A farmout is how one company gets a well drilled on acreage it holds but cannot or will not drill itself. It is the most common transaction in the oil patch that most mineral owners have never heard of, and occasionally it is the reason a well finally shows up on your section.
A company holding a lease agrees to assign some of it to another company, on the condition that the second company drills a well at its own cost. The one giving up the acreage is the farmor. The one drilling is the farmee. The farmee spends the money and takes the geological risk. The farmor keeps something on the back end without writing a check.
It exists because leases expire and capital is finite. A company can hold acreage it genuinely believes in and still lack the budget, the rig, or the appetite to drill it before the primary term runs out. A farmout converts an asset it is about to lose into an asset it keeps a piece of.
Earning is the heart of it. The farmee does not receive the acreage on signing. It receives the acreage when it performs, and the agreement defines performance precisely: spud by a date, drill to a named formation or a stated depth, complete or plug, and sometimes produce in paying quantities for a period.
What the farmee earns varies, and the difference is worth real money:
Usually one or both of these.
A retained overriding royalty. The farmor carves an overriding royalty interest out of the leasehold before assigning, commonly in the range of 2% to 6.25% of 8/8. It costs the farmor nothing to hold, bears no drilling or operating cost, and pays from first production. Many farmouts include a conversion right, letting the farmor convert the override into a working interest after payout, which is a way of taking the free ride early and the real upside later.
A back-in after payout. The farmor takes a working interest, often 25%, once the farmee has recovered its costs from production. Before payout the farmor risks nothing; after payout it becomes a partner.
A carry means one party pays another party's share of the cost. In a farmout the farmee frequently carries the farmor through the drilling and completion of the earning well, meaning the farmor's proportionate share of the AFE is paid by the farmee and recovered, if at all, out of production.
Carries are quoted as a percentage and the arithmetic matters. If you are on either side of one, our farmout carry calculator works out the carry cost and, more usefully, the effective cost per acre earned. That per-acre number is the one to compare against what leases actually trade for in the section before anyone shakes hands.
| Term | What it means |
|---|---|
| Farmout | The same deal described from the farmor's side, the party giving up acreage |
| Farmin | The identical deal from the farmee's side, the party drilling to earn |
| Participation agreement | Both parties pay their share and both own from day one. Nobody is earning anything from anybody |
| Joint operating agreement | The document that governs how co-owners operate together after the earning is done. A farmout usually attaches a JOA as an exhibit |
| Assignment | The recorded instrument that actually conveys the leasehold once the farmee earns it |
Directly, very little. A farmout is a trade between two leasehold owners and does not change your lease, your royalty, or your decimal. You are not a party to it and your consent is not required.
Indirectly it can matter quite a bit, in two ways.
It is often why a well finally gets drilled. If your acreage has been leased and quiet for two years and a farmout gets signed, someone now has a deadline to spud. Leases that were drifting toward expiration get drilled instead. That is usually good news for a royalty owner, and it is a signal worth noticing.
It changes who you deal with. After the farmee earns, your operator may be a different company than the one on your lease, with a different owner relations department and a different reputation for paying on time. Our operator directory has current contact information for most of them.
One thing a farmout does not do is reduce your royalty. Overrides and carries are carved out of the working interest side, not yours. If your check drops after an operator change, that is a different problem, and our statement decoder and state payment laws pages will help you find it.
From the farmor's chair: define the earning well tightly, including target formation and a real depth or completion obligation rather than a vague one; put a hard spud date in with a short extension mechanism; state exactly what is earned and at what depths; and decide deliberately between an override with a conversion right and a straight back-in. From the farmee's chair: make sure the acreage is actually held and unencumbered, that title is delivered when you earn, and that the continuous development obligation is one your rig schedule can survive.
Either way, run the carry economics before agreeing to the split. A generous-sounding carry on expensive acreage can be worse than paying your own way on cheap acreage.
Send it over. We read these every week. Text a photo to 918-984-1645 or use Ask a Landman, and we will tell you in plain English what it does and who it favors. Free, and no obligation.
Ask a Landman Run the Carry NumbersBerlin Royalties is a mineral buyer and a landman shop in Tulsa, not a law firm. This is general information about a common industry agreement, not legal advice. Farmout terms vary widely and the specific document controls. Last reviewed August 2026.