Cautionary Statement Regarding Forward-Looking Statements
Statements in this Quarterly Report on Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including statements regarding management's expectations, hopes, intentions or strategies regarding the future. Forward-looking statements include statements regarding the Trust's future operations and prospects, the severity and duration of the COVID-19 pandemic and related economic repercussions, the markets for real estate in the areas in which the Trust owns real estate, applicable zoning regulations, the markets for oil and gas including actions of other oil and gas producers or consortiums worldwide such as OPEC+, the proposed reorganization of the Trust into a corporation, expected competition, management's intent, beliefs or current expectations with respect to the Trust's future financial performance and other matters. All forward-looking statements in this Report are based on information available to us as of the date this Report is filed with theSecurities and Exchange Commission (the "SEC"), and we assume no responsibility to update any such forward-looking statements, except as required by law. All forward-looking statements are subject to a number of risks, uncertainties and other factors that could cause our actual results, performance, prospects or opportunities to differ materially from those expressed in, or implied by, these forward-looking statements. These risks, uncertainties and other factors include, but are not limited to, the factors discussed in Item 1A. "Risk Factors" of Part I of our Annual Report on Form 10-K for the year endedDecember 31, 2019 , and in Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Part II, Item 1A. "Risk Factors" of this Quarterly Report on Form 10-Q. The following discussion and analysis should be read together with (i) the factors discussed in Item 1A. "Risk Factors" of Part I of our Annual Report on Form 10-K for the year endedDecember 31, 2019 , (ii) the factors discussed in Part II, Item 1A. "Risk Factors," if any, of this Quarterly Report on Form 10-Q and (iii) the Financial Statements, including the Notes thereto, and the other financial information appearing elsewhere in this Report. Period-to-period comparisons of financial data are not necessarily indicative, and therefore should not be relied upon as indicators, of the Trust's future performance. Words or phrases such as "expects" and "believes", or similar expressions, when used in this Form 10-Q or other filings with theSEC , are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995.
Overview
Texas Pacific Land Trust (which together with its subsidiaries as the context requires, may be referred to as "Texas Pacific", the "Trust", "our", "we" or "us") is one of the largest landowners in theState of Texas with approximately 900,000 acres of land inWest Texas . We were organized under a Declaration of Trust, datedFebruary 1, 1888 , to receive and hold title to extensive tracts of land in theState of Texas , previously the property of theTexas andPacific Railway Company . Our Trustees are empowered under the Declaration of Trust to manage the lands with all the powers of an absolute owner. Our surface and royalty ownership allow steady revenue generation through the entire value chain of oil and gas development. While we are not an oil and gas producer, we benefit from various revenue sources throughout the life cycle of a well. During the initial development phase where infrastructure for oil and gas development is constructed, we receive fixed fee payments for use of our land and revenue for sales of materials (caliche) used in the construction of the infrastructure. During the drilling and completion phase, we generate revenue for providing sourced water and/or treated produced water in addition to fixed fee payments for use of our land. During the production phase, we receive revenue from our oil and gas royalty interests and also revenue related to saltwater disposal on our land. In addition, we generate revenue from a variety of land uses including midstream infrastructure projects and processing facilities as hydrocarbons are processed and transported to market. Our revenues are derived primarily from oil and gas royalties, sales of water and land, easements and commercial leases. Due to the nature of our operations, our revenue is subject to substantial fluctuations from quarter to quarter and year to year. The demand for, and sale price of, particular tracts of land is influenced by many factors beyond our control, including general economic conditions, the rate of development in nearby areas and the suitability of the particular tract for commercial uses prevalent in westernTexas . We are not an oil and gas producer. Rather, our oil and gas revenue is derived from our oil and gas royalty interests. Thus, in addition to being subject to fluctuations in response to the market prices for oil and gas, our oil and gas royalty revenues are also subject to decisions made by the owners and operators of the oil and gas wells to which our royalty interests relate as to investments in and production from those wells. We monitor reports from the operators, theTexas Railroad Commission , and other private data providers to assure that we are being paid the appropriate royalties. 10 -------------------------------------------------------------------------------- Our revenue from easements is primarily generated from pipelines transporting oil, gas and related hydrocarbons, power line and utility easements and subsurface wellbore easements. The majority of our easements have a thirty-plus year term but subsequently renew every ten years with an additional payment. Commercial lease revenue is derived primarily from saltwater disposal royalties, processing, storage and compression facilities and roads.Texas Pacific Water Resources LLC ("TPWR"), a single member LLC and wholly owned subsidiary of the Trust, provides full-service water offerings to operators in thePermian Basin . These services include, but are not limited to, water sourcing, produced-water gathering/treatment, infrastructure development, disposal solutions, water tracking, analytics and well testing services. TPWR's revenue streams principally consist of revenue generated from sales of sourced and treated water as well as revenues from produced water royalties.
