Survey indicates significant positive financial results from lease royalty negotiations: Part 2

Attorney survey negotiations resulted in an average royalty increase of 33.6 percent per year. This story is the second in a series.

A recent Michigan State University Extension news article, “Oil and Gas Attorney Survey Indicates Positive Financial Results from Lease Bonus Negotiations” stated that the average initial bonus offer was $42 per acre and was increased to an average of $124 per acre by attorney negotiations, an increase of 195 percent.

Each oil and gas lease contains a royalty clause that allocates to the landowner a portion of the income produced as a result of the extraction of hydrocarbons. Economically, it is the most important term of the lease. Royalties can vary greatly from lease to lease, so it should receive close attention by landowners.

During the summer of 2013, a survey was mailed to oil and gas attorneys that represent private landowners. The survey measured oil and gas lease terms “before negotiations” and “after negotiations” to determine what, if any financial or environmentally related lease terms were negotiated to benefit their clients.

Oil and gas lease royalty

The survey found that 100 percent of the attorneys reported the initial royalty offer was 1/8 (.125). As a result of negotiations, the average royalty increased to 1/6 (.167), an increase of 33.6 percent. All attorneys except one reported that on some leases, the royalty was increased to 3/16 (.188), an increase of 50 percent depending on the location of the land and the demand in the lease market for the mineral rights in that area.

To demonstrate the financial impact of the royalty, we can use an example oil well. For this example, we will assume the landowner is the sole owner of 40 acres and a successful well is drilled that produces 25 barrels per day. It operates for 200 days during the year and the oil sells for $90 per barrel. This well will produce $450,000 in gross income (25 barrels/day x 200 days x $90/barrel = $450,000) in the first year.

Alt 1: .125 (1/8) royalty produces $56,250 ($450,000 x .125 = $56,250) for the landowner.

Alt 2: .167 (1/6) royalty produces $75,150/yr. ($450,000 x .167 = $75,150) for the landowner.

By negotiating a royalty increase to .167, in this example, the income is increased $18,800 in the first year, or 33.4 percent. It is important to note that this increase lasts the entire term of the lease, so there is a compounding effect.

For more information about oil and gas leasing, visit the Michigan State University Extension Oil and Gas website to view additional resources such as Landowner Information for Oil and Gas Leasing, a free downloadable resource that provides information to assist mineral owners in understanding oil and gas leases in layman’s terms as well as knowing their options in negotiating changes that put the agreement in line with their financial and environmental goals.

This article is the second in a series to discuss the results of this survey. Future articles include:

  • Post production costs negotiation results
  • When negotiations were not successful, what did the landowner do?
  • Environmental and land use negotiation results

Other stories in this series:

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