Novel Method of Terminating HBP

Good people of GMS,

 

A friend and I were discussing novel methods of terminating the dreaded HBP, specifically, under the following fact pattern:

 

In the 1980s, Company A  drills a shallow well; for one reason or another, they decide to sell it to an unaffiliated third-party, Company B. In the Bill of Sale and Assignment, Company A reserves the "deep rights." This is a classic Belden & Blake scenario.  

 

Fast forward 30 years, that shallow well is still puttering, producing just enough to be considered "paying quantities."

 

Jonny Landowner enters a lease with a "deep driller," but at the conclusion of due diligence, he gets a defect letter rather than a check. Ouch, he is HBP--that old shallow well. Of course, Jonny is not happy, but he is not one to give up. He knows that Company A (the holder of the deep rights) has not done anything to perpetuate the lease other than piggyback on the shallow well. Therefore, if that shallow well were to be plugged and abandoned, his property would be free and clear.  

 

Jonny decides to contact Company B (shallow well owner/operator), and he offers to pay them an amount equaling the plugging costs, plus the well's projected production for the next 10 years. Company B agrees and the well is plugged. Jonny signs a new lucrative lease with much better terms.

 

Thoughts?

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Replies to This Discussion

Permalink Reply by Sylvester Deal on January 31, 2013 at 4:55pm

Oliver,

Read lease carefully.  There is usually a clause that stipulates a time frame during which activity to hold the lease may ensue such as, drilling another well.  It is usually the time specified by the delay rental payments.

Permalink Reply by Oliver Eastern on January 31, 2013 at 6:47pm
True, but the deep rights owner has to produce the deep rights to maintain their leasehold (they don't own the shallow). Drilling a horizontal well is not a simple process. There is a ton of planning that goes into it. So, depending on the time frame the savings clause in the lease provides, it may be impossible.
0i7okn54zwbdoPermalink Reply by 0i7okn54zwbdo on January 31, 2013 at 5:39pm

Why on Earth would Company B agree to release the deeps rights that it already paid for so that Jonny Landowner can sign a new lease?

Permalink Reply by Oliver Eastern on January 31, 2013 at 6:26pm
Marcus, in my hypothetical, Company B only purchased the shallow rights. Company A reserved the deep. Company B is giving up its shallow rights in exchange for Jonny paying 10 years worth of projected production plus the cost of plugging the well. Company B couldn't care less if Company A's rights are extinguished.
Permalink Reply by Paul Martinelli on February 1, 2013 at 3:10am

Oliver....in most cases Company B has numerous wells/leases and have entered into a contract with a deep well operator/drill.   They will not put the bigger picture at risk, a deal on thier entire acreage, just to allow you to buy them out of one well so that your acreage is free and clear.

 

If you had shallow wells on 3000 acres and were working a deal with Gulfport for example to "sublease" all 3000 acres, would you jeapordise that deal by selling off one well?

 

In your case, where the deep rights are held by someone else.....all 3 companies....Comapany A, Company B, and let  say Gulfport, all have an interest in your acreage.   Company A and B both stand to benefit from Gulport.....why would they just turn that over to you?

 

Oh how I will it was true that deep rights were declared not to be HBP by old shallow wells......it would make leasing simpler....and put more jingle many more landowners......and increas the rush to  drill.......as nothing would be HBP.

 

 

0i7okn54zwbdoPermalink Reply by 0i7okn54zwbdo on February 1, 2013 at 9:02am

So you're asking Company B to conspire with Jonny in order to defraud the owner of the deep rights in order to score some bonus money?  That's...not a good plan.

Permalink Reply by Oliver Eastern on January 31, 2013 at 6:41pm
Fang, I agree that an argument exists (that the shallow production does not perpetuate the deep post severance). However, the industry certainly does not take this position. Many of the transactions that have taken place wouldn't have otherwise. For instance, mom and pop o&g company sells CHK the deep rights, but retain the surface so that they can continue producing from their shallow wells. The primary term of the lease lapsed long ago, but CHK is in no hurry to produce the deep because they believe their rights are perpetuated by the shallow wells.
Permalink Reply by Sticky Fingers on January 31, 2013 at 6:39pm

Oliver I like your idea and I think that in the right situation that might work. The only thing I could think of off the top of my head that might put a flaw in your idea would be if the company that holds the deep rights catching wind of what the landowner was trying to do and permit a well that would be drilled to the formation they own, which usually is sufficient to hold the lease another year at least.

Sylvester, what you are describing is called a pugh clause, most of the old leases do not have that language included in the lease. Unfortunately with most old leases once a well is drilled the only thing that is due to the landowner is 12.5% of the gross proceeds for their proportionate share of leasehold acreage included in the drilling unit. If that is paid that is sufficent enough to hold all strata.

Fang, I am not sure if a depth severance in a leasehold estate  would apply to the Ohio Dormant Minerals act. My understanding is any production on a lease is sufficient enough to hold all the strata unless the lease has a pugh clause or continuous development included. I dont think either of those clauses were included in many old leases. 

Just IMO

Permalink Reply by Sticky Fingers on January 31, 2013 at 7:13pm

I am definitely interested to hear more about your case as it develops. I am learning more and more each day about the Ohio DMA. 

My humble opinion of the act is it was put in place to prevent a situation were the minerals are unable to be developed because the current owner of the minerals is unable to be located, much like what is currently happening in WV and PA. In an HBP situation the mineral interest is being developed.

I definitely agree the shallow wells holding the deep shale formations is unfortunate for many landowners and they might miss out on millions of dollars today because of an agreement that was entered into 30 years ago.

Maybe instead of DMA something is passed forcing every O&G lease to specify a specific depth interval for each lease they sign. Just a thought.

Permalink Reply by Lisa McManus on February 6, 2013 at 3:22pm

I'm interested in your success, as well, as I have been considering the same type of claim under the theory of implied covenant of further development. The twist here is that Lessee assigned shallow and deep acreage except for 11 shallow wells to Assignee A, and then Assignee A assigned deep rights to Assignee B, retaining the remaining shallow acreage. Neither assignee has done a thing to develop and just lets the original Lessee's 11 shallow wells HBP. More and more people are talking about the implied covenant of further development, although my understanding is that several jurisdictions have rejected it, while some have embraced it. 

Permalink Reply by Lisa McManus on February 6, 2013 at 3:35pm

I hear that - the shot heard 'round the world! 

Permalink Reply by Sticky Fingers on February 6, 2013 at 5:02pm

What about when you think of things from Assignee A's perspective? When they purchased the non-developed leasehold acreage from the original lessee they knew that there was no rush with further development insofar as the wells drilled continue to produce oil/gas in paying quantities.

What if Assignee B would love to develop the Utica/Point Pleasant formations by drilling horizontally but currently does not have the available assets ($$$) to do so without JV partners?

Is it fair to steal their leasehold because some landowners feel they should be able to make more money by signing another lease and having multiple producing wells on their acreage? If they followed the laws and have been paying the royalties due to the landowners from the wells they should be able to develop the deep acreage at their own discretion.

It is not their fault that someone signed a lease for ALL oil/gas and agreed to Warrant and Defend they are the lawful owners and that no implied covenants, agreement, or obligation is to be read into the agreement.

Its too bad we cant go back in time and sign the lease for formations 300 feet above the top of the Queenston so that you can sign your deep acreage with a company that can develop it when the technology/resources allows for it. For the people that thought ahead and did that... good for you!

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