Oil and gas mineral royalties represent a significant aspect of revenue for landowners who possess mineral rights on their property. This form of income can be highly lucrative for landowners, especially in areas rich in oil and gas deposits. Understanding the intricacies of mineral interests and mineral royalties, including how rates are negotiated, the legal framework governing these agreements, and the potential impact on land value, is crucial for anyone involved in this sector.
What Does a Royalty Mean in Oil and Gas?
Oil and gas royalties are a percentage of the proceeds from the sale of oil and gas given to the mineral owner.
What is the Difference Between Mineral Interests and Royalty Interests?
A mineral interest is the real property interest created in oil and gas after the mineral estate is severed from the surface estate. Typically, a mineral interest is severed by a conveyance or a reservation when a property owner sells their minerals and retains the surface rights. In other words, someone owns the mineral interests when they own the mineral rights. It's important to note that entities or individuals can also own portions of mineral rights.
Meanwhile, a royalty interest grants an owner a portion of the production revenue generated from the sale of oil and gas. A royalty interest owner does not have to pay for any operational costs required to produce oil and gas, but they still own a portion of the revenue that is produced. The royalty is usually described in the lease as a fraction such as 1/8th, or 1/6th.
What is a Lease Bonus?
A lease bonus is a one-time payment the mineral rights owner receives when the lease is signed. The bonus is typically not written in the lease agreement itself because it is paid in exchange for signing a lease with an oil and gas developer. When you are negotiating an oil and gas lease with a developer, you may have to decide between a higher lease bonus vs a higher royalty. How do you decide? What factors do you need to consider? The company will make you an offer. If you turn them down, they are usually willing to increase the lease bonus OR the lease royalty…. but not both. These lease terms and others can be found here. But let’s answer a few more questions that always come up. A lease bonus is going to be paid to you when you sign the lease, so it is a guaranteed payment. As for receiving an oil and gas royalty payment, you will receive it ONLY IF the oil company drills a well and ONLY IF the well is a successful producer. Royalty payments are not guaranteed! In fact, most wells drilled in a new area have only a 20% probability of being successful.
However, there is a lot of potential money to be made in receiving monthly oil and gas royalty payments. However, there is no guarantee you will ever receive any royalty checks. That being said, negotiating the royalty interest in an oil and gas lease is critically important to both the mineral rights owner and the oil company taking the lease.
Economics of Drilling a Well
Oil companies can easily spend $10,000,000 drilling and completing a well. One of the many factors taken into consideration when deciding to drill is economics. How long will it take for the operator to recover the cost of drilling and completing, also sometimes referred to as “payout”? How much money will the operator make from the sale of production over the life of the well? The royalty rate in the lease has a huge impact on the economy. The higher the royalty in the lease, the longer it will take to pay and the less the operator will make.
If the lease has a 1/8th (12.5%) royalty, that will result in the operator paying 100% of all costs and receiving 87.5% of the revenue. The remaining 12.5% would be the royalty interest in oil and gas paid to the mineral rights owner. If the royalty was 20%, then the operator would pay 100% of all costs and only receive 80% of the revenue. The higher the royalty rate in the lease, the longer it will take for the well to reach payout.
Is There a Difference Between Oil Royalties and Gas Royalties?
Generally, there is no difference between oil royalties and gas royalties. Most leases provide the same royalty rate for oil and gas that are produced and sold. What is different is the price received for the sale of oil and gas. Operators might be receiving $38/barrel of oil and $2.50/mcf of gas.
How to Get the Best Deal for Your Oil and Gas Royalties
Interested in selling your oil and gas royalty payments up front for a lump sum? The best way to get the most value from your royalty payments is to generate multiple offers by listing on competitive marketplace, like LandGate. Listing on LandGate is completely free, with no commissions or obligations to accept offers:
