10Jan
oilfield flare

NPRI’s Part One: Fundamental NPRI Characteristics

Non-Participating Royalty Interests in General

As “oil people,” we have all undoubtedly encountered hundreds or even thousands of NPRIs.  A majority of us have also probably encountered some of the many problems NPRIs can present.  In the beginning of the oil and gas revolution, NPRIs were created out of an innocent and simple concept – ‘I’ll convey the minerals to you, but I want to keep a small interest in the future profits, if any.’  However, due to the ramifications underlying this nature of interest and the resulting relationship with the mineral owner and lessee, an abundant and complex body of law has developed, much of which is seemingly contradictory and convoluted.  My aim with series of articles is to simplify some of the general concepts regarding NPRIs, and hopefully clear up much of the confusion.

What is an NPRI?

A non-participating royalty interest (“NPRI”) is a non-possessory right to royalty, that burdens, or “comes out of” the interest owed to the mineral owner. 1)In re Bass, 113 S.W.3d 735, 738 (Tex. 2003).  NPRIs do not arise from ownership of the minerals in place, and are not “created” by an oil and gas lease. 2)See generally Lee Jones, Jr., Non-Participating Royalty, 26 Tex. L. Rev. 569, 573 (1948). Courts have further defined the NPRI as follows:

An interest in the gross production of oil, gas and other minerals carved out of the mineral fee estate as a free royalty, which does not carry with it the right to participate in the execution of, the bonus payable for, or the delay rentals to accrue under oil, gas and mineral leases executed by the owner of the mineral fee estate. 3)Plainsman Trading Co. v. Crews, 898 S.W.2d 786, 789-90 (Tex. 1995).

An NPRI owner, as a non-possessory interest, is not entitled to execute oil and gas leases, and is not entitled to produce the minerals himself. 4)Luckel v. White, 819 S.W.2d 786, 789 (Tex. 1995). Further, an NPRI is only entitled to his share of production proceeds, free of the expenses of exploration and production. 5)Id.

This differs from the typical mineral interest owner, in that the typical mineral owner is entitled to self-develop the minerals, and will be entitled to its proportionate share of the production, less and except the costs of development.  However, the NPRI owner does not have the right to self-develop, but even where the mineral interest owner chooses to self-develop, the NPRI owner is still entitled to its full share of production with no deductions for production expenses. 6)See, e.g., Danciger Oil & Refineries v. Hamill Drilling Co., 141 Tex. 153, 171 S.W.2d 321 (Tex.1943) (holding that the mineral interest owner must bear its proportionate share of costs incurred after gas is severed at the wellhead when royalty is based on “market value at the well”).

To put all this in simpler words, NPRIs are merely an interest in royalty, not an interest in the minerals themselves.  So NPRI owners can’t drill wells himself. But if the mineral owner drills a well himself, the NPRI owner still gets his share.  This is because a lease merely defines the size or “quantum” of most NPRI’s; not whether the NPRI “exists.”   Finally, NPRI’s down have to share in the “costs of production.”

Defining the Size of an NPRI

Generally, the “size” of the interest attributable to the NPRI owner can be defined in two primary ways: the “fixed fraction” (aka “fixed NPRI”), or the “fraction of royalty” (aka “floating NPRI”).  

  • Floating NPRI: A floating NPRI is measured by multiplying the defined NPRI fraction by the royalty rate agreed to by the holder of the executive right (e.g., 1/6th NPRI of the 3/16 royalty interest agreed to in the respective lease).  In other words, it is a portion of the royalty.
  • Fixed NPRI: Conversely, a fixed NPRI is measured by giving the NPRI owner his NPRI fraction of the total production.  For example, a 1/6 fixed NPRI would receive a 1/6 portion of the entire proceeds of the well, lease or unit.  A Fixed NPRI is absolutely independent of the royalty rate agreed to in the lease.

