Originally published in the June 2020 issue of Dominon Magazine
BY: ROBERT TURNBULL, JD
Property Manager, Argent Mineral Management | (210) 581-0434
Landowners who treat royalty income from oil and gas assets as “mailbox money” will need to be more involved in monitoring the financial performance of their properties due to the collapse in oil prices caused by the COVID-19 pandemic and turf battles among oil producing nations. A proactive working relationship with oil and gas producers can help landowners offset the recent collapse in oil prices and generate more income on their mineral assets, and some landowners may find the assistance of a mineral management company beneficial.
Mineral rights owners play an important role in Texas’s oil and gas industry and the state’s economy. Around 2.5 million of the nation’s 12.5 million mineral owners live in Texas and their properties generate billions in royalties for their families, according to the Texas Independent Producers & Royalty Owners Association, which represents nearly 3,000 individuals and companies. Oil and gas companies paid around $16 billion in state and local taxes and state royalties – the equivalent of $44 million each day to fund the Lone Star State’s schools, universities and infrastructure initiatives.
History has proved most prognosticators wrong when it comes to accurately predicting oil prices. Yet based on current economic conditions, the COVID-19 pandemic could very well depress oil and gas prices – and royalty payments – for the rest of this year. To maximize royalty income as the country (and the oil and gas industry) grapples with the coronavirus, landowners need a game plan. Here are three important elements of that plan:
1. Understand oil & gas financial and production reports
For many landowners, making sense of financial statements and production reports – and how those numbers translate into royalty payments – can be frustrating. Inexperienced rights owners also will find it incredibly challenging to understand how oil and gas accounting and tax law affects royalty payments. While oil and gas producers are held to the “reasonably prudent operator” standard when performing their duties, there is no generally accepted standard for production and financial reports provided mineral rights owners.
Mineral management companies can play an important role in maximizing royalty payments by reviewing production reports and financial statements for inaccuracies. The best mineral management firms use top-line financial and production software platforms that collect data across multiple departments (tax and production, for example) and compile the information into reports that are customized for the landowner.
2. Consider auditing the production company
For oil and gas rights owners, the audit is your friend. In our work with clients, an audit revealed that seven out of 10 mineral rights owners were being underpaid. Mistakes can easily – and inadvertently – happen and go unnoticed for years. An audit can identify mistakes and ensure transparency so both parties are on the same page and payments are in compliance with the lease agreement.
Here are a few of the typical errors an audit may uncover include mistakes in:
- Expenses: Deductions are taken from royalties that exceed what is allowed in your lease
- Production volumes: Operators do not make payment for the full quantity of the product that was produced and sold
- Pricing: Operators may pay the weighted average price of oil and gas instead of the actual price received
- Nonpayment: Operators may fail to set up royalty owners on a producing well
3. Use a professional for lease negotiations and contract
With oil prices around historic lows, cash-rich producers and investors may be looking to lease mineral rights on the cheap. Oil prices, however, are only one factor in determining the value of mineral rights. Other factors, to name a few, include the geology of the area and assets the buyer leases or owns near your property.
Landowners who are interested in leasing their land for the first time are likely to generate more income – and mitigate potential legal risk – by working with a mineral management firm. Most oil and gas owners do not know the complex mineral contract law and regulations. The novice will not understand how certain terms and clauses – post-production costs, gross versus net – will affect how royalties are calculated.
A poorly negotiated lease agreement could cost landowners dearly in lost revenue and leave them potentially obligated to comply with federal, state and local laws and regulations. Experienced mineral management firms also can provide landowners access to experts in tax, audit and environmental law.
For now and in the future, exploration will take on a new meaning for landowners – and it won’t involve searching for oil and gas. It will mean looking for ways to work more closely with producers to earn as much income as possible during the coronavirus pandemic and secure the wealth-generating power of mineral assets to benefit their family and future generations.