In recent years, ongoing low prices for natural gas in Western Canada have lead to a plethora of insolvencies among gas-focused industry operators. Freehold mineral owners are particularly vulnerable should their lessee become insolvent.
When a property owner leases to a tenant and the tenant fails to pay the rent agreed upon in the lease, the landlord does not have to go to court to collect. The landlord has the right to seize the tenant’s property from the leased premises to recover the rent that is owed. This is known as the right of distress or distrain.
Oil and gas companies that encounter financial difficulties frequently stop paying royalties to their freehold owner-lessors. Canadian courts have found that freehold royalties are a form of rent (1). One might think that freehold owners would have the right of distress or distrain. Not so! The Supreme Court has ruled that a freehold oil and gas lease is not really a lease but a profit `a prendre (2) (a right to enter into and take from the land of another). Consequently, Canadian courts consider the non-payment of royalties to be a default under a freeholder’s lease agreement. A freeholder’s only recourse when his lessee stops paying royalties is to serve a default notice on the lessee and, if royalties remain unpaid, to initiate a legal action.
Companies that encounter financial difficulties often file a Notice of Intention to Make a Proposal under the Companies’ Creditors Arrangement Act. The court then issues a stay of all proceedings against the company. The same thing happens in a receivership or bankruptcy. This means that if a freeholder has filed a notice of default which has not been responded to, the freeholder cannot initiate a legal action for recovery of unpaid royalties and, even if the freeholder has already initiated a claim, the freeholder’s action is stayed. The end result is that professional receivers, bankruptcy trustees, and the lawyers representing them do very well indeed from oil and gas industry operator insolvencies whereas freeholders become unsecured creditors and seldom receive full compensation for their unpaid royalties. Often freeholders receive no compensation whatsoever and find the producing well on their mineral rights assigned to the Orphan Well Association for abandonment. This is but one example of powerful vested interests profiting at the expense of freehold mineral owners – something that FHOA is striving to counter!
1. Scurry-Rainbow Oil Limited v. Galloway Estate, Alta. Q.B.,  A.J. No. 227
2. Berkheiser v. Berkheiser and Glaister, S.C.C.  S.C.R. 387