STATEMENTS OF ASSETS, LIABILITIES AND TRUST CORPUS
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September 30,
2017
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December 31,
2016
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(Unaudited)
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ASSETS
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Cash and short-term investments
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$
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1,641,797
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$
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1,604,112
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Net overriding royalty interest in oil and gas properties
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42,498,034
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42,498,034
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Accumulated amortization
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(40,442,978
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)
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(40,058,695
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Total assets
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$
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3,696,853
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$
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4,043,451
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LIABILITIES AND TRUST CORPUS
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Distributions payable
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$
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643,104
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$
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604,112
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Trust corpus (1,863,590 units of beneficial interest authorized, issued and outstanding)
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3,053,749
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3,439,339
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Total liabilities and trust corpus
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$
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3,696,853
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$
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4,043,451
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(The accompanying notes are an integral part of these financial statements.)
2
MESA ROYALTY TRUST
STATEMENTS OF CHANGES IN TRUST CORPUS
(Unaudited)
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Three Months Ended
September 30,
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Nine Months Ended
September 30,
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2017
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2016
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2017
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2016
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Trust corpus, beginning of period
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$
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3,212,552
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$
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3,646,568
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$
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3,439,339
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$
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3,727,980
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Distributable income
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593,957
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416,102
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2,135,299
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717,459
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Distributions to unitholders
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(643,104
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)
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(307,732
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)
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(2,136,606
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)
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(603,062
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)
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Amortization of net overriding royalty interest
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(109,656
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)
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(104,207
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)
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(384,283
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)
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(191,646
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)
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Trust corpus, end of period
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$
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3,053,749
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$
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3,650,731
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$
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3,053,749
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$
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3,650,731
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(The accompanying notes are an integral part of these financial statements.)
3
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
Note 1Trust Organization and Provisions
Trust Corpus Description.
The Mesa Royalty Trust (the "Trust") was created on November 1, 1979, and is now governed by the Mesa
Royalty Trust
Indenture (as amended, the "Trust Indenture"). Through a series of conveyances, assignments, and acquisitions, the Trust currently owns an overriding royalty interest (the "Royalty") equal to 11.44%
of 90% of the Net Proceeds (as defined in the Conveyance and described below) attributable to the specified interest in certain producing oil and gas properties located in
the:
-
-
Hugoton field of Kansas (the "Hugoton Royalty Properties");
-
-
San Juan Basin field of New Mexico (the "San Juan BasinNew Mexico Properties");
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San Juan Basin field of Colorado (the "San Juan BasinColorado Properties", and together with the "San Juan BasinNew
Mexico Properties, the "San Juan Basin Royalty Properties"; and together with the Hugoton Royalty Properties and the San Juan Basin Royalty Properties, the "Royalty Properties").
Trust Corpus Conveyance History.
On November 1, 1979, Mesa Petroleum Co., predecessor to Mesa Limited Partnership ("MLP"),
which was
the predecessor to MESA Inc., conveyed to the Trust the Royalty equal to 90% of the Net Proceeds (as defined in the Conveyance and described below) attributable to the specified interests in
properties conveyed by the assignor on that date (the "Subject Interests"). The Subject Interests consisted of interests in the Royalty Properties described above. The Royalty is evidenced by
counterparts of an Overriding Royalty Conveyance dated as of November 1, 1979 (the "Conveyance"). In 1985, the Trust Indenture was amended and the Trust conveyed to an affiliate of Mesa
Petroleum Co. 88.5571% of the original Royalty (such transfer, the "1985 Assignment"). The effect of the 1985 Assignment was an overall reduction of approximately 88.56% in the size of the
Trust. As a result, the Trust is now entitled to receive 11.44% of 90% of the Net Proceeds attributable to each month.
Hugoton Royalty Properties.
Until August 7, 1997, MESA Inc. operated the Hugoton Royalty Properties through Mesa
Operating Co.,
a wholly owned subsidiary of MESA Inc. On August 7, 1997, MESA Inc. merged with and into Pioneer Natural Resources Company ("Pioneer"), formerly a wholly owned subsidiary of
MESA Inc., and Parker & Parsley Petroleum Company merged with and into Pioneer Natural Resources USA, Inc. (successor to Mesa Operating Co.), a wholly owned subsidiary of
Pioneer ("PNR") (collectively, the mergers are referred to herein as the "Merger"). Subsequent to the Merger, the Hugoton Royalty Properties were operated by PNR until December 31, 2014, at
which point Linn Energy Holdings, LLC ("Linn") took over as operator.
San Juan BasinColorado Properties.
On April 30, 1991, MLP sold to Conoco, Inc. ("ConocoPhillips") its interests in the
San
Juan Basin Royalty Properties (the "San Juan Basin Sale"). The Trust's interest in the San Juan Basin Royalty Properties was conveyed from PNR's working interest in 31,328 net producing acres in
northwestern New Mexico and southwestern Colorado.