During the three months ended
Corporate Reorganization
OnMarch 23, 2020 , we announced that our Trustees approved a plan for reorganizing the Trust from its current structure to a corporation formed under the laws of theState of Delaware . The Trustees made their determination following careful consideration of the recommendation of theConversion Exploration Committee of the Trust . The Trust presently intends that the corporate reorganization will be effected by the end of the third quarter of 2020, but the Trust recognizes that unforeseen impacts of COVID-19 or other developments could extend this timeframe despite the Trust's efforts. Barring any unforeseen disruptions, further information regarding the corporate reorganization will be included in a registration statement on Form 10 to be filed with theSEC as well as in other communications and disclosures anticipated to be made by the Trust and the corporation.
COVID-19 Pandemic and Market Conditions Update
The COVID-19 pandemic and related economic repercussions have created significant volatility, uncertainty, and turmoil in the oil and gas industry. Oil demand has significantly deteriorated as a result of the virus outbreak and corresponding preventative measures taken around the world to mitigate the spread of the virus. In the midst of the ongoing COVID-19 pandemic, theOrganization of Petroleum Exporting Countries and other oil producing nations (OPEC+) were unable to reach an agreement on production levels for crude oil, at which pointSaudi Arabia andRussia initiated efforts to aggressively increase their production. Although certain OPEC+ nations have reached a tentative agreement on production cuts since such time, there is an excess supply of oil on the market and constraints on storage capacity. The convergence of these events is expected to result in the downward pressure on certain commodity prices continuing for the foreseeable future. These events have negatively affected, and are expected to continue to negatively affect, the Trust's business and results of operations. Should oil and gas wells be shut in, production curtailed or the owners and operators of the oil and gas wells to which the Trust's royalty interests relate decrease investment in response to lower commodity prices and conservation of capital, we would expect the Trust's royalty income and demand for our water services to decline. Given the dynamic nature of these events, we cannot reasonably estimate the period of time that the COVID-19 pandemic and related market conditions will persist, or the extent of the impact they will have on the Trust's business or results of operations and financial condition. During these uncertain times, we have continued to meet the operational needs of our customers while maintaining a safe and healthy work environment for our employees. Our existing information technology infrastructure gave us the ability to respond rapidly to the recommended measures of closing our corporate offices and allowing our corporate employees to work remotely. We employed additional safety measures and personal protective equipment for our field employees, including quarantine facilities, if needed, and implementation of a medical hotline for access by all employees should they experience symptoms or seek additional medical information. In an effort to decrease ongoing operational costs, we have implemented certain cost reduction measures which include, but are not limited to, negotiated price reductions and discounts with certain vendors. We are closely monitoring our customer base and outstanding accounts receivable balances as a means of minimizing any potential collection issues. As a royalty owner, we have no capital expenditure or operating expense burden for development of wells. Furthermore, our water 11 --------------------------------------------------------------------------------
operations currently have limited capital expenditure requirements, the amount and timing of which is entirely within our control.
Despite the uncertainty the record low oil prices and the COVID-19 pandemic have had on both the global andU.S. oil & gas industry as a whole, we believe our longevity in the industry and strong financial position provide us with the tools necessary to navigate these unprecedented times. We have no debt and a strong cash position. Our cash and cash equivalents balance as ofMarch 31, 2020 was$223.7 million . Results of Operations We operate our business in two segments: Land andResource Management and Water Services and Operations. We eliminate any inter-segment revenues and expenses upon consolidation.
