Leasing with or without 2 year option

We have been negotiating our two sections in Reeves County for the past month with three different companies. The bonuses are all about the same, 3 years, 25% and all three insist on a 2 year option. From everything we have read an option is not the way to go for the landowner. All three companies say with the infrastructure in Reeves County they need the extra two years (rigs/equipment). We would like to say no to the option but are dealing with several family members and have a fear of being dropped and getting nothing.

Any suggestions from anyone?

M and K Haag

What most people refuse to understand is that an option term does not have to be paid by a company. They think that after the primary term that the company is going to "HAVE" to pay the option term! It is the companies option to pay it or not pay it. The longer time you give a company to tie up your mineral rights, the longer they can keep from drilling. If your neighbor leases for a 3 year term and you lease for a 3yr. with a 2 year option. If time left on the leases is an issue they will drill them first and put you on the back burner.

As far as a company saying the "we are drilling" means very little. Ask them will they give you a firm "drilling commitment in writing".

If the bonus money from three companies is all about the same usually means that a major company has employed 3 different brokers to lease for them. They are not going to compete against themselves. Who's name the lease is taken in does not make much difference in most cases.

There is a particular broker in Houston County, Texas that has a landman telling everyone the "We are drilling"

What they don't tell is that it takes forever to get paid after the well starts producing! Once you sign you are at their mercy if you sign a bad lease. If they say the are going to drill, tell them to put in in writing and see what they say.

Well said! Anyone signing an option will be waiting a lot longer. If the company needs an extra two years, they can approach me after the lease expires and we will discuss. Of course, the bonus price will be higher if they have completed successful wells nearby. No options for me.

Walter Stewart said:

What most people refuse to understand is that an option term does not have to be paid by a company. They think that after the primary term that the company is going to "HAVE" to pay the option term! It is the companies option to pay it or not pay it. The longer time you give a company to tie up your mineral rights, the longer they can keep from drilling. If your neighbor leases for a 3 year term and you lease for a 3yr. with a 2 year option. If time left on the leases is an issue they will drill them first and put you on the back burner.

As far as a company saying the "we are drilling" means very little. Ask them will they give you a firm "drilling commitment in writing".

If the bonus money from three companies is all about the same usually means that a major company has employed 3 different brokers to lease for them. They are not going to compete against themselves. Who's name the lease is taken in does not make much difference in most cases.

There is a particular broker in Houston County, Texas that has a landman telling everyone the "We are drilling"

What they don't tell is that it takes forever to get paid after the well starts producing! Once you sign you are at their mercy if you sign a bad lease. If they say the are going to drill, tell them to put in in writing and see what they say.

I totally agree with the above post in that if the operator needs these two additional years, new negotiations will be made in regards to bonus and % royalty amounts. Alot can change in an area over a two year period and if several “very good” wells are completed near your area, these amounts will rise. Another plus for not having this two year option is the incentive for an operator to drill within the three year lease period.

Leave capable of producing in, increase the shut in royalty to 75 per acre and a 2 year limit cumulative on shut in royalty payments.

I have heard of giving a first right of refusal rather than an option to renew...

It is really my thinking that if a company is serious about drilling a well, three years is plenty of time to get their act together. Again, it comes with more incentive to drill since the cost factor to renew a lease can get expensive .

All good advice in the above replies. Keep in mind that the 2 year option is really at the operators benefit/advantage and not your own. At the end of the primary term they will either elect to excercise the option to extend (at the terms you negotiated 2 to 3 years prior) or they will simply elect not to extend.

Much better for the land/mineral owner to leave that option to extend out of your deal whenever possible. At the end of the primary term if you have not been drilled then you will be in the position to negotiate for any extension based upon whatever the market terms are at THAT time.

Thanks all of you who have replied. We had previously learned on this forum, especially from Buddy Cotten, that the option is not a good deal for the landowner and it only benefits the lessee. Therefore we have asked all three different landsmen and their respective companies to forego the 2 year option. Of course, none of them want to do that.

We are wondering if we put a delay rental in the lease stating in years 2 and 3 if no drilling had taken place the lessee would have to pay us say $200.00 per acre. This hopefully would give them an incentive to drill before they would have to pay the delay rental. This could partially compensate us for the losses that the 2 year option could create.

Has anyone tried or been successfull in doing this before.????

The Haags

Perhaps you are already aware the Texas General Land Office (GLO) used something similar.

(You may wish to ask for more than $200 per nma, depending on your location. . .see below.)

The GLO amount due for Year 4 is as much as the minimum bid for the first three years.

I am not sure, but I think the idea is

a. If they drill in the first three years, they don't have to pay in year 4 and 5, because it would be HBP, or

b. If they don't drill within first three years, they have to pay in year 4 or 5, or

c. What if they don't drill within first three years AND they don't pay the annual bonus due at 4th and 5th yrs? I do not know if the Texas GLO can or would go after the Lessee for the 4th and 5th yr bonuses if Lessee failed to pay.

But my guess is that the GLO has structured a better lease for the mineral owner than a 3-yr lease with lessee's right to take an additional 2 yrs.

