When a producing well is drilled on freehold mineral rights (i.e. drilled on a spacing unit not owned by the Alberta Crown), royalties on petroleum and natural gas drainage of adjoining Crown spacing units will be paid to the owner of the freehold rights (because of the rule of capture) and ultimately result in a loss of revenue for the Crown and the people of Alberta. Therefore, the Crown must attempt to prevent, or obtain compensation for the drainage. Unlike industry, the Crown cannot drill a well. However, Alberta Energy may serve a notice on each adjoining disposed Crown spacing unit that does not already have a producing well from the freehold zone (except for PNG licences in their initial term). When a freehold well commences production of petroleum or natural gas, a notice is served to the Crown lessee requiring a well to be placed on production in the Crown spacing unit from the offset zone in order to offset the drainage by the freehold well. See the Tenure Brochure
for more information.
A lessee may provide data to prove that a well in the affected Crown spacing unit is producing from the same offset zone as the freehold well. Once production is demonstrated, the notice will be satisfied.
The lessee may defer the obligation to produce by electing to pay offset compensation. Under this option, the lessee pays the Crown 100 percent of the royalty payable as if the freehold well were located on the Crown spacing unit.
The lessee may elect to surrender the rights down to the base of the offset zone within the affected spacing unit, except for zones that are producing, unitized, subject to a gas storage unit agreement, or otherwise demonstrably capable of production. This option allows retention of the rights below the offset zone, as well as any productive zones.
An executed Production Allocation Unit Agreement will also satisfy an offset notice.
Failure to comply with the offset notice results in the cancellation of the affected Crown spacing unit down to the base of the offset zone.
If the Crown lessee can demonstrate to Alberta Energy’s satisfaction that the freehold well is not draining Crown reserves, the notice is withdrawn.
If you have failed to respond to an offset notice or have not placed the well on production by expiry, the rights in your agreement down to the base of the offset zone will be deleted, unless you have made an election to pay offset compensation prior to expiry. You have 60 days from the date of the cancellation letter to request re-instatement of those rights pursuant to Section 8(1)(e) of the Mines and Minerals Act
. You will also be expected to make a pay election and you will have to pay a $5,000.00 + GST reinstatement penalty. If you are beyond the 60-day period, you will have to re-acquire the rights through the P&NG Sales process.
(5.2) The liability of a lessee to pay offset compensation ends as of the day on which either of the following occurs:
(a) the Minister is satisfied that the freehold well has, for a period of at least 6 consecutive months, ceased to produce petroleum or natural gas, as the case may be, from the offset zone in the freehold spacing unit and that the offset zone is no longer productive, or
(b) the freehold well, according to the Regulator’s records, is abandoned in its entirety or in the offset zone.
You need to provide us with all the geological, geophysical and engineering data you have to prove your case. This would include net pay mapping, cross-sections, seismic, production history, etc. The department's Geologists review the information you submit, and the department may or may not agree with you. We keep all data and hold it confidential.
An extension is usually requested when circumstances beyond your control prevent you from placing a well on production during the notice period. For example, if the notice expires in July but the area allows for winter drilling only, you may ask for an extension to allow you time to drill and produce a well. If, on the other hand, you don't wish to drill a well at this time for business reasons, an extension is not an option; you would have to pay offset compensation until you choose to drill a well.
Offset compensation is calculated on a spacing unit basis. Since you have been served with a gas offset notice the spacing unit would be a full section (barring special spacing). Each notice will generate an obligation equal to the share of the section. In other words, each of your quarter-section leases will be responsible for their share, or 25% of the offset compensation.
Each offset notice is a separate obligation and requires its own response; therefore each offset requires production from the offset zone in order to be satisfied. The number of wells drilled to do this is not the concern. For example, if you had two offset zones served to you, you might be able to produce both zones from one well, or conversely, you might have to drill two wells and have each produce one of the zones.
Compensation is calculated based on the amount of royalty that would owe from the freehold well as if the freehold well was producing on a Crown spacing unit. The value of the Crown's royalty share will be calculated by using 80% of the Gas Reference price or 100% of the Oil Par price. Refer to Section 23 of the P&NG Tenure Regulations
for more information. If you do not have the full spacing unit your royalty will be decreased accordingly. For example, a quarter-section lease served with a gas offset would only be responsible for one-fourth of the offset compensation owed.