We analyze financial results for each of our reportable segments. The reportable segments presented are consistent with our reportable segments discussed in
Note 9. "Business Segment Reporting" in Item 1. " Financial Statements " in this Quarterly Report on Form 10-Q. We monitor our reporting segments based upon revenue and net income calculated in accordance with accounting principles generally accepted inthe United States of America ("GAAP").
For the three months ended
Revenues. Revenues decreased$94.7 million , or 49.5%, to$96.6 million for the three months endedMarch 31, 2020 compared to$191.3 million for the three months endedMarch 31, 2019 . Net income decreased$82.6 million , or 59.0%, to$57.4 million for the three months endedMarch 31, 2020 compared to$140.0 million for the three months endedMarch 31, 2019 . Revenues and net income for the three months endedMarch 31, 2019 included a$100 million land sale. Excluding the impact of the 2019 land sale, revenues and net income (net of income tax) for the three months endedMarch 31, 2019 were$91.3 million and$61.0 million , respectively. Due to the economic impacts related to the severe drop in oil prices in lateMarch 2020 and continuing into the second quarter of 2020 and the COVID-19 pandemic, we anticipate our future oil and gas royalties, future easements and other surface-related income and future water sales will be impacted. The extent of those impacts is unknown at this time.
The following is an analysis of our operating results for the comparable periods by reportable segment (in thousands):
Three Months Ended March 31, 2020 2019 Revenues: Land and resource management: Oil and gas royalties$ 42,360 44 %$ 33,213 18 % Easements and other surface-related income 13,298 14 % 23,485 12 % Land sales and other operating revenue 1,000 1 % 103,761 54 % 56,658 59 % 160,459 84 % Water services and operations: Water sales and royalties 26,967 28 % 22,983 12 % Easements and other surface-related income 12,969 13 % 7,882 4 % 39,936 41 % 30,865 16 % Total consolidated revenues$ 96,594 100 %$ 191,324 100 % Net income: Land and resource management$ 39,118 68 %$ 123,117 88 % Water services and operations 18,283 32 % 16,881 12 % Total consolidated net income$ 57,401 100 %$ 139,998 100 % 12
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Land and
Land andResource Management segment revenues decreased$103.8 million , or 64.7%, to$56.7 million for the three months endedMarch 31, 2020 as compared with$160.5 million for the comparable period of 2019. Segment revenues for the three months endedMarch 31, 2019 include a$100 million land sale. Excluding the$100 million land sale, segment revenues for the three months endedMarch 31, 2019 were$60.5 million . Oil and gas royalties. Oil and gas royalty revenue was$42.4 million for the three months endedMarch 31, 2020 compared to$33.2 million for the three months endedMarch 31, 2019 . Oil royalty revenue was$35.9 million for the three months endedMarch 31, 2020 , an increase of 36.0% over the three months endedMarch 31, 2019 when oil royalty revenue was$26.4 million . This increase in oil royalty revenue is principally due to the combined effect of a 11.9% increase in crude oil production subject to the Trust's royalty interest and a 21.9% increase in the average price per royalty barrel of crude oil received during the three months endedMarch 31, 2020 compared to the same period in 2019. Gas royalty revenue was$6.5 million for the three months endedMarch 31, 2020 , a decrease of 5.2% compared to the three months endedMarch 31, 2019 when gas royalty revenue was$6.8 million . While gas production increased 31.4% in the three months endedMarch 31, 2020 compared toMarch 31, 2019 , the average price received decreased 23.1% over the same period. Easements and other surface-related income. Easements and other surface-related income was$13.3 million for the three months endedMarch 31, 2020 , a decrease of 43.4% compared to$23.5 million for the three months endedMarch 31, 2019 . Easements and other surface-related income includes pipeline, power line and utility easements, commercial leases, material sales, and seismic and temporary permits. The decrease in easements and other surface-related income is principally related to a 63.4% decrease in pipeline easement income to$6.1 million for the three months endedMarch 31, 2020 from$16.6 million for the three months endedMarch 31, 2019 . Easements and other surface-related income is unpredictable and may vary significantly from period to period. Land sales and other operating revenue. Land sales and other operating revenue includes revenue generated from land sales and grazing leases. For the three months endedMarch 31, 2020 , we sold approximately 30 acres of land for total consideration of approximately$0.9 million , or approximately$30,000 per acre. For the three months endedMarch 31, 2019 , we sold approximately 21,251 acres of land for total consideration of approximately$103.6 million , or approximately$4,876 per acre. Net income. Net income for the Land andResource Management segment was$39.1 million for the three months endedMarch 31, 2020 compared to$123.1 million for the three months endedMarch 31, 2019 . As discussed above, 2019 revenues for the Land andResource Management segment included a$100 million land sale. Excluding the impact of the 2019 land sale (net of income tax), net income for the first three months endedMarch 31, 2019 was$44.1 million . Expenses, including income tax expense, for the Land andResource Management segment were$17.6 million and$37.4 million ($16.4 million excluding the income tax expense associated with the$100 million land sale) for the three months endedMarch 31, 2020 and 2019, respectively. Expenses are discussed further below under "Other Financial Data - Consolidated."