4
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note 1Trust Organization and Provisions (Continued)
ConocoPhillips
sold the portion of its interests in the San Juan BasinColorado Properties to MarkWest Energy Partners, Ltd. (effective January 1, 1993) and Red Willow
Production Company ("Red Willow") (effective April 1, 1992). On October 26, 1994, MarkWest Energy Partners, Ltd. sold substantially all of its interest in the San Juan
BasinColorado Properties to BP Amoco Company ("BP"), a subsidiary of BP p.l.c. BP and Red Willow currently operate the San Juan BasinColorado Properties.
San Juan BasinNew Mexico Properties.
Starting from the date of the San Juan Basin Sale and ending on July 31, 2017,
ConocoPhillips operated substantially all of the San Juan BasinNew Mexico Properties, except an immaterial number of properties assigned to XTO Energy, Inc. ("XTO") effective
January 1, 2005. On July 31, 2017, ConocoPhillips sold its San Juan Basin assets to Hilcorp San Juan LP ("Hilcorp"), an affiliate of Hilcorp Energy Company.
As
used in this report, Linn refers to the current operator of the Hugoton Royalty Properties, Hilcorp refers to the current operator of the San Juan BasinNew Mexico
Properties, and BP and Red Willow refers to the current co-operators of certain tracts of land included in the San Juan BasinColorado Properties, unless otherwise indicated.
Trustee and Terms of Trust Indenture.
Effective October 2, 2006, The Bank of New York Mellon Trust Company, N.A. (the "Trustee")
succeeded JP
Morgan Chase Bank, N.A. as Trustee of the Trust. JPMorgan Chase Bank, N.A. is the successor by mergers to the originally named Trustee, Texas Commerce Bank National Association. The Trust is a passive
entity whose purposes are limited to: (1) converting the Royalties to cash, either by retaining them and collecting the proceeds of production (until production has ceased or the Royalties are
otherwise terminated) or by selling or otherwise disposing of the Royalties; and (2) distributing such cash, net of amounts for payments of liabilities to the Trust, to the unitholders. The
Trust has no sources of liquidity or capital resources other than the revenues, if any, attributable to the Royalties and interest on cash held by the Trustee as a reserve for liabilities or for
distribution. The terms of the Trust Indenture provide, among other things, that:
(a) the
Trust cannot engage in any business or investment activity or purchase any assets;
(b) the
Royalty can be sold in part or in total for cash upon approval by the unitholders;
(c) the
Trustee can establish cash reserves and borrow funds to pay liabilities of the Trust and can pledge assets of the Trust to secure payment of the borrowings;
(d) the
Trustee will make cash distributions to the unitholders in January, April, July and October each year as discussed more fully in Note 2;
(e) the
Trust will terminate upon the first to occur of the following events: (i) at such time as the Trust's royalty income for two successive years is less than
$250,000 per year or (ii) a vote by the unitholders in favor of termination. Upon termination of the Trust, the Trustee will sell for
5
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note 1Trust Organization and Provisions (Continued)
cash
all the assets held in the Trust estate and make a final distribution to unitholders of any funds remaining after all Trust liabilities have been satisfied; and
(f) Linn,
Hilcorp, and BP (each, a "Working Interest Owner", and collectively, the "Working Interest Owners") will reimburse the Trust for 59.34%, 27.45% and 1.77%,
respectively, for general and administrative expenses of the Trust.
Trustee's Fees.
Pursuant to the Trust Indenture, the Trust pays the Trustee fees for its services each quarter and the Working Interest
Owners
partially reimburse the Trust for the fees paid in connection with the Trustee's services. The net amount of these reimbursements are included in the general and administrative expenses of the Trust.
For the quarter ended September 30, 2017, the Trustee was due $118,750 for its services. The Trust paid $108,288 of this amount to the Trustee, and $10,462 was
allocated to offset against interest due to the Trust under the Trust Indenture. The Trustee was due $356,250 for its services for the nine months ended September 30, 2017. The Trust paid
$324,865 of this amount to the Trustee, and $31,385 was allocated to offset against interest due to the Trust under the Trust Indenture. The Trust Indenture requires that cash being held by the
Trustee earn interest at 1.5% below the prime rate, which would have yielded the Trust a 2.25% annualized return from January 1, 2017 through March 15, 2017, a 2.50% annualized return
from March 16, 2017 through June 14, 2017 and a 2.75% annualized return from June 15, 2017 through September 30, 2017. However, due to the current interest rate
environment, the Trustee was unable to obtain an account in which such an interest rate was available. In the event such an interest rate is unavailable in the future, the Trustee intends to allocate
certain of its fees due to the Trust to meet the minimum interest rate payable under the Trust Indenture.
