Many landowners who have been reading about the development of the Marcellus shale or have attended educational workshops are familiar with production units. The gas leases used by companies drilling in the Marcellus allow the gas companies to combine or pool the properties of multiple landowners into a production unit. The unit defines the area that the company intends to produce natural gas from by drilling multiple horizontal wells. All of the landowners with acreage in the unit will share in the royalties based on their proportional ownership of the unit.
To properly apportion royalties, the gas company will calculate each landowner’s interest in gas production from wells drilled on the unit; this interest is expressed as a number called the Decimal Interest. The decimal interest is calculated by dividing the number of acres the landowner has in the unit by the total number of acres in the unit, multiplied by the royalty percentage under the gas lease.
For instance, a landowner who had signed a lease with 15% royalties and now has 200 acres in a 600 acre production unit would have a decimal interest as follows:
|200 Acres||DIVIDED BY||600 Acre Production Unit||MULTIPLIED BY||15% Royalty||EQUALS||.04999999 Decimal Interest|
Thus, if one well on the unit produced $1,000,000 of natural gas, the landowner’s share would be:
Similarly, if six wells produced $6,000,000, the landowner’s share would be:
Before receiving their first royalty check, most landowners will be asked to sign a document called a Division Order which will list the property owner’s decimal interest in the gas produced from a pooled production unit. Though some gas companies do not use division orders, many of the large gas producers will require the return of a signed division order before issuing any royalties.
There are a number of issues to consider before signing a division order. Checking the math to make sure that the gas company has calculated the decimal interest correctly is obviously important, but landowners must also read the document carefully. In some cases the division order may attempt to change the terms of the oil and gas lease, possibly removing some of the protections that the landowner negotiated into the lease. Most division orders will also include a warranty of title by the person signing, which is advantageous for the gas company, but not for the landowner. Because a division order is a binding legal document that will directly impact a landowner’s royalties, it is generally recommended that a division order be reviewed by an experienced oil and gas attorney before signing.