Water Services and Operations
Water Services and Operations segment revenues increased 29.4% to$39.9 million for the three months endedMarch 31, 2020 as compared with$30.9 million for the comparable period of 2019. Water sales and royalties. Water sales and royalty revenue was$27.0 million for the three months endedMarch 31, 2020 , an increase of$4.0 million or 17.3%, compared with the three months endedMarch 31, 2019 when water sales and royalty revenue was$23.0 million . This increase was principally due to a 50.5% increase in the number of barrels of sourced and treated water sold in the three months endedMarch 31, 2020 as compared to the same period in 2019, partially offset by decreased water royalties. Easements and other surface-related income. Easements and other surface-related income for the Water Services and Operations segment includes pipeline easement royalties, commercial lease royalties and income from temporary permits. For the three months endedMarch 31, 2020 , the combined income from these revenue streams was$13.0 million , an increase of 64.5%, as compared to$7.9 million for the three months endedMarch 31, 2019 . The increase in easements and other surface-related income was principally related to an increase in produced water royalties for the three months endedMarch 31, 2020 compared to the same period of 2019. Net income. Net income for the Water Services and Operations segment was$18.3 million for the three months endedMarch 31, 2020 compared to$16.9 million for the three months endedMarch 31, 2019 . As discussed above, revenues for the 13 -------------------------------------------------------------------------------- Water Services and Operations segment increased 29.4% for the three months endedMarch 31, 2020 compared to the same period of 2019. Expenses, including income tax expense, for the Water Services and Operations segment were$21.6 million for the three months endedMarch 31, 2020 as compared to$14.0 million for the three months endedMarch 31, 2019 . The increase in expenses during 2020 is principally related to increased water service-related operating expenses, primarily repairs and maintenance, equipment rental and fuel related to increased sourcing and transfer of water. The remaining increase was principally related to increased salaries and related employee expenses and depreciation expense as discussed further below under "Other Financial Data - Consolidated."
Other Financial Data - Consolidated
Salaries and related employee expenses. Salaries and related employee expenses were$10.6 million for the three months endedMarch 31, 2020 compared to$6.5 million for the comparable period of 2019. The increase in salaries and related employee expenses is directly related to the increase in the number of employees from 75 employees as ofMarch 31, 2019 to 102 as ofMarch 31, 2020 and additional contract labor expenses for the three months endedMarch 31, 2020 compared to the same period of 2019. Water service-related expenses. Water service-related expenses were$6.8 million for the three months endedMarch 31, 2020 compared to$4.6 million for the comparable period of 2019. This increase in expenses was principally the result of an increase in repairs and maintenance, equipment rental and fuel to source and transfer water and is directly related to the 50.5% increase in the number of barrels of sourced and treated water sold as previously discussed. General and administrative expenses. General and administrative expenses increased$0.8 million to$3.0 million for the three months endedMarch 31, 2020 from$2.1 million for the same period of 2019. The increase in general and administrative expenses is primarily related to increased expenses associated with our independent contractor service providers, computer-related software and services and additional liability insurance during the three months endedMarch 31, 2020 . Legal and professional expenses. Legal and professional fees were$2.4 million for the three months endedMarch 31, 2020 compared to$1.8 million for the comparable period of 2019. The increase in legal and professional fees for the three months endedMarch 31, 2020 compared to 2019 is principally due to approximately$1.8 million of legal and professional fees related to our anticipated corporate reorganization. See further information regarding the anticipated corporate reorganization in Item 2. " Man agement's Discussion and Analysis of Finan cial Condition -
R esult s of Operations - Corporate Reorganization " .
