?????? What does the enhancement clause really mean ?????

Is there anyone who can explain what the enhancement clause really means .

I have been approached by O-G company and they are telling me that they wont pay on the gross but they have the " enhancement clause " that is just as good ? 

I smell something fishy !

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Permalink Reply by Jack Straw on May 18, 2012 at 2:23pm

RE: “What does the enhancement clause really mean?”

That is a good question, a very good question.

The argument for an “enhancement clause” is that the expenses associated with “enhancing” the product results in a higher sales price and that the royalty owner should proportionately contribute to the costs of that enhancement.

My arguments against an “enhancement clause” would be:

If it is to the Operator’s financial advantage to enhance the product in some manner, there is no reason why they need to punish the royalty holder by expecting them to contribute towards the costs of this enhancement. The only real “winner” in an “enhancement clause” is the Operator. I believe in a Gross Royalty, pure and simple - no exceptions, no embellishments.

A reality is that the inclusion of an “enhancement clause” places the royalty holder in a situation where they necessarily must trust the Operator to NOT to throw in “Garbage Fees”.

If forced into a situation where an “enhancement clause” is the only way to obtain a lease, I would want a clause allowing the royalty holder to audit the Operator’s records associated with the supposed “enhancement”.  And, if anything improper (or at all questionable) is found, I would require the Operator to remedy, reimburse and pay for all costs of the audit.

In a previous life, I was involved in situations in which my company audited the records of partners and I was involved in situations in which partners audited our records. It was all a bit of a game, we tried to slip in any bogus thing we could; they did likewise. A lot of questionable (and even improper) items would be caught; but a lot slipped through the audits. One example I am aware of is a situation in which a pro rata share of Helicopter and Workboat support was charged back to partners for the servicing of wells on one lease – the lease was in an area where there were roads to every well – in fact, there was no nearby navigable waters and there were no areas sufficiently clear at which one could land a helicopter. Every well was accessible by pick-up truck (and workover rigs when required). These chargebacks accrued for a very many years, we were never challenged by our partners.

Agreeing to an “enhancement clause” is a tacit statement that you trust the Operator (and any future Operators as yet unknown to you) until the last drop or whiff of gas comes out of the well(s). I am not that trusting a person.

 

All IMHO,

                    JS

Permalink Reply by time will tell on May 18, 2012 at 3:10pm

Thank you Jack for your detailed and understandable explanation of this clause . I have been approached by Gulf Port as were my neighbors and they tell us that this how they are going to business from now on . I can see why .

Permalink Reply by Jack Straw on May 18, 2012 at 3:53pm

Let me guess: the definition of "enhancement" is very vague.

Typically leases with "enhancement clauses" offer a higher royalty rate than those with strictly gross royalties.

Individuals have posted on this board that they have fared better with leases that include an "enhancement clause" than had they gone with a lease that had a lower royalty, but paid gross.

I have no reason to disbelieve these individuals.

Concerns that I have involve the fact that these leases (over time) tend to be traded like Basebll Cards. The Operator you lease with may not be who you are with 20 years from now (in fact, by the time 20 years transpires you may be on your fourth or fifth Operator).

As the wells decline over time, there may well be a tendency for the Operator to be smaller.

As the wells decline over time, there may well be a tendency for the "enhancement clause" to take an ever larger piece of the pie.

If Company A insists on an "enhancement clause" and pays an 18% royalty.

But Company B pays a Gross 15% royalty.

A possible tact would to accept an 18% royalty with an "enhancement clause"; but, have a sentence added such that the gross royalties do not fall below 15%.

The basic thought that goes through my mind – If an "enhancement clause" is so good for the royalty holder (and by implication, not so good for the Operator), why does the Operator push so hard for it?

Another thought concerning the "enhancement clause"; to accept one, I would want a very good O&G Attorney insert verbiage that would carefully define what constitutes an "enhancement".

When I am in that Old Age Home, with the drool dripping off my chin; I do not want to be complaining to the person giving me a sponge bath - saying “Dang, I sure wish I had not signed that “enhancement clause”.

All IMHO,

                   JS

 

 

 

Jim ShoosPermalink Reply by Jim Shoos on May 20, 2012 at 3:27am

See attachment

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Permalink Reply by time will tell on May 20, 2012 at 11:20pm

Jim, thanks for the doc on the enhancement clause , this pretty much sums it up .

Permalink Reply by Frank Walker on May 18, 2012 at 4:02pm

"I smell something fishy!"

You have very keen olfactory capability.

The so-called "market enhancement" clause, for Lessors, means trouble.

For Lessees, OTOH, is represents a great means to reduce your monthly royalty check!!

"Market enhancement" clauses are crap and need to be avoided.  Your lawyer almost surely is already aware of this ruse.  If not, you have chosen the wrong lawyer!

Permalink Reply by time will tell on May 18, 2012 at 4:17pm

Thanks Jack and Frank . I have posted this in the past and want to bring it up again with concerns , the arbitration clause . Whats your thoughts .

Permalink Reply by Jack Straw on May 19, 2012 at 4:48am

RE: “the arbitration clause . Whats your thoughts”

Like so many things, it seems reasonable at first glance.

If I am not mistaken, most arbitration clauses have each side choose one arbiter and the two arbiters choose a third.

My problem lies with the pool of arbiters.

In your lifetime, you likely will never have the need to choose an arbiter; who would you choose?

The Operator (from experience or advise of legal counsel)  will likely know exactly who to choose, the one who will most aggressively argue the Operator’s case.

You go into the process blind, the Operator goes into the process with experience in choosing an arbiter.

Also, an arbiter is looking always towards his/her next job; he/she knows that it will not likely come from you. If your arbiter is seen to work too hard for you, he/she will not (in the future) look to be an attractive choice for the Operator or look to be an acceptable person for the third (mutually agreed upon) arbiter. There is more financial incentive for an arbiter to side with the Operator (a potential future client).

I look upon arbitration as to being like a casino game, the odds are always in favor of the house.

Check out:

http://www.nolo.com/legal-encyclopedia/arbitration-pros-cons-29807....

 

All IMHO,

                       JS

Permalink Reply by time will tell on May 19, 2012 at 5:30am

Hi Jack , Thanks for your input as always . I am in a arbitration as we speak and it is a very bad deal for the defendant . Reasons , you can not ask for legal fees , punitive damages , pain and suffering , or loss of enjoyment along with your points- comments. This clause will never be in any document I ever sign period .

This in essence gives in my case the felon a way to slither out of what you and I could 

never have that luxury .

Permalink Reply by time will tell on May 18, 2012 at 11:49pm

Thanks Fang , what is PPC's .

Jim ShoosPermalink Reply by Jim Shoos on May 20, 2012 at 2:31am

PPC's is an acronym for Post Production Costs.

Permalink Reply by time will tell on May 20, 2012 at 9:24am

Thank you Jim .

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