Chesapeake Energy has come under increased scrutiny in recent months for allegedly defrauding Pennsylvania mineral owners.
The Wall Street Journal reported in March 2014 that some mineral owners are seeing deductions of more than 35% on their royalty checks! The publication compared the royalty checks of Pennsylvania mineral owners and found that Chesapeake’s lessors had higher deductions than other companies operating in the area.
The deductions stem from post-production costs (i.e. transporting, processing, and marketing the oil or gas). In 2010, the Pennsylvania Supreme Court ruled in Kilmer v. Elexco Land Services, Inc. that the word “royalty” was not defined in state law, and the industry could rely on its own interpretation. As a result, oil and gas companies gained the legal right to deduct post-production costs from a mineral owner’s royalty. The caveat is the lease agreement between the oil and gas company and the mineral owner allows the company to deduct post-production costs in some cases.
In states such as Pennsylvania where mineral owner’s royalties are not protected from post-production costs, it is up to mineral owners to protect themselves. Phrases to watch out for include “cost free” royalty clause and “market enhancement” clause. Also, pay close attention to terms such as “gross proceeds” and “gross market value.” You want to make sure that your royalty is calculated on the gross proceeds from the well and not less than gross market value.
Pennsylvania mineral owners are guaranteed a minimum royalty of 12.5% under the Pennsylvania’s Guaranteed Minimum Royalty Act of 1979. This guarantee however does not protect mineral owners from being dinged for post-production costs. It is unclear if the state will be able to do anything about deductions from mineral owners’ royalty checks because of the precedent set by Kilmer v. Elexco Land Services, Inc. and Chesapeake’s lease agreements with the mineral owners. According to the Wall Street Journal, public outcry has grown so loud that Pennsylvania Governor Tom Corbett wrote an open letter to the state attorney general to investigate.
Read more at wsj.com