To Invest in Mineral Rights or Not to Invest?
From time to time, people unfamiliar with the oil and gas industry, but familiar with the stories of Rockefeller, Hughes, Hunt, Getty, and other famous oilmen, will be shown an opportunity to “invest” in mineral rights through a management company. Pay a certain amount of money and receive a certain amount (usually very tiny) of mineral rights or royalty rights. This scheme involves a company that goes out and buys up a mineral rights interest at auction and sheriff’s tax sales, then resells all or most of it in small pieces to several investors at an inflated price. Too often, the management company will tell the investor not to contact the oil company, that the management company will get all of the royalty paid to them and they will distribute it on to the investors.
For the oil company division order analyst, these schemes cause two serious problems.
1. When someone in the group (usually an heir of one of the investors who was told "don't tell the oil company!") notifies the oil company and sends documentation, suddenly the division of interest needs overhaul. No one gets paid anything until that major revision is done--and could take months, if the documentation provided showed that other people were assigned a royalty interest or partial mineral rights interest and not just the heir of the investor.
2. I've never been told by an investor's heir that they could find anything more than simple, one-line check stubs, if anything at all, in the deceased investor's records. That leads me to believe that these "master investment partners" don't pay out royalties with the information required to be provided with the payment. So the investor never knows the volume of production, price paid, or post-production costs deducted out of their share of royalty.
For the investor royalty owner, the problems usually are worse. Usually the decimal of interest in a well owned by one of these investors is very small. I’ve seen them as small as 0.00000009 or less, which comes to $0.09 paid to the royalty owner out of every $1 Million of production revenues. And the Investment Company is going to pay a check for $0.09? I doubt it, but could be wrong.
Speaking of the size of royalty payments, every mineral rights owner should know is that, unless your OGML has a clause in it saying that you must be paid royalties every month regardless of amount (so even $0.01 would get paid by check), rarely will a company issue a check for less than $25 every month. BUT, every company is required to distribute royalty one time every year for all accounts less than $25, even if the account is only $0.01 at the time their once-a-year distribution comes around. Division order analysts call that the “annual royalty dump,” not meaning any disrespect because the “dump” applies to the analyst, not the royalty owner. Division order analysts know the complications these annual distributions can cause.
One problem for the royalty owner is that too many of them don’t want to cash a check that’s only a few dollars (let alone few cents!) so they checks go uncashed. That causes the oil company to void that check (usually about $35 cost to the oil company) and wait for another year to roll around so they can issue another check in a slightly higher amount. After enough years of uncashed/voided checks, the money in the account will get paid over to the state in which the owner resides (according to that state’s laws) unless the owner maintains contact with the oil company letting them know “yes, I’m still here”. Absent contact, the company is required to pay over the royalties as unclaimed property to the state.
My experience has been that such an investment scheme creates a huge land title mess for the mineral rights involved, and unless another company comes along later and buys up all the small “investor” pieces, no one owning the tiny pieces of mineral rights will ever get paid royalties.
A question that I would have, personally, with the Investor Management Company being the sole receiver of revenues for the group and (supposedly) distributing them, what about 10 years from now? Twenty years from now? A deed recorded in the courthouse is permanent, usually. What if this lease expires and a landman comes around to take a new lease. Does the Investor Management Company distribute a proportionate share of the signing bonus and pre-paid annual delay rental that they receive for signing the lease? What about the royalty rate negotiated in the lease: what incentive does the IMC have to negotiate the best royalty rate unless they are going to receive at least part of it if the lease begins to produce (because they kept a piece of the mineral rights for themselves)?
Lots of pitfalls for this kind of setup, for sure. In my book “Oil and Gas Royalty Nightmares” one of the chapters is a true story very similar to the setup of an IMC. Except the case in my book was a very large family with an overbearing banker taking control of the royalty distributions to all family members, all heirs of the family patriarch deceased since 1926. There were more than 25 heirs and sub-heirs by 1976, and continued growing until the scheme collapsed several years later. It was discovered how the banker had cheated them for decades, and what happened next was surprising.