10-K: San Juan Basin Royalty Trust Faces Uncertainty Amid Production Cost Surge

San Juan Basin Royalty Trust reports a challenging year with significantly reduced distributable income due to increased production costs and declining natural gas prices, raising concerns about its ability to continue as a going concern.

Summary

• San Juan Basin Royalty Trust's (SJT) annual report reveals a significant decrease in distributable income, dropping from $51.6 million in 2023 to $5.2 million in 2024.
• This decline is primarily attributed to a sharp increase in production costs and a decrease in natural gas prices.
• Gross proceeds from subject interests decreased by 57.3% to $48.9 million, mainly due to lower natural gas prices, which fell from an average of $4.69 per Mcf in 2023 to $2.07 per Mcf in 2024.
• Production costs, including capital expenses, rose to $60.9 million in 2024 from $43.5 million in 2023.
• Capital expenditures increased significantly to $23.9 million, primarily due to drilling two new horizontal wells.
• As a result, the Trust incurred Excess Production Costs of $21.2 million gross ($15.9 million net to the Trust) as of December 31, 2024.
• The Trust has not made a distribution since April 2024 and will not receive Royalty Income until the Excess Production Costs are recovered.
• The Trustee is evaluating credit options to cover administrative expenses until Royalty Income resumes.
• The Trust's cash reserves decreased from $1.0 million at the end of 2023 to $0.76 million at the end of 2024.
• Hilcorp's 2025 capital expenditure plan for the Subject Interests is estimated at $9.0 million.
• The report raises substantial doubt about the Trust's ability to continue as a going concern within one year.

Sentiment

Score: 3

Explanation: The document presents a negative outlook due to the significant decrease in distributable income, the accumulation of Excess Production Costs, and the depletion of cash reserves. The report raises substantial doubt about the Trust's ability to continue as a going concern, indicating a high level of risk for investors.

Positives

• Hilcorp's 2025 capital expenditure plan includes new drilling and recompletion projects, which could potentially increase production and revenue.
• The Trustee is actively evaluating credit options to ensure the Trust can continue to meet its obligations.
• The Trust maintains internal controls and procedures applicable to reserve estimation, which are reviewed annually and updated as required.

Negatives

• The Trust experienced a significant decrease in distributable income, from $51.6 million in 2023 to $5.2 million in 2024.
• Excess Production Costs of $21.2 million gross ($15.9 million net to the Trust) have halted Royalty Income payments.
• The Trust's cash reserves have been significantly depleted, raising concerns about its ability to cover future liabilities.
• The report expresses substantial doubt about the Trust's ability to continue as a going concern.

Risks

• Fluctuations in oil and gas prices could further reduce net proceeds to the Trust and distributions to Unit Holders.
• Operating risks for Hilcorp and other operators of the properties underlying the Subject Interests can adversely affect Trust distributions.
• A bankruptcy of Hilcorp or any third-party operator could adversely affect the operation of the wells and the development of the proved undeveloped reserves and interrupt or decrease distributions to Trust Unit Holders.
• The Royalty can be sold and the Trust can be terminated in certain circumstances.
• If the Trust cannot meet the New York Stock Exchange continued listing requirements, the NYSE may delist the Trust Units.
• The operators of the properties underlying the Subject Interests are subject to extensive governmental regulation.
• The Trustee may be subject to attempted cybersecurity disruptions from a variety of sources.
• Trust Unit Holders are required to pay U.S. federal income taxes on their share of the Trusts income, even if they do not receive any cash distributions from the Trust.

Future Outlook

The Trust's future is uncertain, contingent on recovering Excess Production Costs, natural gas prices, and Hilcorp's capital investments. The Trustee is exploring credit options to maintain operations. The Trust's ability to continue as a going concern is in doubt.

Management Comments

• Hilcorp has informed the Trust that it completed the transition to its new accounting system and began to report actual, not estimated, revenue and expenses for operated wells beginning with the June 2021 production month (August 2021 reporting month).
• Hilcorp has indicated that it will coordinate with the Trustee on the timing of any further adjustments, following which the Trustee will communicate that timing to investors.

Industry Context

The San Juan Basin is a mature natural gas producing region, and the Trust's performance is heavily influenced by regional gas prices and the operational decisions of Hilcorp. The decline in natural gas prices in 2024 has significantly impacted the Trust's revenue. Increased capital expenditures reflect Hilcorp's efforts to enhance production, but these investments have also led to short-term challenges due to Excess Production Costs.

Comparison to Industry Standards

• It is difficult to compare the San Juan Basin Royalty Trust directly to other royalty trusts due to the unique nature of its net overriding royalty interest and the specific properties it covers.
• However, other royalty trusts in the oil and gas sector, such as the Permian Basin Royalty Trust (PBT) or the Mesa Royalty Trust (MTR), also experience fluctuations in distributable income based on commodity prices and production levels.
• Unlike some other royalty trusts, SJT's structure limits its ability to acquire new assets, making it more vulnerable to production declines from its existing properties.
• The level of capital expenditure by Hilcorp is high compared to other operators in the region, but this is due to the nature of the horizontal drilling projects.

Stakeholder Impact

• Shareholders will experience reduced or no distributions until Excess Production Costs are recovered.
• The Trust's ability to meet its obligations to creditors is uncertain.
• The Trust's long-term viability is in question, potentially impacting all stakeholders.

Next Steps

• The Trustee will continue to evaluate credit options to cover the Trust's liabilities.
• Hilcorp's 2025 capital expenditure plan will be implemented, with the goal of increasing production and revenue.
• The Trustee will monitor Hilcorp's accounting and reporting to ensure compliance with the Trust agreements.

Key Dates

Keywords

Royalty Income, San Juan Basin Royalty Trust, Excess Production Costs, Distributable Income, Hilcorp, Natural Gas, Oil, Reserves, Trustee, Units