CRT

Cross Timbers Royalty Trust - 10-Q Summary

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended September 30, 2016, for Cross Timbers Royalty Trust. The Trust holds net profits interests in oil and gas properties owned by XTO Energy (a subsidiary of Exxon Mobil Corporation). The Trust is a fixed investment trust taxed as a grantor trust, meaning it is not subject to tax at the trust level. As of October 3, 2016, there were 6,000,000 units of beneficial interest outstanding.

Key Financial Metrics

Note: The Trust operates on a modified cash basis of accounting. There is no debt reported in the liabilities section.

Material Changes vs. Prior Period

• Revenue Decline: Net profits income decreased 20% in Q3 2016 and 15% for the nine-month period compared to 2015. This was primarily driven by lower oil and gas prices.
• Price Volatility: Average oil sales prices dropped 22% to $42.06 per Bbl in Q3 2016 (from $54.07 in 2015) and 34% to $36.73 per Bbl for the nine-month period. Gas prices fell 12% to $3.37 per Mcf in Q3 2016.
• Production Volumes: Oil sales volumes from underlying properties decreased slightly (4% in Q3, 2% YTD) due to natural decline. Gas sales volumes increased significantly (39% YTD) due to the timing of cash receipts covering prior production.
• Cost Reductions: Development costs decreased 63% in Q3 and 67% YTD due to reduced activity. Production expenses also declined significantly (32% in Q3).
• Excess Costs: Cumulative excess costs (costs exceeding revenues on specific conveyances) remaining as of September 30, 2016, totaled $2,341,860 ($1,756,395 net to the Trust). While the Texas working interest incurred new excess costs in Q3, the Oklahoma working interest saw a partial recovery of excess costs.

Outlook, Risks, and Management Commentary

• Market Outlook: Management notes that oil and gas prices are expected to remain volatile. At the time of filing (October 19, 2016), the average NYMEX futures price for the following twelve months was $53.05 per Bbl for oil and $3.37 per MMBtu for gas.
• Production Decline: The estimated rate of natural production decline on underlying properties is approximately 6% to 8% per year.
• Contingencies: Several states have enacted legislation requiring income tax withholding from nonresident recipients of oil and gas proceeds. The Trustee currently believes withholding is not required, but regulatory changes could reduce distributions if withholding becomes mandatory.
• Impairment: The Trustee reviews assets for impairment but does not view temporary price drops as a trigger event. No impairment was recognized as of September 30, 2016.

Key Facts for Investor Verification

• Verify the impact of cumulative excess costs ($2.34 million total) on future distributions, as these must be recovered from future net proceeds before income is distributed.
• Monitor oil and gas price volatility, as the Trust's income is highly sensitive to commodity prices, which have declined significantly from 2015 levels.
• Confirm the status of state tax withholding regulations in Texas, Oklahoma, and New Mexico, as changes could directly reduce net distributions to unitholders.
• Review the natural production decline rate (6-8% annually) to understand the long-term trajectory of revenue absent new development or price increases.
• Note that financial statements are prepared on a modified cash basis, not GAAP, meaning revenues are recognized when received, not when production occurs.