Mesa Royalty Trust: Q2 2016 10-Q Summary
Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended June 30, 2016, for Mesa Royalty Trust, a passive entity holding a 90% overriding royalty interest in specified oil and gas properties (Hugoton Field, San Juan Basin). The Trust distributes cash to unitholders based on net proceeds from production. As of August 12, 2016, there were 1,863,590 units outstanding.
Key Financial Metrics
| Metric | Q2 2016 | Q2 2015 | YTD 2016 | YTD 2015 |
|---|---|---|---|---|
| Royalty Income | $182,988 | $455,838 | $387,633 | $1,245,928 |
| Distributable Income | $145,135 | $479,703 | $301,357 | $1,104,862 |
| Distributable Income Per Unit | $0.0779 | $0.2574 | $0.1617 | $0.5929 |
| Cash and Short-Term Investments | $1,145,135 | N/A | $1,145,135 | $1,408,413 |
| Net Overriding Royalty Interest (Book Value) | $2,647,279 | N/A | $2,647,279 | $2,734,718 |
| Distributions Payable | $145,846 | N/A | $145,846 | $415,151 |
Note: The Trust holds no debt. Liquidity is derived solely from royalty income and interest on cash reserves.
Material Changes vs. Prior Period
- Revenue Decline: Royalty income decreased approximately 60% in Q2 2016 compared to Q2 2015, and 69% year-to-date. This was driven by significantly lower commodity prices and reduced production volumes.
- Commodity Prices: Average sales prices for natural gas dropped from $2.44/Mcf (Q2 2015) to $1.45/Mcf (Q2 2016). Oil and condensate prices fell from $37.41/Bbl to $24.56/Bbl.
- Production Volumes: Net production volumes attributable to the royalty declined across all categories. For example, natural gas production dropped from 128,107 Mcf in Q2 2015 to 91,276 Mcf in Q2 2016.
- Cost Reductions: Capital expenditures and operating costs decreased, partially offsetting the revenue decline. Capital expenditures in Q2 2016 were $7,791 compared to $20,977 in Q2 2015.
Outlook, Risks, and Unusual Items
- Operator Bankruptcy Risk: On May 11, 2016, Linn Energy, LLC (operator of the Hugoton properties) and related entities filed for Chapter 11 bankruptcy. The filing may result in reduced production and decreased distributions. The Trustee notes the impact is currently unclear but significant.
- Reserve for Contingencies: The Trust maintains a reserve for unknown contingent liabilities and expenses. As of June 30, 2016, this reserve was $999,289, included in cash and short-term investments.
- Excess Production Costs: As of June 30, 2016, excess production costs (costs exceeding revenue that must be recovered before royalty payments) totaled $11,542, down from $78,591 at year-end 2015.
- Interest Rate Environment: The Trustee was unable to secure an interest-bearing account yielding the required 2.0% return (1.5% below prime). Consequently, a portion of Trustee fees is being allocated to offset interest due to the Trust.
Investor Verification Checklist
- Linn Energy Restructuring: Monitor the Chapter 11 proceedings of Linn Energy to assess potential impacts on Hugoton field production and future royalty payments.
- Commodity Price Sensitivity: Verify current natural gas and oil prices against the Trust's break-even thresholds, given the high correlation between prices and distributable income.
- Excess Production Costs: Track the recovery of excess production costs, particularly in the San Juan Basin (Colorado) properties, as these costs delay royalty distributions.
- Contingency Reserve: Review future filings for changes to the ~$1 million reserve for unknown contingent liabilities, which impacts available cash for distribution.