Click here to listen to the Audio verison of this story!
The flurry of merger and acquisition (M&A) activity over the last two years has changed the minerals landscape in the Permian Basin, along with most producing basins in the United States. Fewer operators control larger acreages. Also, the definition of what constitutes a mineral is changing, as suddenly lithium and other trace substances found in produced water are possibly becoming commodities.
The latter prospect has arise because, as treatments for produced water have morphed it from problem to promise, it has gone from a nuisance nobody wants to a commodity everyone wants. Therefore, ownership of the water for reuse and its dissolved minerals for marketing are now facing judicial and legislative battles. All this could affect what’s included in today’s minerals agreements.
Below we will hear the corporate viewpoint from Bracewell, as well as the outlook of the marketplace from U.S. Mineral Exchange.
Consolidating the Market
Austin Lee
John Stavinoha
Austin Lee and John Stavinoha, energy transaction attorneys in the Houston office of global energy law firm Bracewell LLP, spend much of their time on transactions involving the Permian Basin. They have seen M&A activity significantly change the Permian leasing landscape over the last two years.
Citing recent deals such as Diamondback buying both Endeavor and Double Eagle, among others, Stavinoha observed, “It just means that acreage is consolidated into fewer and larger hands, so less availability of prime leasehold opportunities for smaller players has started tightening up the market. So as those big players sort of block up Tier 1 acreage, I’d say leasing activity moves more towards strategic bolt-ons for those positions as they optimize existing portfolios rather than chasing new grassroot leasing programs.”
Regarding the bolt-ons and consolidation of acreage, Lee noted that Ovintiv recently divested its Uinta Basin assets in order to buy others. In Texas, he said, “I don’t know how many large packages are anticipated in the Permian, probably not very many, because that’s where most of the focus of the consolidation has already taken place, to beef up the Permian.”
Lee also said some areas that used to be considered Tier 2 or Tier 3 are getting more attention because they represent some of the best quality options that are still available.
When asked whether bolt-ons and consolidations were influenced by the need for more space to drill 4-5 mile laterals, Lee explained that this issue is just one of many factors. The larger view involves a desire to “concentrate their working interest in a certain unit. Some of this is strategic in just getting more inventory around a certain area you just bought.” In other words, having one large set of acreage is more efficient than spreading resources across several disconnected smaller tracts.
“I think of it like a strategic chess game,” Lee added.
Minerals Only, Anyone?
Some companies lease the acreage and acquire minerals—others concentrate just on the minerals, said Stavinoha, “like NGP just raised a large mineral fund, and the just recommitted to one of their large mineral companies, Mesa.” In March they announced the formation of Mesa IV, a fourth iteration, whose purpose is to focus on buying minerals in the Permian and the East Texas portion of the Haynesville Shale.
The advantage for minerals firms is that they have no investment in equipment or drilling costs, as do E&Ps. The challenge is that they must still do geological research on formations, and then predict where the E&P is planning to drill. Then they can, hopefully, nab the minerals before production starts—before the prices rise significantly.
One strategy for minerals aggregators involves assembling portfolios “and selling them up the food chain,” to larger investors. How do they find those available minerals? “There is still a large amount of these deals that are getting done by looking at the tax records and just finding people who own these things and sending them cold-call type solicitation letters.”
Some of the E&Ps will sell minerals to raise cash, said Stavinoha. He pointed out that Apache and Oxy had both sold minerals packages, the latter to reduce debt after its $10.8 billion purchase of Crown Rock.
What Constitutes a Mineral, Exactly?
The elephant in the room right now involves those questions about who owns beneficially-useful produced water and the minerals in the “waste” flow, such as lithium and others.
One case before the Texas Supreme Court was argued on March 18: Cactus Water Services, LLC, v COG Operating, LLC. The court’s summary states, “This dispute concerns whether the mineral lessee or the surface estate holder owns the ‘produced water’ from oil and gas operations.”
And the crux of the case, in the court’s words: “Years after executing the mineral leases with COG, the surface owners executed Produced Water Lease Agreements with Cactus. These leases conveyed to Cactus the produced water from oil and gas operations on the land. Cactus informed COG of its leases. COG sued Cactus, seeking a declaratory judgment that under the mineral leases, COG owned the produced water from its operations.”
The trial court ruled in favor of COG, saying the water was “part of COG’s product stream.” The appeals court agreed, adding that produced water is a waste. Cactus argues that water belongs to the surface owner “absent an express conveyance.” Therein is the dispute.
Reviewing the oral arguments, Stavinoha stated that “Justice [Brett] Busby, in particular, was indicating that perhaps there was a nuanced position, where they do find that produced water is part of the surface estate but that doesn’t change the implied right of the mineral owner to use as much of the surface estate as reasonably necessary to produce oil and gas.”
Effects on Mineral Owners
This conundrum is affecting some lease documents, Lee said. For example, University Lands, the entity that manages The University of Texas System’s mineral holding, is one of the largest owners of producing land in the state. In their lease forms, “they’re putting things in there directly targeting lithium. That’s a trend that I think will definitely continue.”
