MTR

Mesa Royalty Trust (MTR) - Q2 2019 10-Q Summary

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended June 30, 2019. Mesa Royalty Trust is a passive entity created in 1979 that holds an overriding royalty interest equal to 11.44% of 90% of the Net Proceeds from specific oil and gas properties in Kansas (Hugoton), New Mexico, and Colorado (San Juan Basin). The Trust has no employees; administrative functions are performed by The Bank of New York Mellon Trust Company, N.A. As of August 14, 2019, there were 1,863,590 Units of Beneficial Interest outstanding.

Key Financial Metrics

Note: Distributions paid per unit include adjustments from the Contingent Reserve. The Trust holds a Contingent Reserve of $999,683 as of June 30, 2019.

Material Changes vs. Prior Period

• Royalty Income Growth: Royalty income increased 11% in Q2 2019 compared to Q2 2018, driven by higher natural gas, natural gas liquids (NGL), and oil prices, as well as increased net production volumes of NGL and oil. This was partially offset by higher capital expenditures.
• Expense Reduction: General and administrative expenses decreased significantly year-over-year for the six-month period ($97,712 vs. $168,854). The 2018 figure included a one-time payment of $70,460 for December 2017 expenses.
• Property Performance:
  • Hugoton (Kansas): Royalty income increased 14% QoQ due to higher prices and lower operating costs (down 27% due to lower ad valorem taxes).
  • San Juan Basin (Colorado): Royalty income increased 18% QoQ due to higher natural gas prices, despite decreased production volumes.
  • San Juan Basin (New Mexico): Royalty income increased 7% QoQ. Operating costs rose 39% due to higher equipment repair costs and the transition from estimated to actual cost reporting by the new operator, Hilcorp.

Outlook, Risks, and Unusual Items

• Hilcorp Reconciliation Risk: A significant risk factor involves the San Juan Basin-New Mexico Properties. Following the acquisition by Hilcorp in 2017/2018, payments were based on estimates. Starting April 2019, Hilcorp began reporting actual Net Proceeds. Hilcorp has identified approximately $1.1 million in incremental costs from a 2018 well that will reduce future Net Proceeds. Hilcorp may withhold future payments to recover any overpayments made during the estimation period, which could materially reduce distributions.
• Interest Rate Environment: The Trust Indenture requires cash to earn interest at 1.5% below the prime rate (targeting 4.00% annualized). Due to the low interest rate environment, the Trustee could not secure this rate and instead allocated a portion of Trustee fees to meet the minimum interest obligation.
• Excess Production Costs: As of June 30, 2019, total excess production costs (costs exceeding revenue that must be recovered before distribution) were $9,528, primarily related to the San Juan Basin-Colorado Properties.
• Forward-Looking Statements: The Trustee relies entirely on Working Interest Owners (Riviera, Hilcorp, BP, Red Willow) for operational data. The Trust has no control over operations, costs, or capital expenditures.

Investor Verification Checklist

• Hilcorp Reconciliation Status: Verify the progress of Hilcorp's reconciliation of estimated vs. actual Net Proceeds for the San Juan Basin-New Mexico Properties and the specific impact of the $1.1 million incremental cost on future distributions.
• Commodity Price Sensitivity: Monitor natural gas and NGL prices, as they are the primary drivers of the Trust's income, particularly for the Hugoton and San Juan Basin properties.
• Contingent Reserve Usage: Track the balance of the Contingent Reserve ($999,683) and the Trustee's decisions regarding withdrawals or additions, as these directly impact distributable income per unit.
• Operator Changes: Confirm continued stability of the Working Interest Owners (Riviera, Hilcorp, BP, Red Willow) and their ability to meet payment obligations.