Many leases in Pennsylvania are set to expire in 2016 or shortly thereafter and Southwestern Energy and other gas companies across Pennsylvania are aggressively seeking to extend existing gas leases for little to no compensation. Given today’s low natural gas prices, Southwestern Energy and many gas companies across Pennsylvania are seeking to extend existing Oil and Gas Leases to avoid drilling expensive horizontal wells into the deeper Marcellus and Utica Shale formations. Property and gas rights owners must be very cautious when considering any extension, modification or amendment of their existing gas lease as these extensions or other changes generally benefit the gas company and not the landowner.

Why do Gas Companies Seek to Extend Some Existing Oil and Gas Leases and Allow Others to Expire?

As many Pennsylvania landowners have experienced, if the gas company holding your lease feels your lease if too favorable for the landowner and the company has not already included the property into a drilled production unit, that gas company will typically let your existing landowner friendly lease expire. The company will then re-approach the landowner with a new gas lease offer with terms that are more favorable to the company. For example, the new gas lease will typically offer a lower royalty percentage then the expired lease and may also permit the company to take post-production cost deductions from the landowner’s royalty payments. Also, the new lease will probably eliminate, reduce or modify landowner friendly addendum that were part of the expired landowner friendly lease.

Gas companies are smart and know that in most cases once a strong landowner gas leases expires they can secure a new gas lease for the same parcel in the future for less royalty payments and greater company development flexibility.

So Why Does the Gas Company Want to Extend your Existing Lease that is About to Expire???

One common reason is that the landowner’s existing lease may provide that the landowner is only entitled to Pennsylvania’s guaranteed minimum royalty of 12.5% or 1/8th royalty. Even worse, perhaps the current lease only provides for 12.5% royalty and also allows deductions for post-production costs such as transportation, gathering and compression. If your gas lease only provides you 12.5% royalties and permits deductions, you simply cannot do worse in Pennsylvania. What gas company does not wish all of their gas leases only provided the landowner with the lowest possible royalty allowed under law?

Of course gas companies want to pay the landowner the lowest royalty possible and the company wants to share all post-production costs with the landowner. The lower the landowner’s royalty percentage, the more royalty for the producing gas company. Gas companies love to extend 12.5% royalty leases or a lease that is otherwise favorable to the gas company whenever they know that there is gas in the area and that they eventually plan on producing or selling leases in the area for a profit. Bottom line: the lower the royalty for the landowner, the more valuable the lease is for the company.

Why Do Oil and Gas Leases Expire and Why Does the Company Want to Extend My Expiring Gas Lease?

A question arises as to why the company has not drilled or conducted necessary operations to hold the existing gas lease prior to expiration? There can be many reasons that a gas lease expires, but in today’s low natural gas price market gas companies do not want to drill expensive horizontal wells. There is no way around the fact that low gas prices have an enormous impact on natural gas companies.

When gas prices are low, companies’ profits are reduced as they receive less money for the gas they sell. As companies receive less revenue for their gas, they have less money to spend on drilling new wells and acquiring new leases. In today’s market, natural gas companies are strapped for cash and they do not want to spend 5-7 million dollars to drill new horizontal wells when they cannot sell the gas from these wells for profit, or for only very small profits.

Low Natural Gas Prices Kill Drilling, but may Provide Opportunities to Informed Landowners

When companies do not drill wells, they lose gas leases that have not been drilled or otherwise developed and held. In order to avoid losing existing company friendly leases, company landman are deployed to persuade landowners to sign Oil and Gas Lease Extensions and Amendments to allow the company more time to drill wells. The landman will typically have many reasons why the landowner should sign the proposed lease extension, but we know that the landman works for the company and not for you. Please excuse this commercial statement, but no landowner should sign any gas lease extension without consulting with an experienced oil and gas lawyer. There is too much at stake to take advice from the employee of the company (landman) who wants you to sign an agreement they are presenting.

How can Low Natural Gas Prices Work in my Favor with Respect to Expiring Leases and Lease Extensions?

Low gas prices may be a very welcomed opportunity for landowners to allow their existing company friendly lease to expire and then provide the landowner an opportunity in the future to negotiate a new gas lease with favorable terms, including higher royalties and other property protections. Remember, if the company feels your existing lease is favorable to you, they will typically allow your lease to expire and then offer you a lesser lease in the future. If the company feels your existing lease is friendly or beneficial to the company, they will approach the landowner with a lease extension request.

Every landowner’s first question should be, “Why is the gas company offering to extend my existing gas lease?”

Because the company feels it is in the company’s best interest to keep your current lease alive rather than entering into a new lease in the future. Despite what the landman may tell you, gas companies are not in business to benefit landowners. Gas and Pipeline Companies are in business to benefit the company and their shareholders. Beware of any company landman knocking on your door offering to do you a favor by extending your gas lease years into the future.

Sample Gas Lease Extension Offer and Evaluation Process in Low Natural Gas Price Market

On All Things Marcellus I recently discussed a hypothetical gas lease extension example in Tioga County where Southwestern Energy sought to extend an existing lease at 12.5% royalty by offering only a one-time payment of $2,500. This $2,500 is not a per acre payment, but only a one-time payment only. Not only was this landowner asked to extend the worst possible royalty percentage allowed by law, but in this case an extension of the Oil and Gas Lease also extended an exceptionally terrible Pipeline Right-of-Way Agreement that would expire simultaneously with the gas lease.

It may come as a shock, but the gas company landman never told the landowner that if they extended the gas lease they would also extend a completely one-sided pipeline easement agreement which will likely come back to haunt the landowner for years into the future. In this particular case the decision to pass on the extension was clear. However, in some cases the decision may not be crystal clear and it may be in the landowner’s interest to extend their lease. The key to making the right decision is education and quality information.

What Should the Landowner Consider When Evaluating an Offer to Extend their Gas Lease?

The landowner must consider many factors, including but not limited to the (1) terms of the existing gas lease; (2) the basis for the company’s extension request; (3) the status of leasing and existing leaseholds in the region; (4) the geological and production information from the area; (5) future development plans; (6) anticipated gas production and gas prices in the short and longer term; and (7) the landowner’s individual risk tolerance and financial situation. After thorough consideration and review of the above and all other relevant facts and available information, an informed landowner will always make the right decision for their individual circumstances. Do not just be a “Signor”, but make a call to an experienced oil and gas lawyer and make the right decision for you and your family.

Remember, this blog and any information on our websites is not specific advice for any individual landowner and all landowners seriously considering an Oil and Gas Lease Extension, Modification, Amendment offer or any natural gas agreement should consult with an experienced oil and gas attorney before making any decisions or signing any contract.

Douglas A. Clark, Esq. – Protecting Pennsylvania Landowners