Those who have invested serious capital in water treatment and transfer systems are beginning to hope that their product will soon be marketable, either as water, or minerals, or both. But there are legal and health barriers to applying produced water to much more than fracturing, and whether minerals like lithium exist in quantities that are profitable to extract and market loom large right now.
Surviving COVID
Garrett Phelan
Are all minerals transactions handled by the big corporations? No—there are still thousands of individual minerals owners in the Permian, and that marketplace has recovered nicely from the COVID pandemic, says an expert.
After the “absolute disaster” of COVID quarantines in 2020, oil activity and, therefore, mineral rights prices, didn’t begin to recover until mid to late 2021, said Garrett Phelan. Phelan is CEO of U.S. Mineral Exchange (USME), an online marketplace for buyers and sellers of mineral rights, headquartered in Tulsa.
Then things got crazy in 2022 and 2023 as the oil patch snapped back into full business mode. The release of “pent-up demand for buyers who’d been standing on the sidelines in 2021” created a huge market for minerals. “I actually call that time period the lockdown rebound,” Phelan said.
With both buyers and sellers excited to be back in the marketplace, he said, the biggest challenge at that time involved deciding what was indeed an appropriate price for mineral rights. Market prices for mineral rights were changing rapidly because of the almost frantic demand for them.
Minerals Markets Explained
Right here might be a good place to explain this marketplace. What kind of sellers use a marketplace like USME, and who’s buying?
In Texas and many other states, mineral rights may be sold and owned separately from surface ownership. Rights owners receive payment for minerals (oil and gas for the purpose of this article, but it can include mining of others) that are harvested and sold by producers.
There are certainly large corporate buyers and sellers of mineral rights, for whom this is a significant form of investing in the business while avoiding the huge capital outlays involved in drilling and production. Buying, selling, and trading these assets are all part of the mix. And many of the buyers on USME’s platform are significant investors.
But USME’s sellers are mostly individuals. Most are landowners who bought or inherited mineral rights with their land. Most own at least a few acres to several hundred in an oil producing region like the Permian Basin.
Why do they sell? There are many reasons, and lots of individuals never sell theirs. Selling mineral rights involves getting money up front instead of receiving a monthly royalty check paid across many years.
Reasons to sell can involve a need for cash for a large expenditure (home purchase, college tuition, etc.), tax issues, up-front income for retirement, and many others. And first of all, the minerals have to be worth something—there has to be either current production or a real prospect of there being some in the near future in order for them to be marketable. In the Permian Basin, that includes almost everyone.
How are prices determined? Much of that depends on whether there is current production, the expectation of future drilling, and the expected price of oil.
The best prices of mineral rights, said Phelan, come before all the area’s prospect have been drilled—in other words, anticipated (future) production. “Once wells start producing, the offers drop significantly because the flush production has already been paid out. So it changes from buying an investment with an expected future income to an investment that is now based upon a known cash flow stream, and, as a depleting asset, even that stream is declining.
One consideration for the lower value is that today’s horizonal shale wells have a very steep decline curve—production drops significantly after one to two years, in most cases. So every week a shale well produces is a significant step toward its economic depletion.
Still, Phelan explained, “There is not a real good formula (for deciding the minerals value), as each situation is different. Who is the operator, how does the buyer evaluate the location, how many wells were drilled (are more possible or not), how have the wells performed and how long are they expected to perform based upon the remaining recoverable at the past rate of production.
“If there is no future upside potential and the acreage is considered drilled up, then a reasonably fair gauge would be that wells that have produced for longer than two years would have an estimated value of 36-60+ months of income based upon the last three to six months of prior income,” he said. Performance of nearby wells is also part of the equation.
Normalcy Now?
It was early 2022 and into 2023 that Phelan saw mineral rights sales return to a normal number of transactions, peaking in 2023. Buyers were working on finding the right value for each type of well and each area. Normalcy began to settle in.
Today, at least before tariff issues muddied the waters, prices have been relatively stable for several months, and price stability is a key factor in calming mineral rights markets. Plus, Phelan pointed out, new technology is increasing production levels for new Permian well, and drillers are pushing into new fields with some good success.
“They seem to be having better results, at least from what I see in the production data and what I hear from buyers, which is allowing them to pay the higher values,” Phelan observed. Still, the hottest areas have been hot for a while. “Plain and simple. Permian Basin, Delaware Basin, are still the places to be and the prices have been stable for the bulk of that area.”
Paul Wiseman
A longtime contributor to PB Oil and Gas Magazine, Paul Wiseman is an energy industry freelance writer. His email address is [email protected].
The post The Changing Landscape of Leasing and Minerals appeared first on Permian Basin Oil and Gas Magazine.
pboilandgasmagazine.com (Article Sourced Website)
#Changing #Landscape #Leasing #Minerals