Depreciation, depletion and amortization. Depreciation, depletion and amortization was$3.3 million for the three months endedMarch 31, 2020 compared to$1.2 million for the three months endedMarch 31, 2019 . The increase in depreciation, depletion and amortization is principally related to the Trust's investment in water service-related assets placed in service in 2020 and 2019.
Cash Flow Analysis
For the three months ended
Cash flows provided by operating activities for the three months endedMarch 31, 2020 and 2019 were$68.6 million and$162.0 million , respectively. Cash flows provided by operating activities for the three months endedMarch 31, 2019 included proceeds from a$100 million land sale inJanuary 2019 . Excluding the impact of the 2019 land sale on cash flows in 2019, cash flows provided by operating activities for the three months endedMarch 31, 2020 were positively impacted by increased proceeds from oil and gas royalties collected, and water sales and royalties collected during the three months endedMarch 31, 2020 . Cash flows used in investing activities were$24.4 million compared to$59.8 million for the three months endedMarch 31, 2020 and 2019, respectively. Acquisitions of land and purchases of fixed assets decreased$48.9 million for the three months endedMarch 31, 2020 compared to the same period of 2019. This decrease was partially offset by the$13.5 million increase in the acquisition of royalty interests over the same periods. Cash flows used in financing activities were$124.1 million compared to$50.9 million for the three months endedMarch 31, 2020 and 2019, respectively. During the three months endedMarch 31, 2020 , the Trust paid total dividends of$124.1 million consisting of a regular cash dividend of$10.00 per Sub-share Certificate ("Sub-share") and a special dividend of$6.00 per Sub-share to each sub-shareholder of record at the close of business onMarch 9, 2020 . During the three months endedMarch 31, 2019 , the Trust paid total dividends of$46.5 million consisting of a regular cash dividend of$1.75 per Sub- 14 --------------------------------------------------------------------------------
share and a special dividend of
Liquidity and Capital Resources
We continuously review our liquidity and capital resources. The Trust's principal sources of liquidity are its revenues from oil and gas royalties, easements and other surface-related income, and water and land sales. Our primary liquidity and capital requirements are for capital expenditures related to our Water Services and Operations segment, working capital and general corporate needs. If market conditions were to change, for instance due to the uncertainty created by the COVID-19 pandemic or the significant decline in oil prices, and our revenue was reduced significantly or operating costs were to increase significantly, our cash flows and liquidity could be reduced. Should this occur, we could seek alternative sources of funding, including potential future borrowing under a credit facility or other financing options. As ofMarch 31, 2020 , we had cash and cash equivalents of$223.7 million that we expect to utilize, along with cash flow from operations, to provide capital to support the operation of our business, particularly TPWR, to potentially repurchase additional Sub-shares subject to market conditions, and for general corporate purposes. We currently believe that cash from operations, together with our cash and cash equivalents balances, will be enough to meet ongoing capital expenditures, working capital requirements and other cash needs for the foreseeable future.
Off-Balance Sheet Arrangements
The Trust has not engaged in any off-balance sheet arrangements.
Critical Accounting Policies and Estimates
This discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make judgments, estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and disclosures of contingent assets and liabilities. For a full discussion of our accounting policies please refer to Note 2 to the Consolidated Financial Statements included in our 2019 Annual Report on Form 10-K filed with theSEC onFebruary 27, 2020 . Our most critical accounting policies and estimates include our accrual of oil and gas royalties. We continually evaluate our judgments, estimates and assumptions. We base our estimates on the terms of underlying agreements, historical experience and other factors that we believe are reasonable based on the circumstances, the results of which form our management's basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates. There have been no material changes to our critical accounting policies and estimates from the information provided in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations included in our 2019 Annual Report on Form 10-K.
New Accounting Pronouncements
For further information regarding recently issued accounting pronouncements, see
Note 3, "Recent Accounting Pronouncements" in the notes to the consolidated financial statements included in Item 1. " Financial Statements " in this Quarterly Report on Form 10-Q. 15
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