Driven by the lowest prices in more than a decade, those drillers that can afford it have pinched oil and gas production, waiting for prices to rise. But what effect does stopping production have on the leases covering these formerly producing wells?
Most oil and gas leases have a primary and a secondary term. The primary term is traditionally a fixed number of years in which the lessee has to move forward with drilling operations. After drilling has commenced, the secondary term will generally continue as long as the wells produce in paying quantities. What constitutes “production” has been the subject of many court cases over the years. The outcomes of these cases have resulted in widely varied interpretations. In Pennsylvania, in a 2011 Washington County Court decision (Wilson v. Equitable Gas Company), it was determined that a gap in production of five years was sufficient grounds for automatic termination. Several other court decisions in Pennsylvania have long supported the lessor’s right to terminate leases in their secondary term in periods of non-production.
Therefore, during an industry downturn, as companies are looking to slow down operations and cut costs in order to stay afloat, a primary consideration needs to be lease maintenance. Lessees must diligently review the terms of their lease agreements before any temporary cessation of operations, in order to protect their most vital asset, lease inventory.