Any time an interest is described as a proportion of something else, problems are inevitable.  This is likely due to the fact that business people try to get creative in structuring their deals, and lawyers try to get creative in avoiding known and potential legal risks.  Unfortunately, creativity frequently leads to ambiguity, and courts have to get involved.

Future Installments in this Series:

  1. NPRI Pooling, Allocation and Ratification ( lease/unit ratification, and pooling agreements);
  2. The determination of whether an NPRI is fixed or floating;
  3. Complications arising in Horizontal Drilling;
  4. Community lease concepts; and
  5. Can an NPRI affect a lessee’s NRI?

Disclaimer: Neither this article, nor the series of articles on NPRIs are intended to be an inclusive or all-encompassing statement or analysis of the law regarding NPRIs, or the treatment of NPRIs by Operators. To the contrary, this is merely a list and brief explanation of some of the points an operator should be aware of regarding NPRI’s. Also, I should point out that this article focuses on the law of NPRI’s in Texas. Colorado, North Dakota and Wyoming vary very little with regards to these fundamentals, but I will be specifically discussing Texas law.

Footnotes   [ + ]

  • Christopher Huff

    Hello Austin,

    I like the blog re-format, and I’m glad to see you are up and running with posts again.

    Personally, I find that one of the biggest difficulties my fellow Landmen have is distinguishing the difference between “fraction of” royalty and “fractional” royalty so I’m glad to see you pointing out the distinction in a place like this (and apparently planning to write an upcoming post delving into the distinction in greater detail). I’ve had a few cases where a Landman has told me he was working on a tract with a “1/2 NPRI” (and managed to create a decent rise in my blood pressure stemming from dread over navigating the landmines which unfurl from such an NPRI), only to actually get the chance to read reservation language and realize that what they are dealing with is a reservation of 1/2 of royalty. This distinction doesn’t seem to be pointed out in many of the more popular resources available for Landmen so it will be nice to have a resource to point to which spells out the distinction.

    One question I had a while back which I wanted to pick the brain of an attorney over regards the explanation of the distinction between Fraction of Royalty and Fractional Royalty in Range Res. Corp. v. Bradshaw, 266 S.W.3d 490, 493. In this opinion, the Court defines a “Fraction of Royalty” NPRI as being “a fractional share of the royalty that is contained in an oil and gas lease… and, in addition to the landowner’s royalty, the fraction of non-participating royalty also shares proportionally in any overriding royalty interest reserved in the oil and gas lease”. It’s the second part of that passage that bothered me, as when I first read it, it seemed to imply that fraction of royalty NPRI might have the ability to attach to any ORRI created when a Lessee carved an ORRI out of its Leasehold (whether through subsequent conveyance or reservation). This certainly was contrary to my original understanding of “Fraction of Royalty” NPRI’s, which was that they strictly applied to the lease royalty. Range is the first case I can find with a definition that even makes mention of ORRI’s – I followed the case it cited and saw no mention of ORRI’s in that case. I see one case citing Range which directly quoted Range’s definition of a “Fraction of Royalty” NPRI, but outside of that, I can’t find any case mentioning ORRI’s when defining “Fraction of Royalty” NPRI’s.

    Anyways, I was recently looking over the opinion for McMahon v. Christmann, 157 Tex. 403, 303 S.W.2d 341., and it occurred to me that perhaps Range was instead referring to a situation where the Lessor reserves an “Overriding Royalty Interest” on top of his standard lease royalty (like the Petitioner did in McMahon). I have to say that off the top of my head, I can’t ever recall seeing a Title Opinion come back that treated a “fraction of royalty” NPRI as attaching to and burdening a “Lessee ORRI” so that seems to me to be the best way to make sense of Range’s definition. So maybe this definition is merely limiting itself to “ORRI’s” reserved within the lease itself, rather than ones carved out of an Assignment of some sort from the Lessee. So my question is does the definition given in the Range opinion solely refer to “ORRI’s” reserved by the Lessor within the lease itself or does it take a wider view and also apply to ORRI’s created in Assignments? The former definition seems to make more sense the more I think about it. It also seems to fit better with your definition of “floating royalty” in the article so my guess is that you’d say it just applies to “ORRI’s” by the Lessor in a lease. Regardless, I’d be curious to get confirmation on your thoughts on the matter.

