Title Due Diligence Texas and Oklahoma Series Presented by: Don - PowerPoint PPT Presentation

Title Due Diligence Texas and Oklahoma Series Presented by: Don Hueske & Blake Jones

These materials are public information and have been prepared solely for educational purposes. These materials reflect only the personal views of the authors and are not individualized legal advice. It is understood that each case is fact-specific, and that the appropriate solution in any case will vary. Therefore, these materials may or may not be relevant to any particular situation. Thus, the authors and Steptoe & Johnson PLLC cannot be bound either philosophically or as representatives of their various present and future clients to the comments expressed in these materials. The presentation of these materials does not establish any form of attorney-client relationship with the authors or Steptoe & Johnson PLLC. While every attempt was made to ensure that these materials are accurate, errors or omissions may be contained therein, for which any liability is disclaimed.

Road Map I. PSA – NEGOTIATION, KEY TERMS II. SCOPE OF EXAMINATION III. REPORTING/COMMUNICATION IV. CONDUCTING DUE DILIGENCE

PSA – Negotiation • Involve Due Diligence Attorneys in Negotiation of: – Title Defect Definition – Permitted Encumbrances – Method of Calculating Defects

PSA – Type of Transaction • Asset Purchase – Defect  Adjustment to Purchase Price • Stock Purchase – Defect has a material adverse effect on the total value of the company or assets  Adjustment to Purchase Price

PSA – Seller Definition • Subsidiaries • Mergers/Acquisitions

PSA – Type of Properties • Lease Based Units • Multi-Tract/Multi-Lease Units • Seller Operated Assets • PDP/PUD • Depth Limitations • Oil and/or Gas • Fee Properties • Surface Rights

PSA – Schedule of Assets/Allocated Values • Leases • Wells • Units • Surface Rights/ROWs • Excluded Assets

PSA - Deadlines • Title Defect Deadline – Set Internal Deadlines – Interim Defect Reporting? • Closing Date

PSA – Purchase Price & Defect Thresholds • Purchase Price • Individual Defect Deductible • Aggregate Defect Threshold • Defect Cap – Property – Purchase Price

PSA – Title Defect Definition • Example: Any lien, charge, contract, agreement, obligation, encumbrance, or matter affecting the Assets that would not give Buyer Defensible Title.

PSA – Defensible Title Definition • NRI not less than NRI on asset list • WI not greater than WI on asset list without proportionate increase in NRI • Net acres not less than NMA on asset list • No encumbrances – Subject to permitted encumbrances

PSA – Permitted Encumbrances • Governmental regulation of assets – Spacing rules, allowables • Rights of Way/Easements • Permitted consents, Pref. Rights • Royalties, ORRIs • Title irregularities unless another person has a superior claim of title • Liens that are not delinquent • Subordinated mortgages by lessor • Unrecorded documents not executed by seller • Threatened litigation

PSA – Other Exhibits • Material Contracts • Preferential Rights • Pending Litigation • Liens/Encumbrances

Scope of Examination • Amount to be Reviewed: – Percentage of Allocated Value – Percentage of Properties/Leases – Review Properties with AV below Defect deductible? – Lender Requirements – Core Acreage

Scope of Examination • What is being Reviewed: – Full title – Full record room search – Relying on online indices? – Relying on prior title opinions? – Relying on ownership reports?

Scope of Examination • Adjusting the Scope of Examination: – Adding Properties with Common Title – Adding Additional Properties – Swapping Properties • Low Hanging Fruit • Greater Allocated Value can be reviewed in shorter period of time • Core Acreage

Reporting/Communication • Determine Client Expectations • Staffing Due Diligence Team • Set Internal Deadlines • Regularly Scheduled Calls: – Client – Seller – Due Diligence team members • Track Progress in Real Time

Reporting/Communication • Management Spreadsheets: Progress Reports, Budget Reports • Asset Spreadsheets • Checklists • Acquisition Title Opinions • Defect Notices • Lien and Litigation Report • Executive Summary

Conducting Due Diligence - Process • Review PSA • Review maps and plats • Review Virtual Data Room (“VDR”) or physical land files – Evaluate organization and number of files – Set scope with client/ID target properties – Identify properties without title opinions – Identify properties with common title

Conducting Due Diligence - Process • Identify missing files – Notify seller as soon as possible • Assign files that need to be run in county to landmen • Run post-certification date title on properties with title opinions • Assign files to review attorneys

