Mesa Royalty Trust - 10-Q Summary (Period Ended September 30, 2017)
Business Context and Reporting Period
Mesa Royalty Trust is a passive entity created in 1979, governed by a Trust Indenture, with The Bank of New York Mellon Trust Company, N.A. serving as Trustee. The Trust holds an overriding royalty interest equal to 11.44% of 90% of the Net Proceeds from specific oil and gas properties in the Hugoton field (Kansas) and the San Juan Basin (New Mexico and Colorado). The reporting period covers the three and nine months ended September 30, 2017. As of November 14, 2017, there were 1,863,590 units of beneficial interest outstanding.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2017 | Nine Months Ended Sep 30, 2017 |
|---|---|---|
| Royalty Income | $626,384 | $2,262,152 |
| Interest Income | $3,182 | $6,828 |
| General & Administrative Expense | ($35,609) | ($133,681) |
| Distributable Income | $593,957 | $2,135,299 |
| Distributable Income Per Unit | $0.3187 | $1.1458 |
| Distributions Available Per Unit | $0.3450 | $1.1465 |
| Cash and Short-Term Investments | $1,641,797 | $1,641,797 |
| Net Overriding Royalty Interest (Book Value) | $2,055,056 | $2,055,056 |
| Trust Corpus | $3,053,749 | $3,053,749 |
Note: Net Overriding Royalty Interest is calculated as Gross ($42,498,034) less Accumulated Amortization ($40,442,978).
Material Changes vs. Prior Period
- Revenue Growth: Royalty income increased 39% for the quarter and 169% for the nine-month period compared to the same periods in 2016. This was driven primarily by higher natural gas, natural gas liquids (NGL), and oil prices, alongside increased net production volumes.
- Cost Management: Capital expenditures decreased significantly in the San Juan Basin-New Mexico properties (down 83% QoQ) and Hugoton properties saw a reduction in operating costs year-over-year for the nine-month period due to tax true-ups.
- Operator Changes: On July 31, 2017, ConocoPhillips sold its San Juan Basin-New Mexico assets to Hilcorp San Juan LP. Additionally, Linn Energy, LLC completed its Chapter 11 reorganization effective February 28, 2017, with Linn Energy, Inc. becoming the successor operator for Hugoton properties.
- Excess Production Costs: Total excess production costs (costs exceeding revenue that must be recovered before royalty payments) decreased to $18,941 as of September 30, 2017, from $19,983 at year-end 2016.
Outlook, Risks, and Contingencies
- Market Risk: The Trust's distributions are highly dependent on the volatile prices of natural gas and NGL. The Trust does not hedge against these price fluctuations.
- Contingent Reserve: The Trustee maintains a Contingent Reserve of approximately $998,693 (as of Sept 30, 2017) for future unknown liabilities. Adjustments to this reserve impact distributable income available for distribution.
- Legal Proceedings: There are no pending legal proceedings where the Trust is a named party. However, the Trust may be subject to litigation in the ordinary course of business regarding the Royalty Properties. Working Interest Owners do not currently anticipate a material adverse effect.
- Termination Trigger: The Trust will terminate if royalty income falls below $250,000 for two successive years or upon a unitholder vote. Current income levels are well above this threshold.
- Interest Rate Environment: The Trustee was unable to secure an interest-bearing account meeting the Trust Indenture's requirement (1.5% below prime). Consequently, the Trustee is allocating a portion of its fees to meet the minimum interest obligation to the Trust.
Key Facts for Investor Verification
- Production Volumes: Verify the specific net production volumes for natural gas and NGLs, as these are the primary drivers of the 169% revenue increase.
- Operator Financial Health: Monitor the financial stability of the Working Interest Owners (Linn Energy, Hilcorp, BP, Red Willow), as the Trust relies on them for operations and reimbursement of expenses.
- Commodity Prices: Track spot and contract prices for natural gas and NGLs, given the Trust's lack of hedging and direct exposure to market rates.
- Excess Production Costs: Review future filings for changes in excess production costs, particularly in the San Juan Basin properties, as these costs delay royalty distributions.
- Contingent Reserve Usage: Monitor the balance of the Contingent Reserve ($998,693) to understand potential future adjustments to distributable income.