By Attorney Dale A. Tice, Marshall, Parker & Associates
Those of us who were working on oil and gas law way back in 2008 remember the heady days of the Marcellus gas leasing boom. Before the major oil and gas companies had shown any interest in the Marcellus, a number of smaller, independent drilling companies were leasing acreage in the core areas as rapidly as possible. The New York Times quoted this Commentator describing the leasing land grab as a “feeding frenzy.”
Thanks to the efforts of the Penn State Cooperative Extension, many landowners were aware of the potential pitfalls in the leasing process and realized that the leasing frenzy created an opportunity to negotiate favorable lease terms. Landowners in the hot spots were often presented with offers to lease from multiple companies, each trying to establish a dominant leasehold position. It was this intense competition for prime Marcellus acreage that placed educated landowners in a fortunate posture from which to negotiate, and those of us working with landowners became accustomed to seeing long lists of landowner-friendly addenda attached to gas leases.
The Times They Are a-Changin’
At this point in 2012 several long-term trends have become apparent that are significantly impacting Marcellus landowners. The large majority of the land available in the prospective areas of the Marcellus has been acquired by the gas companies; the leasing boom has come and gone. The major oil and gas companies recognize the critical importance of unconventional shale gas for our nation’s energy future and have invested heavily in Pennsylvania Marcellus, with the result that various sections of the core acreage are now held by a handful of dominant players.
A very significant result of the Penn State educational blitz was that landowners realized the importance of requesting a gas lease with a straight five-year term, with no option to extend the lease for an additional five-year term. In order to keep these leases from terminating, the gas companies need to get the acreage drilled and begin producing natural gas. A key goal of the gas companies now is to keep the acreage that is leased “held by production” so the five-year leases don’t expire.
Residents of the core areas of the Marcellus are living with the results of the race to hold land by production. Drilling activity has taken off in the years following the leasing boom and as wells are completed and go online, natural gas production from unconventional shale has increased significantly. However, as the supply of methane natural gas has increased, the price of natural gas has consequentially dropped. This trend toward lower prices for “dry” natural gas has occurred just as the price of oil and natural gas liquids has spiked.
The Impact on Pennsylvania Landowners
How are these long-term trends impacting Pennsylvania royalty owners? What we see now are strategies from the gas companies to hold more land with less drilling. The standard 640 acre production unit seen in earlier leases has been abandoned for much larger pooled production units, in some cases over 1,200 acres. As the size of the production unit increases, more land is held by production and fewer leases will expire, but each landowner's proportional share of royalties from the unit is diluted.
Landowners with expiring leases who hope to sign a new lease face a vastly different leasing environment. Competition for new leases is no longer the norm. Many landowners will instead be dealing with the one gas company that holds the dominant position in their area. And without competition for leases, landowners will be in a far less advantageous position from which to negotiate. Provisions that landowners and their lawyers have become accustomed to seeing in leases, such as a Pugh clause or royalties paid without deductions for post-production costs, may be difficult to obtain.
Some property owners with land outside the core areas for Marcellus development may find no interest in leasing their acreage. Although the gas companies were willing to lease over a broad area during the height of the leasing frenzy, leasing activity now is much more targeted in the areas where drilling activity is focused.
In fact, Marcellus acreage no longer appears to be the hot commodity. As the market has been flooded with unconventional shale natural gas and the price has plummeted, the gas industry has shifted focus to areas such as Ohio and North Dakota where higher priced oil and “wet” gas with associated liquids such as butane or propane may be found.
A Bright Future
But there may be a silver lining to this dismal cloud of bad news for Pennsylvania royalty owners. Although low-priced natural gas may dim the prospects for Marcellus development in the short-term, the big picture over the long-term looks increasingly bright. We are just beginning to see a huge shift in national policy away from coal and imported oil toward use of domestic natural gas for electricity production and even natural gas vehicles. Energy independence for our nation finally appears within reach. Ultimately, what is driving this shift is cheap natural gas.
Pennsylvania royalty owners need to keep their chin up and look forward to the day when Marcellus natural gas is powering our nation’s energy future.