ROAR - Member Question of the Month

MEMBER QUESTION - March 2020 ROAR

MR.PETERS: “I had heard that Aubrey McClendon retained a 1% interest of each well with Chesapeake. Is that royalty ever paid to land owners?”

REPLY: Thank you for the question. I will have to look into the fact that Mr. McClendon retained a 1% interest, which would be declared an overriding royalty interest. Back in the days of the de facto “standard” royalty of 1/8, if an operator wanted a lease bad enough to pay an additional royalty, they would give it in an overriding royalty interest. Since it is common practice today to give royalties based on a 3/16th, 1/5th or even a 1/4, there are not many cases of an override for mineral and royalty owners. That override is treated much like a royalty interest and does not impact other royalty owners in the leasehold/spaced unit the operator is developing.

I am considering your language of land owners meaning inclusive of the mineral rights. If I am mistaken, please let me know. MR. PETERS: You are correct, our property is in Pennsylvania.

DIGGING DEEPER: Aubrey McClendon was given, as part of his compensation, a “Founder Well Participation Program”. Actually so was Mr. Ward. The program was setup to allow the two founders the option to participate in each well that Chesapeake drilled up to 2.5%. As working interest partners they paid a pro rata share of drilling and completion expenses. This was bid as sharing the same risk as the company did. Working interest is carved out of the operators portions of the interest. So say for example after leasing everyone in one unit that Chesapeake is wanting to drill, the interest set out for the royalty interest is 20%. A combination of ¼, 1/5, 3/16 and 1/8 royalties. This leaves the operator with 80%, out of this percentage; working interest can be assigned by the operator. So if you are following the math, Mr. McClendon should have been paying 2.5% of the actual expenses incurred in each well for drilling, completing and ongoing operations; while only receiving income on 2%. His income is burdened by the royalty interest of 80%. 2.5% * .8 = 2.0%.

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Mr. Fleet’s response to Mr. Peters’ question says that what Aubrey McClendon (and Mr. Ward) got was not a royalty interest, but rather was an option to participate as a working interest owner for up to 2.5% in each Chesapeake well. As I understand Mr. Peters’ question, he wants to know if the interest Aubrey McClendon got reduced the royalty interest of the land owners in each well. The simple answer is “No”. The land owner in each well receives whatever royalty interest is stipulated in their lease, regardless of whether McClendon participated for 2.5% or any other percentage of working interest.