Business Context and Reporting Period
The San Juan Basin Royalty Trust (the "Trust") is a fixed investment trust taxed as a grantor trust, holding a 75% net overriding royalty interest in oil and gas properties operated by Burlington Resources Oil & Gas Company LP ("BROG"). This Form 10-Q covers the quarterly period ended September 30, 2003. The Trust has 46,608,796 units of beneficial interest outstanding. Financial statements are prepared on a basis differing from GAAP, customary for royalty trusts, where revenues are recorded when paid by the working interest owner and amortization is charged directly to trust corpus.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2003 | Nine Months Ended Sep 30, 2003 | Three Months Ended Sep 30, 2002 | Nine Months Ended Sep 30, 2002 |
|---|---|---|---|---|
| Royalty Income | $24,332,317 | $70,294,774 | $12,549,272 | $26,034,196 |
| Distributable Income | $23,821,432 | $68,938,314 | $12,296,335 | $24,838,150 |
| Distributable Income per Unit | $0.511093 | $1.479085 | $0.263820 | $0.532907 |
| Cash and Short-Term Investments | $9,059,373 (as of Sep 30, 2003) | |||
| Net Overriding Royalty Interest (Asset) | $30,746,410 (as of Sep 30, 2003) | |||
| Distributions Payable | $8,944,515 (as of Sep 30, 2003) | |||
| General & Administrative Expenses | $520,244 | $1,389,073 | $259,497 | $1,282,218 |
Material Changes vs. Prior Period
- Revenue Surge: Royalty income for the three months ended September 30, 2003, increased by approximately 94% compared to the same period in 2002. This was primarily driven by a significant increase in average natural gas prices, rising from $2.28 per Mcf in Q3 2002 to $3.90 per Mcf in Q3 2003. Oil prices also increased from $21.95 to $24.74 per barrel.
- Production Volumes: While gas sales volumes attributable to the royalty remained relatively flat (6.82 million Mcf in Q3 2003 vs. 6.83 million Mcf in Q3 2002), the higher prices resulted in substantially higher gross proceeds.
- Capital Expenditures: Capital expenditures attributable to the underlying properties for the third quarter of 2003 were approximately $4.3 million, compared to $2.1 million in the third quarter of 2002. For the nine months ended September 30, 2003, capital expenditures were $13.7 million versus $16.8 million in 2002.
- Administrative Costs: General and administrative expenses increased, partly due to timing differences and costs associated with negotiations regarding joint interest auditing issues and compliance with the Sarbanes-Oxley Act of 2002.
Guidance, Outlook, Risks, and Unusual Items
- Tax Credit Expiration: The Section 29 federal income tax credit for non-conventional fuels (coal seam and tight sands gas) expired for production sold after January 1, 2003. Unless new legislation extends this credit, Unit Holders will not receive this benefit for 2003 production. The Trust received approximately $0.04 per Unit in tax credits in Q3 2002, which is no longer applicable.
- New Mexico Withholding Tax: A new New Mexico Oil and Gas Proceeds Withholding Tax Act effective October 1, 2003, may require withholding of income taxes from proceeds paid to non-resident recipients. If applicable to the Trust, this would reduce royalty income and distributions. The Trustee is currently communicating with BROG and state authorities regarding applicability.
- Legal Proceedings and Contingencies:
- MMS Settlement: A $901,776 deduction was made from the April 2003 royalty payment as the Trust's 75% share of a settlement with the Mineral Management Service (MMS).
- Gas Imbalance: A partial settlement of $3.49 million was reached in 2000 regarding gas imbalances. The remainder is being addressed through volume adjustments.
- Qui Tam Litigation: The Trust is exposed to potential losses from consolidated False Claims Act litigation (MDL-1293) involving BROG and other companies regarding royalty underpayments on federal and Indian lands. No estimate of potential loss has been made.
- Development Outlook: BROG anticipates 351 projects in 2003, including 38 new wells operated by BROG and 26 by third parties. The focus includes infill drilling in conventional formations and development of the Fruitland Coal formation.
Investor Verification Checklist
- Verify the impact of the expired Section 29 tax credit on net distributable income for the remainder of 2003 and future years.
- Confirm the applicability of the new New Mexico withholding tax to the Trust and its potential reduction of future distributions.
- Monitor the status of the MMS settlement and the ongoing gas imbalance volume adjustments to ensure accurate royalty calculations.
- Review updates on the In re Natural Gas Royalties Qui Tam Litigation to assess potential future liabilities that could reduce royalty income.
- Track BROG's capital expenditure execution against the $18 million to $22 million budget for 2003, as high capital costs are deducted before royalty income is calculated.