How Transaction “Effective Dates” Can Cost You Money

September 7, 2020

You’ve received an offer to purchase your mineral rights.  Congratulations!  

As you review the offer, you notice that the buyer states an “effective date” that isn’t tied to the date of the actual closing. Your radar immediately goes off.  Should you be concerned? Are you being taken advantage of?

The honest answer is, it depends.  Don’t you hate answers like that?  Here’s why:

An “effective date” is the point in time that an asset is transferred. This is normally expressed in a contract as the first of a given month, for example, December 1, 2020.  There can be a sense of discomfort when you realize the date is not the actual date of the closing. To understand why contracts usually default to the first of the month, you first must understand how production is reported in Texas.

The Texas Railroad Commission reports production at the lease level. What this means is that operators are reporting the volume of all producing wells in a lease together, monthly. This volume is NOT reported separately. The operator is the only entity that knows what each individual well is producing daily. This makes it almost impossible for your prospective mineral rights buyer to choose an arbitrary date as an effective date.

You might then wonder why your prospective buyer won’t simply divide by the number of days in the month. As simple as this fix sounds, it neglects the fact that each day the wells produce different volumes. Simple division doesn’t take this into account.  To further complicate matters, this assumes an operator measures daily production at the same time every day, which they do not. Bottom line, to account for all these variables, the first of the month is used to facilitate an easier transaction.

We often experience two types of effective dates. Production Effective Dates and Revenue or Check Effective Dates. A Production Effective Date is the specific date at which all production is transferred to the new owner. A Check Effective Date is directly tethered to the specific monthly checks and is less focused on production.

Depending on where in the life cycle your mineral rights are depends on what effective date makes the most sense. It is incredibly important to be aware of this because this can allow you to make a costly error. To understand this let’s look at one example, handled two different ways.

Example 1:

Your mineral rights currently have a well being drilled, for which a company has been transparent and told you about. It is important to note that in this scenario given the company was forward about the activity we are assuming that they are factoring in the new production from these wells in their offer. It is important to ask if they properly evaluated this interest. If they have, it may make sense to do a specific “back dated” effective date to ensure that these new wells for which the company has associated the offer with are that of the buyer. One can also use a check effective date if the wells have not been completed yet to also ensure they are getting the revenue from new wells. However, given the lag in when a well gets completed often companies seek to back date so they can show operators the production belongs to them. Instead of you having to forward on check statements.

Example 2:

Let’s look at the opposite of the above scenario. You have a well drilled on your property and you have no clue, but the company does. If a company is seeking to back date you more than 2 months this maybe a good indication of such an event has occurred. You should investigate and ask questions around why they need to do a production effective deed so many months before the company actually owned the asset. If their answer doesn’t seem like it passes the sniff test immediately log into the RRC website and check on your property.

Example 3:

Apart from the above scenarios there is a third scenario that is often the main reason why your effective date is back dated. It is important though to realize that this is operator specific. Often, you are being paid in arrears for oil on your monthly check statement. As we stated, depending on your operator this could be a single month or possibly more. For this reason, mineral rights purchases often back date your deed to account for this. For example, let’s say you are selling your minerals in November, but your November check statement reports oil produced in October. If the company buying your mineral interest has calculated this into the purchase price. They will ask to backdate the Deed. They can also arrive at the same outcome by asking for a Revenue effective mineral deed so as to gain all the production from November 1 on.

Hopefully the above examples and further dive into effective dates has helped you better grasp that they are something that you need to be aware of and be sure to ask questions on why a specific date is used or not used. As always, if you have any questions, even if its regarding an offer that is not from Revere. Please call us. We are always here and willing to be helpful.

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