

• Roads?• Use of sand/gravel?• Well location?• Can lessee drill the

opening weekend of deer season?

?

Surface Estate – Use by the Mineral Owner

• Can lessee conduct seismic operations on the land without further permission?

• Does Lessee have to pay damages? Even to crops? Improvements?

• Any duty to fence? Any duty to restore?• Can Lessee use the water from a lake, drill a

well?

Surface Estate – Lease Granting Clause

• Grants the ability of the lessee to produce and explore for minerals

– Watch for the placement of the word “exclusive”

Surface Estate – Express Provisions

• Restrictions to Lessee’s use of surface– Limit the location of drilling– Limit the location of roads,

pipelines, etc.– Require the lessee to bury

pipelines– Require the surface to be

restored to its original condition– Restrict the Lessee’s use of both

surface and subsurface water

Surface Estate – Express Provisions

• Damages for Use– Pay for reasonable

damages to land, pastures, crops, fences

– Pay for use of water– Payment may be a rate

or fee schedule– Limited to the

imagination of the drafter

Lease Negotiation Checklist

• Get preliminary information on the operation

• Look at the tract size• Know the lease form you

are sending• Read Carefully:

– Use the same terminology

– Modifications/Alterations– Logical Consistency

Questions?