Small-tract Mineral Owners Vs. Producers: the Unintended Consequences of Well-spacing Exceptions

Abstract: Texas oil and gas law protects mineral owners with well-spacing regulations that prohibit drilling wells near property boundaries. However, the state can grant a well-spacing exception to a producer that is unable to negotiate a lease with a mineral owner for any reason, which allows the producer to drill close enough to the unleased property boundary to capture oil and gas under the property. A simple model of lease negotiations shows that well-spacing exceptions cause mineral rights owners to accept lower royalty rates from producers, since producers could drain oil and gas from the land without compensation if lease negotiations are unsuccessful. I estimate the effect of well spacing exceptions on royalties using an instrumental variables model, instrumenting for well spacing exceptions with distance from the proposed well to Austin, Texas, where mineral rights owners must travel to protest a spacing exception. I find that small-tract mineral owners accept lower royalty rates after well-spacing exceptions are granted nearby.