Why is the Duration of an Oil and Gas Lease Confusing?
The duration of an oil and gas lease is the cause of a lot of confusion – and for good reason. An oil and gas lease contains two ‘terms,’ a primary term and a secondary term. If the lease carries over from primary term to secondary term, it can ‘last’ as long as a well associated with the lease is producing, sometimes as long as multiple decades.
In the oil and gas industry, the oil and gas lease is known as an “OGL.” Generally speaking, how long an OGL lasts is called its “term.” Many mineral owners are surprised to find out that, unlike the more common residential lease, an OGL does not have a fixed term. The full term of an OGL consists of a primary term and a potential secondary term that does not expire until all associated wells fail to produce oil/gas.
To understand how long an OGL lasts, it is necessary to understand the OGL’s two main purposes: to explore for and produce oil/gas. In the primary term, the company explores for the product, and in the secondary term it produces the product. For purposes of this discussion, assume the OGL reads as follows:
- LEASE TERM This lease shall remain in force for 5 years from the date hereof (referred to herein as the primary term) and for so long thereafter as oil, gas, or their constituents are produced from the lands described here in or from lands pooled therewith.
What must the company do to keep the lease alive after the primary term?
An OGL will explicitly contain an initial term known as the primary term, typically lasting 5 years. In the example above, the primary term portion of the lease term clause reads: “This lease shall remain in force for 5 years from the date hereof (referred to herein as the primary term)…”
The end of the five year term does not automatically result in a termination of the lease. Instead, it represents the time period under which the company must complete a certain act before extending the OGL into secondary term. The primary term gives the company the right to satisfy the first main purpose of the OGL: to explore for oil/gas. For the Company, the primary term is a race against the clock to satisfy its exploration requirement.
In the above example, the OGL extends into secondary term if the company successfully produces oil/gas at any time during that 5 year window – a relatively black and white proposition. Other leases, however, may contain different language obligating the company to complete a less-onerous task during the primary term (such as filing a permit application to drill a well or commencing onsite operations to drill a well). In these ‘less-than-production’ exploration requirements, mineral owners should keep a careful eye to ensure the company actually met its exploration requirement before purporting to extend the OGL into secondary term.
What if the company successfully extends the lease beyond primary term into secondary term?
If the company satisfies its exploration requirement in the primary term, then the lease will enter into the secondary term. The secondary term remains in effect so long as the company satisfies the second purpose of the OGL: produce oil/gas. In our example, the OGL will continue “for so long thereafter as oil, gas, or their constituents are produced.” Some wells can produce for 20, 30, maybe even 50 years. The potential lengthy life of an OGL underscores the importance of negotiating a lease that effectively serves the mineral owner’s interests.
Takeaway
Signing an OGL is not simply a 5 year proposition; it is a decision that can affect one or more future generations. Further, not all leases are as cut and dry as the example above. Uncertainty can abound if a company can extend the primary term into secondary term by achieving something less than production.
Did the company actually meet the exploration requirement? What actions must the company take to diligently achieve production in the secondary term? These questions, and many others, are reasons why you should contact an attorney to review a proposed OGL before you sign it or to ensure the company is complying with the provisions of an already executed-OGL.