    Apologies in advance for getting a bit long-winded for the Comment section of a blog post but trying to make sense of this has been nagging me for a little while now, and seeing this post reminded me of this question that has been lurking in my head. So it seemed like a good place to clear up any misconceptions I might possibly have.

    • Austin W. Brister

      Chris,

      Thanks for the thoughtful comment and questions. You’ve clearly put a great deal of thought to this — good work.

      As far as the fixed vs. floating (aka “of royalty”) NPRI issue, I will be getting into that soon in a later post. A recent case that came out within the last couple weeks does an impressively good job at summarizing the surrounding law, so I’ll likely use that as a springboard.

      With your question regarding Range Res. Corp. v. Bradshaw, there are really two ways of looking at this. First, historically, for 4 or 5 decades everyone in the industry thought the lessor’s royalty was permanently fixed at 1/8th. This was such a prevailing commercial custom and practice that attorneys and landmen even began drafting all their documents under the assumption that the royalty was and always would be 1/8th (for example, an NPRI would be reserved stating “I reserve 1/2 of the 1/8 royalty”). This obviously causes problems, and is a topic for yet another article. Some scholars have referred to this misguided view as the “estate misconception” because people used to think that, legally, the royalty estate was a 1/8th fraction.

      Well later down the road, royalty owners began negotiating larger royalty rates. Because these larger rates were “overriding” the presumptive 1/8 royalty, many people referred to this additional royalty as an “overriding” royalty interest. I’m sure you can see how this term evolved today to how we think of overriding royalty. Anyway, fast forward a bit longer, and some mineral interest owners got greedy and decided a way to get more money would be to reduce the size of the interest the NPRI owner could attach to. They did this by defining a small royalty in the lease, and a large overridng royalty, hoping the NPRI would only burden the royalty portion. These people (some would call them “snakes”) were under the assumption that the NPRI owner only received a portion of the “royalty” and not the “overriding royalty.”

      Fast forward to today. We don’t refer to the excess royalty beyond 1/8 to be “overriding.” As a matter of fact, most leases have a royalty rate exceeding 1/8th. Also, courts have struck down mineral owner’s attempts to get rid of the NPRI with this override/royalty distinction. This is what the court in that case you cited was saying, the NPRI “also shares proportionally in any overriding royalty interest reserved in the oil and gas lease.” NPRI’s get no portion of any other overriding royalty interests.

      So you’re exactly correct in your second-to-last paragraph.

      Now if only I could get more comments/questions like this…..

      • Christopher Huff

        Austin,

        I appreciate the detailed and insightful reply – I wasn’t aware of the fact that the usage of the term Overriding Royalty by a Lessor in the provisions of his/her lease was used to circumvent or “override” the “usual 1/8th royalty” that was the industry standard for the quantum of lease royalty at the time, but that certainly makes sense of the matter. My follow-up question was actually going to be about the usage of the term Overriding Royalty as an interest reserved by the Lessor (decided not to included it in my original comment so that it didn’t get overwhelmingly long), but it looks like you’ve beaten me to the punch in addressing why that term was used.

        When I was reading the McMahon case, it had seemed like a complete misnomer to call it an “Overriding Royalty Interest” as my understanding had always been that an ORRI had to be carved out of the Lessee’s Leasehold Interest, which would have restricted the creation of such an interest to the Leasehold Interest. But when you put the term in that historical context, in that it was created (in leases like the McMahon one) to “override” the “usual 1/8th royalty” reserved in the lease royalty provision, it certainly makes sense why a Lessor used the term in that fashion and what they were trying to accomplish.