Conducting Due Diligence - Process • Review Land Files: – Title Opinions – Leases – Wells – Production – Division Orders – Contracts

Conducting Due Diligence - Process • Review Lease Files: – Depth Restrictions – Pugh Clauses – Pooling/Unitization Limitations – Continuous Development Clauses/Drilling Obligations – Consents to Assign – Ratifications/Amendments – Pref. Rights/ROFR – Surface Restrictions – Marketing Deductions

Conducting Due Diligence - Process • Review Well Files: – Maps/DPUs – Production – Railroad Commission (“RRC”)/Oklahoma Corporate Commission (“OCC”) Filings: • Permits • Amendments to units • Well Status • Plugging liability

Conducting Due Diligence - Title • NRI  Not less than NRI on PSA Exhibit • WI  Not greater than WI on PSA Exhibit without a proportionate increase in NRI • Net Acres  Not less than on PSA Exhibit • Depths/Formations  Title to all depths with AV on PSA Exhibit • Defensible Title  No Defects

Conducting Due Diligence - Title • Material Contracts: – JOAs – AMIs – Farmouts – Restrictions on Transfer/Assignment – Marketing/Midstream Contracts – Preferential Rights

Conducting Due Diligence - Title • Litigation: – Active/Pending, threatened • Lien Search – Permitted encumbrance? – Condition to closing or addressed post- closing? • Subordinations, Releases

Conducting Due Diligence - Title • Property Descriptions: – Check Exhibits/Assignments for accuracy – Satisfy Statute of Frauds? • Payment of Royalties/Shut-Ins – Require check copies?

Conducting Due Diligence - Defects • Defect Notices – Forms: – Spreadsheet for all defects • “Non-Assertable” and below deductible defects – Word Document for individual property defects – Don’t rely on a form from a prior deal

Conducting Due Diligence - Defects • Does the Defect meet the definition set forth in the PSA? – Not an Excluded Encumbrance – Above Defect Deductible • Note all “below deductible” defects for Buyer’s records – All defects below the Defect Cap

Conducting Due Diligence - Defects • Common Defects: – Interest owned by a third party – Lease Expiration/Acreage Loss/Loss of Depths – Gap in Production – Liens – Competing Chain of Title – Target Depths owned by a third party

Conducting Due Diligence - Defects • Defect Notice Contents: – Description of the Defect – Defect value and supporting calculation – Supporting Documentation • Required to provide documents in Seller files? • Electronic delivery permitted? – Materials Examined

Conducting Due Diligence - Defects • Sample Net Acre Defect: – Defect Description: Seller is asserting 200 acres for the Subject Lease; however, only 160 acres have been assigned to a unit, and the primary term has expired, resulting in a defect of 40 net acres due to Pugh Clause/CDC. – Defect Value: $2,000,000 – Supporting Calculation: • AV x (Net Acre Decrease/Asserted Net Acres) • $10,000,000 x (40 acres/200 acres) = $2,000,000 – Supporting documentation: Lease (highlight Pugh clause, CDC), RRC/OCC filings and plats, title opinion.

Conducting Due Diligence - Defects • Sample NRI Defect: – Defect Description: Seller is asserting an 80% NRI for the Subject Lease; however, Seller assigned an ORRI of 5%, resulting in an NRI of 75% – Defect Value: $625,000 – Supporting Calculation: • AV x (Decrease in NRI/Asserted NRI) = Defect Value • $10,000,000 x (.05/.80) = $625,000 – Supporting documentation: Title Opinion, Lease, Assignment of ORRI.

Conducting Due Diligence - Defects • Sample WI Defect: – Defect Description: Seller has asserted a WI of 90% and an NRI of 75% in the Subject Lease; however, record title reflects that Seller has a 100% WI and 75% NRI. – Defect Value: • $100,000. – Supporting Calculation: • Estimate of projected increase in costs and expenses attributed to increase in WI. • Estimated Lease Costs: $1,000,000 x 10% WI Increase = $100,000 – Supporting documentation: Title Opinion, Lease, DOI, Royalty Payment information, lease maintenance expenses.

Conducting Due Diligence - Defects • Defect Strategy: – Assert all good faith Defects – Close to Defect Threshold  Select strongest defects – Can Seller pull individual properties? • Buyer may elect to not assert