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Undivided Fractional Oil and Gas Interests – Part 1: NPRI's and Harmonization

Oil and gas law is rife with litigation, with few areas as contentious as the creation of undivided fractional interests such as the nonparticipating royalty interest (“NPRI”). The NPRI is carved from the mineral estate and generally consists of the right to royalty under an oil and gas lease. This right to royalty burdens the lessor’s interest to the extent the lessor’s royalty under the lease is sufficient to cover the NPRI. In the event a well is drilled and the lessor’s royalty is insufficient to cover the NPRI, the insufficiency will burden the lessee’s working interest (i.e., catastrophic title failure).

This series will touch on relevant cases concerning undivided fractional interests, focusing not just on individual black letter rules but also on the general trends and pitfalls of deed interpretation. The history we will examine consists of a confluence of inconsistent court holdings, the resultant use of overly complex and conflicting deed language by drafters, and an ever-evolving jurisprudence. We will begin with the seminal case of Luckel v. White, 819 S.W.2d 459 (Tex. 1991).

In Luckel, the Texas Supreme Court dealt with the issue of whether or not a royalty deed conveyed a fixed fraction of total production (a “Fixed NPRI”) or a fraction of the total royalty interest reserved in future leases (a “Floating NPRI”). The deed in question was drafted using a “Three Grant” deed form which started proliferating after the disastrous holding in Caruthers v. Leonard, 254 S.W. 779 (Tex. Comm’n App. 1923, judgm’t adopted).

In Caruthers, the Court adopted the judgment of the Commission of Appeals and erroneously held that the grantee of an undivided 1/2 mineral interest made subject to the terms of an oil and gas lease did not acquire the right to an undivided 1/2 of delay rentals under the lease; only the right of reverter. The Supreme Court distanced itself from the Caruthers decision before finally overturning it in Harris v. Currie, 176 S.W.2d 302, 306 (Tex. 1943) (claiming to have expressly overruled the Caruthers decision in Hager v. Stakes, 294 S.W. 835 (Tex. 1927)). Although the Court overturned its erroneous holding, the “Three Grant” deed forms drafters relied on for clarification would lead to drafting confusion for decades. These forms generally included a “Granting” Clause, a “Subject to” Clause, a “Future Leases” Clause, and various other clauses meant to clarify the parties’ intent. Unfortunately, giving drafters multiple opportunities to describe the same interest in a single instrument also gives them multiple opportunities to create ambiguity and confusion.

The royalty deed at issue in Luckel contains the following conflicting clauses:

“Granting” Clause: “[Grantor conveys] an undivided 1/32 royalty interestin and to the following described property…”

“Habendum” and “Warranty” Clauses: “TO HAVE AND TO HOLD the above described 1/32nd royalty interest . . . unto the said [Grantee]. . . to warrant and forever defend . . . the said 1/32nd royalty interest . . .”

“Subject-to” Clause: “It is understood that said premises are now under lease…and that the grantee herein shall receive no part of the rentals as provided for under said lease, but shall receive 1/4 of any and all royalties paid under…said lease.”

“Future lease” Clause: “[G]rantor herein reserved [sic] the right upon expiration of the present term of the lease…to make other and additional leases…and the grantee shall be bound by the terms of any such leases…[and] shall be entitled to 1/4 of any and all royalties reserved under said leases.”

“Intent” Clause: “It is understood and agreed that [Grantor] is the owner of 1/2 of the royalties to be paid under the terms of the present existing lease, the other 1/2 having been transferred by her to her children and by the execution of this instrument, [Grantor] conveyed 1/2 of the 1/16 royalty now reserved by her.

In rendering its holding in Luckel, the Texas Supreme Court was forced to confront its erroneous prior decision to let the “granting clause prevail” in Alford v. Krum, 671 S.W.2d 870 (Tex. 1984). In Alford, when construing a similar “Three Grant Deed”, the Court held that in the event of a conflict between the granting clause and other clauses in a deed, the granting clause must prevail. If applied to the facts of Luckel, the Alford holding would clearly require an interpretation that the Luckel deed conveyed a fixed 1/32 royalty interest pursuant to the granting clause, and all other conflicting clauses in the deed would essentially be erased.

Instead of applying such an arbitrary rule of construction, the Court overturned its decision in Alford and held that the primary duty of a court when construing an unambiguous deed is to ascertain the intent of the parties from all of the language in the deed under the “Four Corners” canon of construction. Under the “Four Corners” canon, all parts of a deed must be harmonized to give effect to all of its provisions, and a court must not strike down any part of the deed unless there is an irreconcilable conflict wherein one part of the instrument effectively destroys another part.

The Court reasoned that the provisions of the deed could only be properly harmonized by construing the grant to be of (i) a 1/32 interest (being 1/4 of the reserved royalty under the existing lease) until the existing lease expired, and (ii) an undivided 1/4 of the total reserved royalty interest under all future leases. This interpretation allowed all clauses of the Luckel deed to take effect, whereas an interpretation of a fixed 1/32 NPRI would conflict with the clear and unambiguous meaning of the “Future Lease” clause, essentially deleting it from the deed.

The key takeaway from the Luckel decision is to not look to arbitrary, one-size-fits-all rules when interpreting conveyance instruments. One must not give greater weight to any specific clause simply because it would generally be labeled a granting, warranty, or future lease clause. The intent of the parties must be ascertained by examining all of the clauses comprising the four corners of the instrument, assuming that the parties intended every clause to have some effect and in some measure evidence their agreement.

It is important to remember that courts will not always apply the “Four Corners” canon the way one might anticipate. Courts will sometimes give greater weight to one conflicting clause over another. Sometimes a single clause will lead to a drastically different interpretation of an instrument, even though it is otherwise nearly identical to previous examples in case law. It is simply impossible to determine which clauses a court will latch onto in its interpretation process. Therefore, landmen and title examiners must consider the effects of every word as written, measure the risks associated with each conflicting interpretation, and require curative action when necessary. As we continue this series, we will analyze cases involving various degrees of complex verbiage, the rights that comprise the mineral estate, conflicting fractions, multiple and restated fractions, and a host of other interpretive issues. The goal will not be to provide definitive answers for every situation, but to arm the reader with the analytical tools necessary to understand and limit the business risks associated with unclear instruments of conveyance.

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