A provision in a contract, no matter how unequivocal, does not always trump the law. The oil and gas lease allowed assignments, but no change or division in ownership of the land or royalties would be binding on the lessee until the acquiring party had furnished lessee with the instruments constituting his chain of title from the original lessor. Jones v. Clem says that the lessee could not rely on that clause if the lessor’s change of ownership occurred prior to the lessee’s acquisition, even if no notice was given to the previous lessee. (The case is not new, but is worth your attention.)
The Purchaser’s ”Mistake”
When new lessee Jones acquired the lease from original lessee Western, he relied on a document he referred to as a “division order” – an unsigned piece of paper from Western’s lease records indicating that the original lessor Smith owned a .125 royalty interest. That document is not a division order under the Texas Natural Resources Code (See §91.401 (3)).
The lessor – Smith’s predecessor – quitclaimed to Clem, who recorded the deed but did not notify the lessee, Western. Nevertheless, Western paid Clem until 1999 before ceasing payment. Jones acquired the lease from Western in 2002 and received the so-called “division order” showing the .125 royalty interest is Smith, so Jones began paying Smith. Clem testified that he thought the well had ceased to produce after 1999, but later learned that the well had been producing. Clem sued Jones and Smith for improperly-paid royalties.
“Constructive Notice” – Again
As the courts often remind royalty owners, the doctrine of constructive notice creates a harsh but irrebutable presumption of actual notice of matters in the public records. Jones was charged with constructive notice of Clem’s right to be paid royalties, and his reliance on the purported “division order” was misplaced. Constructive notice trumped the change-in-ownership clause.
Jones reminded the court that ordinarily, change-in-ownership clauses override the constructive notice doctrine. But Clem’s ownership through the quitclaim deed was a matter of public record when Jones acquired the lease. Clem was already in the chain of title and his ownership would have been easily discoverable by searching the county clerk’s records or obtaining a title opinion. Jones could not rely on failure of notice because the change occurred prior to the time Jones took over the lease.
The Takeaway – They Call it Due “Diligence” For a Reason
The urge to reduce pesky land and legal costs when acquiring a property is strong and understandable, especially when the well has been producing and royalties have been paid with no complaints. But there are limits to what you should rely on without conducting your own investigation. As the court saw it, Jones could have ordered a title opinion, or at least a landman’s examination of the public records. It isn’t clear why Jones didn’t notice in 2002, when he acquired the lease, that Western had not been paying Smith since 1999, but that should have been a warning.