        Anyways, thanks again for the great answer to my question. I’ll be looking forward to seeing which case you are referring to that gets into the history of the fractional royalty vs. fraction of royalty distinction. For me at least, tracing out the history of the lines of thought that lead to our current understanding of things is the best way to learn about a topic so cases that do a really good job outlining that are always my favorites. We’ll see if I’m capable of any more of those questions/comments you are looking for, but it depends on if I’ve had a chance to do enough reading (which often becomes just enough to be dangerous) into those oil & gas topics that I either find interesting or revolve around questions I deal with most often. The great thing is having places like this available where I can get such questions answered about fairly nitty gritty things and get the chance to sharpen my understanding of the legal theory behind what I do on a day-to-day basis.

  • http://www.dawsonenergy.com David Saxe

    Having fun reading this discussion! In my view, ORRI interests are created from the Leasehold operations side of the Estate, and I have always been unsure of the quantum granted from the mineral royalty owner when the Lease royalty was changed from “the usual 1/8 royalty” to some greater quantum.
    I guess though, that such a stab at quantifying an increase due to a NPRI makes sense, in order to increase the amount due an original grantee due to such a re-lease situation at 25%, say.

    • Austin W. Brister

      Nowadays, any time someone is discussing ORRI’s, you’re absolutely right: they are discussing a royalty granted by an owner of the leasehold estate. And it sure can be tough.. especially when the drafter attempted to provide “clarity” by describing the interest granted three or four times: then you have to determine which description controls!

      How’s Midland, David? Was sure hoping I could make it over there for another Golf outing, but got caught up here with work (not complaining). Take care!

  • Brian Mahn

    Great content Austin!!! You should also post/link at Oilpro to “help you get recognized, spread knowledge, and inspire others” in our oil & gas community. You have a wealth of knowledge to share, very much appreciated!!!! Brian

    • Austin W. Brister

      Thanks Brian, I always appreciate your “likes,” “retweets,” and comments.. they are a big help. I just signed up for OilPro, looks great! If you’re going to be at NAPE, it would be great to meet in person and maybe grab a beer.

  • kathleen O’Byrnes

    Hello Austin,
    I have a question whether we are floating or fixed npri.
    Our deed states “a perpetual non-participating undivided on-eighth 1/8th of all landowners royalties, and an undivided one-eighth 1/8th of any overriding royalties assigned back to Grantees.

    Thank you so much Austin.
    This is so confusing.
    Sincerely,
    Kathleen O’Byrnes

    • Austin W. Brister

      Kathleen,

      Thanks for the question! NPRI’s are confusing and frustrating. Sounds like you’re thinking of the right questions though which is the important part. I’m assuming that this is in TX? Unfortunately, I cannot give you a 100% straight answer because (1) NPRI’s are simply too unclear in TX since the surrounding circumstances and title instruments can have such a strong impact, and (2) because my malpractice carrier won’t allow me to answer specific examples unless those answers are to addressed to engaged clients. :-(

      But here’s some information I can tell you: the word “of” does appear in the language, which typically gives a strong indication that the NPRI is to be a floating NPRI. Additionally, while I don’t have the important surrounding context, I can say that the overriding royalty language typically does not cause too much heartburn, because (1) this is often just a throwback to old terminology, and (2) TX courts have made it clear that NPRI’s share in overriding royalties reserved by the lessor in a lease.

      DISCLAIMER: I have to make the disclaimer that I can’t give you legal advice over this forum, and therefore this discussion was intended for informational purposes only. It is no substitute for the opinion of an engaged attorney analyzing the instruments themselves and all surrounding circumstances. If you need legal advice, you should engage the legal representation of a licensed attorney.

© Copyright 2014, Austin W. Brister. All Rights Reserved. DISCLAIMER: The information in this article is for general information purposes only. This article should not be substituted for legal advice and should not be taken as legal advice for any individual case or situation. This information is not intended to create, and receipt or reading this article does not constitute, an attorney-client relationship. You are encouraged to contact an attorney for legal advice concerning the information provided in this article.
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