CKX LANDS, INC. annual report, FY2016

CKX Lands, Inc. 2016 Form 10-K Summary

Business context and reporting period

CKX Lands, Inc. owns and manages Louisiana land, timber, and mineral interests. Revenue is generated from oil and gas royalties and lease fees, timber sales, and surface leases for agriculture, hunting, rights-of-way, and other uses. The Company does not explore for or operate oil and gas wells. This Form 10-K covers the fiscal year ended December 31, 2016, with comparison to 2015.

Approximately 14,326 net acres owned in Louisiana, including 10,612 timber acres, 2,576 agricultural acres, 944 marsh acres, and 194 metropolitan acres.
Three part-time employees and 1,942,495 common shares outstanding as of March 24, 2017.
Oil and gas represented 59.17% of 2016 revenue, compared with 74.02% in 2015.

Financial results and key metrics

Metric	2016	2015	Change
Total revenue	$863,402	$1,062,101	Down 18.71%
Income from operations	$187,360	$650,698	Down 71.20%
Income before taxes	$222,311	$673,806	Down 67.00%
Net income	$170,674	$463,028	Down 63.14%
Basic and diluted earnings per share	$0.09	$0.24	Down $0.15
Cash flow from operations	$280,807	$441,974	Down 36.92%

Net profit margin was approximately 19.8% in 2016, versus 43.6% in 2015. Operating margin was approximately 21.7%, versus 61.3%.
Oil and gas revenue declined 35.02% to $510,856, principally because gas production and prices decreased and oil production and prices declined. Royalty revenue fell 36.68% to $488,947, while lease rental revenue increased 56.58% to $21,909.
Timber revenue increased 141.91% to $125,860. Surface revenue excluding the related-party item declined to $189,019 from $223,869; including $37,667 of related-party revenue, total surface-related revenue was $226,686.
General and administrative expense increased 22.51% to $614,002, primarily due to higher officer compensation, legal fees, director fees, and property-management fees.
Average gas sales price declined to $2.55 per MCF from $3.33, while average oil sales price declined to $39.87 per barrel from $51.67. Net gas production was 48,959 MCF and net oil production was 8,447 barrels, excluding plant products.

Financial position, liquidity, and capital allocation

Cash was $1.081 million at year-end, compared with $2.767 million in 2015. Certificates of deposit totaled $4.090 million, producing cash and certificates of deposit of approximately $5.171 million.
Current assets were $4.537 million and total liabilities were $431,376. Total assets were $14.418 million and stockholders’ equity was $13.987 million.
The Company had no debt outstanding and had an unused unsecured $3.0 million line of credit. The line matured May 13, 2017 and carried interest at 2.75% plus one-month LIBOR when drawn.
Investing cash outflows were $1.974 million, including $1.865 million for land purchases and improvements and $528,031 for timber. Cash declined $1.686 million during the year.
No cash dividends were paid in 2016, compared with $0.10 per share in 2015. On March 23, 2017, the Company declared a $0.10 per share dividend payable April 10, 2017.

Material changes versus the prior comparable period

Revenue, operating income, pretax income, net income, and operating cash flow all declined materially, driven primarily by lower oil and gas prices and production and the absence of the $172,352 land-sale gain recognized in 2015.
The Company purchased approximately 1,129 acres in 2016, including 880 acres in Calcasieu Parish, and increased land and timber carrying values.
General and administrative expenses rose by $112,843.
Dividend policy changed: the Board will no longer classify dividends as “regular” or “extra” and will consider prior-year operating cash flow, economic conditions, and other relevant information.
In the first quarter of 2017, the Company terminated third-party property management of its 1/6 undivided-interest lands, which management expects will reduce expenses and improve oversight.

Guidance, outlook, risks, contingencies, and unusual items

Management expects higher oil and gas prices but lower production in 2017, resulting in oil and gas revenue approximately flat with 2016.
Management expects wet weather and the resulting timber-harvesting backlog to negatively affect 2017 stumpage agreements, volumes, and pricing. Four stumpage agreements were in force at filing.
Management expects potential improvement in surface revenue from continued economic activity in southwest Louisiana and expanded marketing efforts.
Principal risks include commodity-price volatility, depletion of oil and gas production, dependence on third-party operators and new discoveries, customer concentration, and hurricanes, flooding, fire, and other natural disasters affecting timberland.
Seven customers accounted for approximately 65.13% of 2016 revenue. Loss of receipts from any major customer or revenue stream could materially affect results.
The Company has no access to oil and gas reserve information and does not present reserve quantities. All current oil and gas resources will eventually deplete.
The Company reported no material contingencies, no legal proceedings as of December 31, 2016, and no off-balance-sheet arrangements. Operators are responsible for environmental compliance, although landowners could potentially face responsibility if a well is improperly abandoned.
Related-party transactions included $37,667 received from Stream Wetlands Services, LLC, whose president was a Company director, $4,800 of office rent paid to a company owned by the President, and $5,883 of legal fees paid to the President’s spouse’s law firm.
Management assessed disclosure controls and internal control over financial reporting as effective. The independent auditor issued an unqualified opinion; the auditor did not provide an ICFR attestation because the Company qualifies for the applicable smaller-reporting-company exemption.

Investor verification priorities

Verify the sustainability of oil and gas royalties given lower 2016 production, prices, customer concentration, and unavailable reserve data.
Assess whether 2017 timber harvesting, stumpage agreements, and surface leasing can offset declining mineral income.
Review the effect of higher general and administrative costs and the termination of third-party property management.
Confirm the timing, funding, and recurring nature of the $0.10 per share dividend declared in March 2017.
Review land acquisition commitments, including the approximately 880-acre Calcasieu Parish purchase and any planned acquisitions or divestitures.
Evaluate related-party arrangements and the potential financial benefit of the Stream Wetlands Services memorandum of understanding, which management could not quantify.
Reconcile cash, certificates of deposit, FDIC insurance limits, and the availability and maturity of the $3.0 million credit line.