I'll paste in my notes about (the Reeves County portion of) their recent sealed bid auction.

10/4/11 Texas GLO sealed bid lease auction:
details about Texas GLO sale dated 10/4/11:
Reeves County is tracts 4 thru 13:
roy for PSL land is fixed at 25%, primary term is 5 yrs,
annual rental is $5 per acre for 2nd and 3rd year, then $25 for 45th year and 5th year,
except special conditions for Reeves County:
Reeves Co. annual rent is $5 per acre for 2nd, 3rd, and 5th year, but for 4th year it is either $1000 per acre or $1500 per acre, depending on minimum bid in offerings.

Reeves County tracts were:
Tracts 4 thru 12 are in Blocks 70, 71, and 72, around Toyah:
Minimum bids are apparently all $1000 per acre for these Toyah-area tracts
These are all southwest of Pecos, in three sections all around Toyah:
e.g. Section 8 in Block 70 is 24 miles South and 82 miles west of county seat
e.g. Section 7 in Block 71 is 25 miles south and 71 miles west of county seat
e.g. Section 21 in Block 72 is 15 miles south and 72 miles west of county seat
Results: No bids on tracts 4 thru 12.

Tract 13 is in northwest part of Reeves close to the Culberson line:
minimum bid Tract 13 is $1500,
Tract 13 is in Block 58 or 58-2, most of this block is in Culb Co. and some of it lies in Reeves Co.:
in Section 8 in Block 58 in T2S or in TSP 2-S, survey is T. & P. Ry. Co., it is 99 acres,
minimum bid is $148,500 for 99 acres , i.e. the min is $1500/acre,
and the distance/direction from county seat is blank.
My research shows it is A-3622, T&P RR Co/Steen, J A, Section 36, in 58 T2S
Results: One bid on Tract 13, Thunderhead Petroleum LP bid $161,172. = $1628 per acre
[plus kickers: $1500 kicker at 4th year and $5 for the other yrs.]

Here is the url of the offerings.

http://www.glo.texas.gov/what-we-do/energy-and-minerals/_documents/sealed-bids/bid10-04-11/notice-for-bids-10-04-11.pdf

The special info for Reeves County is on page 4 using the Adobe numbering of pages, or it is page 1 using the page number at the bottom of the document page itself. Be aware the sample lease form in the offering is not pertinent to on-land leases. I seem to recall that if you call the GLO they will send you the sample lease form for land tracts; however, i am not sure the sample document would have the language about the 4th-year kicker.

Here is what I found out today after e-mailing GLO several quesions: My main question was how a lessee could offer a 3 year primary with a 2 year option on a Relinquishment Act Lease which is what we have to use on our land which is Public School Land. “The GLO prefers leases with no more than a three year primary term. However, as oil and gas companies have picked up a substantial amount of acreage in Reeves and the Wolfbone play is still developing, this office has been agreeable to five year terms to encourage exploration and allow for orderly development of the play. The method for creating a five year lease that operates like a three year primary term with a two year option is to negotiate a five year primary term with an escalated delay rental for the fourth year (third anniversary). The escalated rental should be at or near the original bonus amount.”

That won't work at all. I have seen leases with 3 year primary terms and 3 separate 1 yr. option terms. Take Shelby County, Texas as an example. An XTO broker tricked a mineral owner into this. They never got paid and the acreage was held in the primary term by a drill site.

Why don't they just go ahead and pay you fairly?

There have been many cases where horizontal wells were drilled and they were not fracked and they are still being held without production and the lease term has expired. This is in the Haynesville Shale in north east Texas and Louisiana. The companies are XTO and Chesapeake among others.

Why not try to lease to a company that is willing to drill within the 3 year term?

We have not had any problems in insisting on a 3 year lease limitation until recently when we discovered that the problem is the availability and scheduling of drilling rigs. As a compromise we have discussed and agreed with the General Land Office that we would do a four year lease with an initial lease bonus with a matching bonus for the final year of the 4 year lease. This was met with resistance, but the play in the area eventually brought forth the desired results. I understand that more and more oil companies are flocking to the Reeves-Ward-Pecos-Culbertson County play because of the % completion records being set. I read today that Exxon-Mobile is starting to do work in the Western Permian Basin/Deleware Basin due to the production rates. The more the merrier in my mind.



R.B. Jerry McGowen III said:

We have not had any problems in insisting on a 3 year lease limitation until recently when we discovered that the problem is the availability and scheduling of drilling rigs. As a compromise we have discussed and agreed with the General Land Office that we would do a four year lease with an initial lease bonus with a matching bonus for the final year of the 4 year lease. This was met with resistance, but the play in the area eventually brought forth the desired results. I understand that more and more oil companies are flocking to the Reeves-Ward-Pecos-Culbertson County play because of the % completion records being set. I read today that Exxon-Mobile is starting to do work in the Western Permian Basin/Deleware Basin due to the production rates. The more the merrier in my mind.

Considering further comments, I suggest that all mineral interest owners have any proposed leases be reviewed by an attorney with knowledge of oil and gas law and experience in the subject area. We always use an addendum to the oil and gas lease that has various provisions that solve our problems with lease inactivity.