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Actual well costs. The actual cost to drill or plug the well may exceed the estimate that was provided before the hearing. A PO will be held liable for the allocable share of the additional costs.
Completion and operating costs. If the well is successful, it will cost money to complete and operate. A PO is liable for the allocable share of these costs for the life of the well.
Gathering line costs. If the well is a producer, the well operator will provide the PO with the estimated costs to install a gathering line to bring the gas to market. A PO will have the option of paying the allocable share up front or having the allocable share plus 100% withheld from the share of production proceeds.
Subsequent operations. The law defines certain operations in the spacing unit, including additional work on the existing well or drilling of another well, when the PO must decide to either pay up front or be subject to a similar risk penalty. Subsequent operations may cost as much as or more than the original drilling.
Other liabilities. A PO is also liable for the proportionate share of taxes and third-party claims related to drilling and operation of the well.
It is quite possible, that at certain times during the life of a well, the costs of the the well may exceed production resulting in the PO owing the operating company money. Moreover, there are may reasons why problems can arise which will cause the drilling, operational or plugging costs to exceed original estimates.
However, on the bright side, if the operator strikes natural gas, you will receive 100% of the royalty, for your share of the unit, from day one. If you should strike a dry hole, you could lose your investment. This is a HIGH RISK, HIGH GAIN option for those who have the funds and don’t mind a gamble.
CAVEAT: A PO may be liable for third party claims.
***Planning Opportunities***
> Transfer your property into an entity and sell interests to others?
> Lease your property to a third party who will make the PO decision and negotiate with you a competitive bonus and royalty?
PLAY - Nonparticipating Owner
Unleased landowners preferring a “middle road" can choose to PLAY and become a nonparticipating owner (NPO). Landowners who choose this option pay nothing up front, but are subject to a risk penalty period that is equal to three times the cost of their share for drilling the well. If the landowner's property is unleased the statute does not provide any royalty payments during the risk penalty period.
Therefore, the “recoupment” cost is deducted from royalties before the landowner receives anything. After the penalty phase, a nonparticipating owner is treated the same as an participating owner in regards to receiving 100% of the royalty for the landowner's share of production as well as subsequent expenses associated with the operation of the well.
CAVEAT: A NPO may be liable for third party claims.
***Planning Opportunities***
> You may receive a reduced royalty, during the penalty phase, by leasing to a third party or even your own controlled entity prior to the compulsory integration hearing? For example you can form an LLC and lease your own property to your own LLC. You, as the landowner, will be considered a non-participating owner and the LLC will receive a royalty payment during the penalty period as follows: 6.25% during the recoery of well cost; 9.38% during the first 100% of the penalty, then the lowest royalty (not less than 12 1/2%) during the second 100% of the penalty. Once the penalty period is over, your royalty rate will be 100% of your allocable share of the unit.
> Transfer your property into an entity and sell interests to others?
> Lease your property to a third party who will make the PO decision and negotiate with you a competitive bonus and royalty?
PASS - Royalty Owner
A landowner may choose (or by default) to pass and become a Royalty Owner (RO). This option is the most conservative choice since the landowner only receives a royalty equal to the LOWEST royalty paid to a landowner leased to the operating company in the spacing unit. Note: The royalty rate can not be less than one-eighth percent (12 1/2%). The RO has no obligation to pay to the driller/developer any money for costs, fees and taxes incurred in connection with the well operation. Also the landowner's surface can not be utilized by the gas company unless the landowner allows same.
***Planning Opportunities***
> Negotiate a lease with the operator prior to the compulsory integration hearing?
> Negotiate a lease with a third party prior to the compulsory integration hearing?
Gary B. Kline, Esq.
Coughlin & Gerhart, LLP
1701 North Street
Endicott, New York 13760
1-607-723-9511
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