production paymentMust a production payment out of four oil and gas leases be proportionately reduced if two of the leases expire because production ceased? In Apache Deepwater, LLC v. McDaniel Partners, Ltd., the Texas Supreme Court says yes. Absent express language in the assignment to the contrary, this general rule applies:  When an assigned lease terminates, a production payment (like an override) created in that lease is extinguished.

The instrument

A 1953 assignment of a production payment to McDaniel’s predecessor covering four leases in Upton County was a 1/16th of 35/64ths of 7/8ths in all four leases. Apache Deepwater acquired the four leases (after a wrong turn at Sabine Pass?). By the time of the acquisition two leases were of a 35/64ths mineral interest and two others were 3/64ths.

Tracts on two leases had expired for lack of production. Apache reduced the payment proportionately.

McDaniel’s losing proposition

The equation, 1/16th of 35/64ths of 7/8ths, states the production payment as a percentage of the cumulative working interests. This indicates the parties’ intent to burden the individual leases jointly with a production payment based upon the original cumulative working interest conveyed. The production payment was reserved from the conveyance as a whole, binding all of the leases jointly.

The result, and why

The production payment must be reduced when a lease expires. Neither the inclusion of four leases in a single instrument nor the instrument’s statement of the cumulative interest as a single fraction demonstrates that the parties intended the production payment to be carved from other than each lease. To the contrary, the phrase following the fraction ties the reservation to the assigning party’s interest in the “respective” leases. The court referred to Webster’s for the meaning of “respective’ and concluded it means “particular” or “separate”. This indicates that the interest pertains to each lease separately. The assignment neither states, implies, nor suggests the production payment would be unaffected by the termination of the leaseholds from which it was carved.  The assignment fixed the dollars in volume of oil to be delivered but that does not necessarily inform the rate at which it was to be delivered.

Takeaways

  • If the remaining leases hold up McDaniel will get his money, just not as quickly;
  • The parties could have written the assignment differently to achieve a different result;
  • Title examiners: Study the language carefully but keep the general rule in mind;
  • Everybody else: Hand off an instrument like this one to your title examiner.

Musical interlude

Many great song covers vary so much from the original as to be almost unrecognizable. For example, here is the original. Here is the cover. NOT SO FAST!  Having squandered so much of your precious allotment of waking hours reading this far, take a moment to waste a little more.  Go to the second cover; obscure enough of the screen so you can’t see the title (use that notepad where you’re recording your post-rebound getting-rich fantasies); hit “play”; see how long it takes to recognize the tune.

Or just forget it and get back to work.