A recent decision by the Court of Appeals of Ohio highlights several errors by a seller of property who may have intended to reserve mineral rights. (See Mong v. Kovach Holdings LLC, 2013 Ohio 882, Court of Appeals of Ohio, Eleventh Appellate District, Lake County, March 11, 2013.)

Facts

In August 2009, McMenamin conveyed real estate in Trumbull County to Mong. The deed contained a reservation:

“Grantor [McMenamin] herein reserves the oil and gas royalties for the duration of her natural life, but for a term not to exceed 10 years from the date hereof [August 4, 2009].”

The minerals were subject to an oil and gas lease. So at this point, McMenamin had a life estate in the royalty interest. Mong had a future interest in the royalties and a present ownership interest of the minerals.

In September 2009 (yes, just a month later), Mong sold the property at auction. Kovach was the highest bidder and he signed a contract for the purchase. The following language was handwritten onto the purchase agreement: “Gas + oil Royalty Reserved by Present owner.”

What do you think Mong intended? Was he flipping the property intending to keep the minerals? Whatever his intention, he (or somebody) used the word “royalty” in the contract and the deed to Kovach did not contain any reservation.

In litigation, Mong asserted that he had intended that he was the present owner and thus the minerals were not transferred to Kovach. Of course, Kovach thought otherwise and said he purchased the property precisely because it included the minerals. As the court framed the argument:

“Mong asserts that he is entitled to judgment under a theory of reformation. Kovach Holdings claims such relief is precluded under the merger doctrine. Both parties’ positions depend on the existence [or lack thereof] of a mutual mistake of fact.”

A few excerpts of the court’s opinion explain the court’s analysis as succinctly as we could summarize it:

“Reformation is available where it is shown that the written instrument does not express the true agreement entered into between the contracting parties by reason of mistake common to them; in such a case equity affords the restorative remedy of reformation in order to make the writing conform to the real intention of the parties.” (emphasis added)

“Under the merger doctrine, ‘[w]here a deed is delivered and accepted without qualification pursuant to agreement, no cause of action upon the prior agreement thereafter exists.’” (That is, the terms of the contract are “merged” into the deed.)

“The determinative question, then, is whether, as matter of law, there is clear and convincing evidence of a mutual mistake with respect to the reservation of oil and gas royalties. In the present case, such evidence does not exist.”

“At the time Mong and Kovach Holdings entered into the sales contract, McMenamin, not Mong, was ‘the present owner’ of the oil and gas royalties. Mong’s interest in these royalties was a future interest, albeit an alienable one.”

“The only evidence before the court inconsistent with a reservation of royalties to McMenamin is Mong’s statement that he did not intend to convey his interest in the oil and gas royalties. This statement is not sufficient to defeat Kovach’s [argument]. At best, it creates some ambiguity as to who was intended by the denomination ‘present owner.’ Such ambiguity, however, is not evident on the face of the documents. Moreover, we are bound by the rule of construction that a conveyance is to be construed most strongly as against the grantor, or in favor of the grantee.”

“’Applying this rule, an exception or reservation in a conveyance is construed in favor of the grantee rather than of the grantor.’ (‘[m]any cases might be cited in support of this rule, but the same is so elementary that citation is unnecessary’).”

Lessons Learned

  1. Though more fundamental mistakes (if you believe Mong) were made — for example, not including a reservation in the deed — we suspect that this is yet another case where people are confused about the difference between “royalty” and “minerals.”
  2. “Royalty” is best thought of as a personal interest, as opposed to an interest in real estate, created by an oil and gas lease of the minerals, similar to rental payments created by a lease of real estate such as an apartment.
  3. Mong might have had a chance if the Mong – Kovach contract had included and of the following clauses:
    • “The minerals are reserved by the present owner”
    • “The oil and gas (leave out “royalty”) are reserved by the present owner”
    • “Seller reserves the minerals”
  4. Mong might have had a chance if there were no oil and gas lease.
  5. Ambiguities will be resolved in favor of the grantee.
  6. Use an experienced oil and gas attorney for these types of transactions.