Each month that the freehold well produces you will be billed for offset compensation equivalent to the royalty that would be payable on the freehold well as if the freehold well was producing on Crown land. This information is obtained from the public records at the Alberta Energy Regulator
(AER), so we will be billing you six months after production. For example, June production does not show on the AER system until August. Calculation and billing for June will be forwarded in September.
Offset compensation is calculated on the basis of spacing units. Each full spacing unit is responsible for 100% of the offset compensation. If you have a freehold spacing unit with one producing well and eight adjoining Crown spacing units, eight offset notices would be served, each requiring the payment of offset compensation to satisfy the notice.
This would depend entirely upon the expiry of the offset notice and when you notify us the well is on production. If you elect to pay compensation in the middle of one month, and don't notify us within the same month that you have a well on production you will be responsible for at least one month of compensation. For example your notice expires March 2nd and you elect to pay offset compensation. Your liability to pay starts April 1. You put a well on production from the offset zone and notify us March 26th that you have done so. As the compensation liability does not start until the first of the month following the notice expiry, no compensation is owed. However if you do not notify us the well is on production until sometime in May, you would be liable for April's compensation payment.
The liability to pay ends the first of the month in which you notify us that the well is put on production. If the well is put on production and you don't notify us, you will continue to be liable for compensation
You must have placed the well on production by the expiry of the notice in order to satisfy an offset notice. If you don't put a well on production within that time you will lose the rights unless you take some other action. You should elect to pay offset compensation until you can get your well on production. The only other alternative would be to request an extension of the offset notice. An extension would only be granted in unusual circumstances, such as being delayed for reasons outside your control in obtaining a well license.
A non-productive well does not necessarily mean that the offset zone does not exist on the Crown lease. There are different reasons a well may not be productive (such as not having drilled in an ideal location, or technical problems with the well). However if you have enough evidence (through geological, geophysical or engineering data) to prove that the freehold offset well is not draining the Crown spacing unit or alternatively the offset zone is not on the Crown spacing unit, you may request a review of the notice. Technical data must accompany your request and if we agree with your interpretation the notice will be withdrawn.
If the freehold well is still draining the Crown spacing unit, the notice will remain in effect. In order for you to keep the rights under notice you have to elect to pay offset compensation. Otherwise you can surrender the affected rights.
You were served a notice because the freehold well is draining the Crown. Drilling a well in a different spacing unit then you were served on does not prevent the drainage from occurring and therefore this well will not satisfy the offset notice.
Alberta Energy uses public records from the Alberta Energy Regulator (AER) to search for producing wells. A notice will be served if the records show no production from the offset zone on the Crown spacing unit.
Offset compensation will end the first of the month in which you notify the department that you have a well on production. If you have a well on production but continue to pay offset compensation you will not be reimbursed. Once you notify us that a well is on production and we verify this, you will no longer be billed.
Any time the agreement or portion of the agreement that a well was drilled on is cancelled, you are responsible for the abandonment of that well, in accordance with the Alberta Energy Regulator (AER) regulations.
You may request that offset compensation be terminated at any time. At the same time you would have to surrender the affected rights or request a review. With your review request you must provide data indicating that the freehold offset well is not draining the Crown or that the offset zone is not present on the Crown.
When you surrender an offset, you keep only the shallower zones that are proven productive. If the shallow zone is only potentially productive it will be lost. The only way to keep potentially productive shallower zones is to pay offset compensation until such time as you have proven the zones productive.
When you surrender as a result of an offset, you lose all zones to the base of the offset zone. The only way to keep the gas capped well would be to pay offset compensation or place the well on production from the offset zone.
The Petroleum and Natural Gas Tenure Regulations
changed effective January 1, 1998 in order to improve the packages of land that were being returned to the Crown. You still maintain any of the rights below the offset zone, providing you with the opportunity to explore them. Since the freehold well has drilled through the shallower zone to the offset zone these rights have been explored in the area and if not productive should return to the Crown.
Unless you have a substance specific lease (for example, a petroleum lease) you would be required to surrender all substances down to the base of the offset zone, as we do not split rights in P & NG leases.