If a company “A” that plans to drill only offers a 1/5 and no “cost free royalty” for a lease for a horizontal well. Then company “B” leases these minerals for a 1/4 and grants a "cost free royalty. Then company “A” drills a horizontal well and company “B’s” lease is included in the horizontal unit. What will company “A” have to pay and abide by?
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You would be due royalties under the terms of your lease B. If B has retained the lease and participated in the well as a non-op WI, then A will pay properly and charge that against B’s working interest. If B has assigned the lease to A, then A will be bound to the lease terms. There is a lot of discussion on various threads here about adding ‘cost-free royalty’ language in leases. It is important to be sure that the entire royalty clause is properly written to make the cost-free language effective, i.e. not proceeds or market value at the well.
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Is there a fool proof “Cost Free Royalty” language in a lease in Texas?
There are some very good leases that address “cost free” language. Best way to ensure getting the best lease possible is to work with an experienced O&G lawyer who has expertise in such contracts.
Even with a “cost free” lease, one needs to stay on top of any monthly revenue checks to see if the lease terms are being honored and no deductions are being made.
I personally experienced this with a major operator in the Permian Basin who had been deducting expenses for years even though the original lease was clearly “cost free”. I ended up having to contact the operator (on behalf of my client) to get refund for all the deductions.
Total refund was in the six figures.
Side note - consider adding a lease clause that pays you for “flared gas”. No sense seeing royalty money being burned up when you can get paid for any flaring.
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Royalty percentage is pure proportional math - take each lease (net acres total) as a percentage of the overall production unit and the calculate that percentage @ one royalty (e.g. 20%). Do this across the unit to get final royalty percentage.
As for the “cost free royalty” issue, same situation. e.g. if 50% of the unit is “cost free”, 50% of the production / revenue will not be subject to various deductions. While the other acreage with no cost-free clause will be paying a proportionate share of those deductions.
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