Mesa Royalty Trust: Q1 2017 Filing Summary
Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended March 31, 2017. Mesa Royalty Trust is a passive entity holding a 90% overriding royalty interest (reduced to 11.44% of the original interest due to a 1985 assignment) in oil and gas properties located in the Hugoton field (Kansas), San Juan Basin (New Mexico and Colorado), and Yellow Creek field (Wyoming). The Trust distributes cash to unitholders quarterly. As of May 15, 2017, there were 1,863,590 units outstanding.
Key Financial Metrics
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Royalty Income | $918,539 | $204,645 |
| Interest Income | $1,357 | $257 |
| General & Administrative Expense | ($48,250) | ($48,680) |
| Distributable Income | $871,646 | $156,222 |
| Distributable Income Per Unit | $0.4677 | $0.0838 |
| Distributions Available for Distribution | $789,402 ($0.4236/unit) | $149,484 ($0.0802/unit) |
| Cash and Short-Term Investments | $1,871,646 | $1,604,112 (Dec 31, 2016) |
| Net Overriding Royalty Interest (Book Value) | $2,294,141 | $2,439,339 (Dec 31, 2016) |
| Debt | $0 | $0 |
Material Changes vs. Prior Period
- Revenue Surge: Royalty income increased approximately 349% year-over-year, driven by higher natural gas, natural gas liquids (NGL), and oil prices, increased production volumes, and reduced operating costs.
- Hugoton Field Performance: Income from the Hugoton field rose to $409,670 from $79,125. This was due to higher prices (Natural Gas: $3.65/Mcf vs $2.94/Mcf; NGL: $22.35/bbl vs $10.07/bbl) and a 76% decrease in operating costs, primarily due to lower ad valorem taxes.
- San Juan Basin Performance:
- New Mexico: Income increased to $304,025 from $125,520 due to higher prices and volumes, despite a slight increase in operating costs.
- Colorado: Income jumped to $204,845 from $0. The prior period had no income due to excess production costs that were recovered in Q1 2017.
- Reserve Adjustment: The Trustee increased the reserve for future unknown contingent liabilities by $82,244 in Q1 2017, reducing the distributable income available for distribution to $789,402.
Outlook, Risks, and Unusual Items
- Operator Bankruptcy Resolution: Linn Energy, LLC (operator of Hugoton properties) completed its Chapter 11 reorganization effective February 28, 2017. The reorganized entity, Linn Energy, Inc., assumed all contracts with the Trust, and the Trust's royalty interests were preserved.
- Excess Production Costs: As of March 31, 2017, total excess production costs were $17,567. These costs must be recovered by operators before royalty income is paid. A $147 distribution from Red Willow was made in error without recovering applicable costs.
- Interest Rate Environment: The Trustee was unable to secure an account yielding the required 1.5% below prime rate. Consequently, the Trustee is allocating a portion of its fees to offset the interest shortfall due to the Trust ($26,204 remaining to be offset).
- Market Risk: Distributions are highly sensitive to commodity prices. The Trust has no control over production volumes or operating costs, relying entirely on working interest owners (Linn, ConocoPhillips, BP).
- Legal Proceedings: No pending litigation names the Trust as a party. However, operators face ordinary course litigation that could materially impact future royalty income if settled adversely.
Investor Verification Checklist
- Verify the sustainability of the 349% revenue increase given the Trust's dependence on volatile commodity prices.
- Monitor the status of excess production costs ($17,567 outstanding) which can delay or reduce distributions.
- Confirm the ongoing operational stability of Linn Energy, Inc. post-bankruptcy reorganization.
- Review the $1.08 million reserve for contingent liabilities and the Trustee's discretion in releasing these funds.
- Assess the impact of the Trustee's fee allocation strategy on the Trust's effective interest income yield.