Wednesday, February 19, 2014

Not all royalties are created equal

In some sense, the interest in all things Marcellus has abated. Not entirely, but just not the scale of discourse at one point. Still there news elsewhere in Pennsylvania even if little noticed here. See the Corbett and Republican senators ask Attorney General Kane to probe Marcellus Shale gas driller. The complaint is all about the fees a driller is deducting from gas sales before calculating royalty payments to landowners. I think I pointed out the disproportionate bite extraction costs would take from Marcellus Shale royalties in a post some time ago. See: Flaring Contango.

But I have to admit even I never thought it would be as this his the news today: Bradford County farmer gets gas royalty checks for $1.10 and 10 cent. Doesn't producing and mailing a check for 10 cents incur a cost an order of magnitude higher than that?  Must be some fee for executing a direct deposit even. 

Does all of this matter here? Anyone with a lease expecting royalty payments might want to take note. State law requires a minimum royalty assignment, but some have been able to negotiate higher royalty payments, possibly in lieu of smaller up front guarantees.  Any large landowners locally expecting future payments generated mostly by royalties

I presume royality checks are received with a lag from when the gas was produced and recent checks may represent production at some point in the past when natural gas prices really bottomed out. Right now, the extended cold of the winter has pushed natural gas prices up, but nowhere near peaks of the recent past and one question is for how long prices will stay even moderately inflated.

The industry fought hard for as nearly unconstrained development of shale gas as possible across Pennsylvania.  But who was hurt by that rapid drilling activity? Ironically I suggest it was the industry itself that was hurt most by the unabated rush to drill.  Not too many years ago natural gas prices spiked during periods of peak demand. Both in 2005 and 2008 prices were several times what they are now, even with the the deep and extended cold.  No reason not to expect similar if not worse peaks in the future and indeed the production of shale gas has kept prices low. Especially the deeper cold of the season would have made for a painful season for most consumers. If the industry had proceeded at a more deliberative pace, they might have recouped some of the profits they left on the table.  The low royalty payments in the news are coincident to some very low profit margins as well.  


Anonymous The Wiz said...

Royalties are a complex and hotly debated topic. There are at least 15 factors that affect a landowner's royalties. Attorneys say they are the biggest source of lawsuits in the industry.
Royalties are usually paid about 3-4 months after production. Lease language determines what deductions are permitted. And companies are very creative in their deductions. Some claim that many shenanigans take place, thus all the lawsuits.
And, while nat gas prices are up nationally, landowners may not see a boost in payments for a year or more. Almost all companies hedge their bets by entering into long term sales contracts and/or hedging on the futures markets. Thus they may be locked into prices contracted many months ago before the harsh winter spiked current prices.
Further complicating the issue is that there is a shortage of pipeline capacity t get all the gas to market. Some areas of central Pa are so constrained that nat gas is selling far below the Henry Hub price that everyone sees on the financial news programs. Parts of Pa gas was below a dollar per MCF this past summer.
There are many landowners in SW Pa that are getting $50,000/month in royalties. Some get much more. But it can change rapidly and is not a steady stream of income. Landowners need to plan accordingly.

Thursday, February 20, 2014 2:00:00 PM  

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