SUMMARY: The El Paso Court of Appeals affirmed summary judgment for a lessor, holding that a lease paying royalty on the “net amount received by Lessee for the sale” required a non-participating lessee to pay royalty on the operating co-tenant’s production, and dated that obligation back to first production. It also affirmed the jury's award of $338,990.63 in trial-level attorney's fees and $200,000 in conditional appellate fees, even though the only damages awarded were $17,588.19 in stipulated statutory interest.
As background, under Cox v. Davison, 397 S.W.2d 200 (Tex. 1965), when an operating cotenant drills but some non-operators do not participate, the operating cotenant may recover its costs out of production before it accounts to its cotenants, so a non-participating cotenant receives nothing until payout. For a non-participating, non-operating working interest owner, that rule can collide with the royalty owed under its own lease. Indeed, the court in Pioneer described a royalty as the lessor’s share of production, free of the costs of production.
That raises two questions: who owes that royalty (the operating cotenant or the non-participating lessee), and when. The parties could point to no prior Texas case on a royalty claim against a non-operating lessee for a cotenant’s production. In Pioneer, the trial court answered who, granting the operating cotenant’s summary judgment motion, which argued it had no payor-payee relationship with the lessor; the operating cotenant is not a party to the appeal. The El Paso Court of Appeals answered when, holding that the lessee owed royalty “beginning with first production” and reasoning that “net amount received by Lessee” in the royalty clause describes “the yardstick for measuring royalty” and does not delay royalty until the lessee itself is paid.
Pioneer Natural Resources USA, Inc. is the lessee, and Elberta M. Royalty, LLC now the lessor, under a lease paying “22.5% part of the net amount received by Lessee for the sale of the oil.” Henry Resources, LLC, a cotenant with leases from other owners, drilled the Pearl Wells, which began producing in January 2021. By both sides’ accounts, Pioneer did not participate, and no joint operating agreement governed the wells until August 2023, when the two signed one keeping Pioneer liable for royalty to its own lessors. In January 2022, Elberta sent Pioneer, and later Henry, statutory 30-day notices of nonpayment. Pioneer did not pay or respond within 30 days. Henry began paying Pioneer in November 2022, and Pioneer first paid Elberta in January 2023, reaching back to first production. The trial court granted Elberta summary judgment on liability under the lease and Chapter 91, denied Pioneer’s motion, and tried attorney’s fees to a jury after the parties stipulated that interest on the late royalties, measured under Elberta’s reading of the lease, was $17,588.19.
Pioneer argued that “received by Lessee” means received by the lessee personally, so royalty on the Pearl Wells was not owed until Henry paid Pioneer after payout. The court disagreed for two textual reasons. First, “net amount received by Lessee for the sale” describes the yardstick for measuring royalty, and the same clause deducts post-production costs “incurred by Lessee.” Pioneer did not suggest that it personally incurred those costs; it said Henry did. The clause, the court reasoned, uses “by Lessee” to refer to “the acts of whoever produces and sells the oil and gas.” Second, Pioneer’s reading would leave the lessor with nothing until the costs of production were recouped, contrary to “the established meaning of royalty as an interest in first production, free of the costs of production.”
The court also observed that this clause, “[l]ike many royalty clauses,” is written in the passive voice and “does not specify the party obligated to produce.” Pioneer asked the court to extend Cromwell v. Anadarko E&P Onshore, LLC, 716 S.W.3d 515 (Tex. 2025), which held that the passive-voice habendum clauses before it did not require the lessee to produce personally, to require that the lessee personally receive the proceeds. The court answered in a footnote that Cromwell “stands for the proposition that production by a cotenant operator may be sufficient both to maintain a lease and entitle the non-operating lessee to a share of proceeds.”
Pioneer also argued that making a non-operating lessee front royalty it cannot calculate is impossible and absurd. Elberta responded that any impossibility was of Pioneer’s own making. In January 2021, Pioneer had asked Henry for production data and decimal interests for royalties it acknowledged would be owed to Elberta, and after suit it sent Elberta division orders effective as of “first sales.” In the court’s view, that record did not show it was difficult, “much less impossible,” to calculate the stipulated amount “using publicly available information and monthly reports of sales proceeds and production volume for each well.” The court concluded that “the unambiguous terms of the Lease” required Pioneer to pay royalty “beginning with first production,” adding that a lease “may expressly defer royalty on a cotenant’s production until payout or condition payment on the lessee’s receipt of proceeds. This Lease does not.”
Pioneer argued that Elberta was not “legally entitled” to payment, and so not a “payee,” until Henry paid Pioneer. The court held that the statutory payment obligation “is triggered by the sale of production, not by the payor’s receipt of proceeds,” and that a “payor” includes the lessee under the lease on which royalty is due. Pioneer’s January 2023 payment came well after 120 days from the end of the month of first sale, January 2021. In a footnote, the court noted that Devon Energy Production Co. v. Apache Corp., 550 S.W.3d 259 (Tex. App.—Eastland 2018, pet. denied), which held an operating cotenant was not a “payor” to its cotenant’s lessors, had indicated in dicta that the non-operating lessee “is properly liable under the statute.”
Two further points deserve mention. The first is measurement. The court described a proceeds royalty, citing BlueStone Natural Resources II, LLC v. Randle, 620 S.W.3d 380 (Tex. 2021), as measured by what the lessee “in fact receives under its sales contract,” and it read “by Lessee” to mean whoever produces and sells. Where a lease is silent, Yzaguirre v. KCS Resources, Inc., 53 S.W.3d 368 (Tex. 2001), describes the implied duty to market as protecting the lessor from “the lessee’s self-dealing or negligence.” The opinion does not say whether all marketing performance was measured against the operating cotenant’s sales, or whether a non-operating lessee answers for marketing by an operator it does not control.
Second, the court’s reminder that lessors and lessees “remain free to contract for a different rule” may sound practical, but has limited go-forward reach in reality. Most leases in effect throughout the state have been around for years, many of them for several decades. Drafting new leases to defer royalty until payout may be prudent, but it does not resolve much about the vast majority of royalty obligations due today, or in the near future.