Adviser: Oil leases can be slippery creatures

2012-02-29T00:00:00Z 2014-08-25T14:46:59Z Adviser: Oil leases can be slippery creaturesBy TOM LUTEY tlutey@billingsgazette.com The Billings Gazette

To Montanans with mineral rights and land men bearing oil leases at their door, Ralph Montgomery has five cautionary words -- be careful what you sign.

"Do not sign that gosh-darn lease until you're happy, no matter what he says," cautioned Montgomery, of the Montana Land and Mineral Owners Association. "If that guy says he won't be back because he's going somewhere, that's OK. Let him go."

Property owners gathered Tuesday in Billings for a half-day mineral rights class organized by the Montana Farmers Union. The class featured presentations about water rights, the drilling technology behind the Bakken formation oil boom in North Dakota and Eastern Montana, and environmental-liability issues. What seemed to pique the interest of the 60-plus attendees was Montgomery's talk on leases.

Montgomery, a Hi-Line resident, said not signing a lease until you're satisfied and not leasing more than 640 acres at a time were the two must-haves for signees, though he also advised that usually the first and last paragraph of a lease are where the most important parts are found.

What's important is that any additional requirements the property owner has are written into the agreement. If the property owner wants a maintained road constructed to the drilling site, write it into the lease, Montgomery said. If the property owner wants to audit the well's production records to make sure the royalties are right, write it in.

Montgomery also recommended property owners make sure a "Pugh Clause" is added to the lease. The Pugh clause spells out what happens to the portion of leased acreage that does not contain a well or is not included in a pool of other properties bound by leases to serve one well. The clause typically allows unused acreage to be leased to someone else at the end of a primary term. Without the clause, an oil company that uses only 20 acres of a lease that covers 640 acres has the ability to block the other 620 unused acres from being leased by someone else, even if the company never taps those acres.

A second Pugh clause should be added to keep an oil company from tapping more than one oil formation per lease, Montgomery said. It is possible that a company that taps an oil formation at 5,000 feet could drill deeper and find yet another formation. If so, the landowner is going to want the right to negotiate a separate lease for the second formation. Montgomery said.

He also cautioned property owners from accepting "sight drafts," which are often offered by landmen as signing bonuses. Oil companies like sight drafts because it allows property to be locked in 30 days or more, while the company verifies title. If the title doesn't work out, the "sight draft" bonus is void.

But some oil companies use sight drafts to hold onto a property while they decide whether it's desirable. They offer the mineral rights owner a sight draft in exchange for a signed lease. Then, if the company decides to dump the property, the mineral rights holder gets no bonus and also must untangle the signed lease that has been handed over to the oil company. The lease can eventually be returned, Montgomery said, but usually not without the mineral rights owner hiring a lawyer. Meanwhile, any other oil company truly interested in the property can't get anywhere.

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