Analyzing Oil and Gas Farmout Agreements

John S. Lowe, Southern Methodist University, Dedman School of Law

Abstract

Since the end of World War II, the oil and gas farmout agreement has become nearly as important and commonplace in the petroleum industry as the oil and gas lease. In part, this is a reaction to the increased risks and real costs of deeper drilling. The phenomenon also reflects an increase in sophistication and a proliferation of small oil companies, both of which resulted from sharp increases in real prices for oil and gas in the 1970s.

Though farmout agreements are ubiquitous in the late 1980s, practitioners and scholars have not standardized farmout agreements to the degree that they have oil and gas leases. Parties often enter into farmout agreements on the basis of informal "letter agreements." Legal writers have given relatively little attention to provisions and interpretative problems of farmout agreements. Yet, one does not need a crystal ball to predict that farmout agreements will demand an increasing percentage of the time of oil and gas lawyers and of the courts as the years go by. The purpose of this article, therefore, is to analyze the structure of typical agreements and consider some of the problems and alternatives that practitioners must confront in drafting or reviewing farmout agreements.

Farmout agreements are important tools of a big business, and only the creativity of draftsmen and negotiators limits the options that the parties may consider. While this Article does not cover everything that one might want to know about farmouts, it does attempt to cover the basic issues that an agreement must address and to collect representative language. Even in these respects, however, the Article is not complete. In particular, many types of clauses are omitted because the author could not find examples within the time strictures of writing.