The
Working Interest Owners partially reimburse the Trust each quarter for amounts paid in connection with the Trustee's services. For the quarter ended September 30, 2017, the
Trustee's fees were $108,288 and the Working Interest Owners reimbursed a sum of $95,897 to the Trustee, which was the same amount reimbursed for the quarter ended September 30, 2016. For the
nine months ended September 30, 2017, the Trustee's fees were $324,865 and the Working Interest Owners reimbursed a sum of $287,691 to the Trustee, which was the same amount reimbursed for the
nine months ended September 30, 2016.
Linn Energy Reorganization.
On May 11, 2016, Linn Energy, LLC ("Old Linn"), LinnCo, LLC ("LinnCo"), an affiliate of Old
Linn,
and certain of Old Linn's direct and indirect subsidiaries (collectively with Old Linn and LinnCo, the "Debtors"), filed voluntary petitions for reorganization under Chapter 11 of the United
States Bankruptcy Code in the United States Bankruptcy Court for the Southern District of Texas (the "Court"). The Debtors' Chapter 11 cases were administered jointly under the caption
In re Linn Energy, LLC, et
al.
, Case No. 16-60040.
On
January 27, 2017, the Court entered the
Order Confirming (I) Amended Joint Chapter 11 Plan of Reorganization of Linn Energy, LLC
and its Debtor Affiliates Other Than Linn Acquisition Company, LLC
6
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note 1Trust Organization and Provisions (Continued)
and Berry Petroleum Company, LLC and (II) Amended Joint Chapter 11 Plan of Reorganization of Linn Acquisition Company, LLC and Berry Petroleum
Company, LLC
, which approved and confirmed the Amended Joint Chapter 11 Plan of Reorganization of Linn Energy, LLC and Its Debtor Affiliates Other
Than Linn Acquisition Company, LLC and Berry Petroleum Company, LLC (the "Plan"). The Plan became effective on February 28, 2017 (the "Effective Date").
Pursuant
to the Plan, on the Effective Date, all assets of Old Linn (other than equity interests in Linn Acquisition Company, LLC and Berry Petroleum Company, LLC) were
conveyed to Linn Energy, Inc. (or a subsidiary thereof), and LinnCo, LLC and Linn Energy, LLC were wound down and liquidated. Subsequent to the effectiveness of the Plan, Linn
Energy, Inc. is now the reorganized successor to Old Linn. Under the Plan Supplement, as amended, filed with the Court, the Debtors assumed all executory contracts and unexpired leases with the
Trust and Mesa Operating Limited Partnership as the counterparty. Furthermore, pursuant to the Plan, the royalty interests in the Hugoton Royalty Properties owned by the Trust shall be preserved and
remain in full force and effect in accordance with the terms of the granting instruments or other governing documents.
Note 2Basis of Presentation
The accompanying unaudited financial information has been prepared by the Trustee in accordance with the instructions to Form 10-Q. The preparation of the financial statements
requires estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the financial statements and the reported amounts
of income and expenses during the reporting period. Actual results could differ from those estimates. The Trustee believes such information includes all the disclosures necessary to make the
information presented not misleading. The information furnished reflects all adjustments which are, in the opinion of the Trustee, necessary for a fair presentation of the results for the interim
periods presented. The financial information should be read in conjunction with the financial statements and notes thereto included in the Trust's Annual Report on Form 10-K for the year ended
December 31, 2016. The Trust considers all highly liquid investments with a maturity of three months or less to be cash equivalents. Subsequent events were evaluated through the issuance date
of the financial statements.
In
accordance with the Conveyance, the Working Interest Owners are obligated to calculate and pay the Trust each month an amount equal to 90% of the Net Proceeds (as defined in the
Conveyance) attributable to the month.
The
financial statements of the Trust are prepared on the following basis:
(a) Royalty
income recorded for a month is the amount computed and paid by the Working Interest Owners to the Trustee for such month rather than either the value of a
portion of the oil and gas produced by the Working Interest Owners for such month or the amount subsequently determined to be the Trust's proportionate share of the net proceeds for such month;
7
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note 2Basis of Presentation (Continued)
(b) Interest
income, interest receivable and distributions payable to unitholders include interest to be earned on short-term investments from the financial statement date
through the next date of distribution;
(c) Trust
general and administrative expenses, net of reimbursements, are recorded in the month they are included in the calculation of the monthly distribution amount;
(d) Amortization
of the Royalty is computed on a unit-of-production basis and is charged directly to trust corpus because such amount does not affect distributable income;
and
(e) Distributions
payable are determined on a monthly basis and are payable to unitholders of record as of the last business day of each month or such later date as the
Trustee determines is required to comply with applicable law or stock exchange requirements. However, cash distributions are made quarterly in January, April, July and October, and include interest
earned from the monthly record dates to the date of distribution.
This
basis for reporting distributable income is considered to be the most meaningful because distributions to the unitholders for a month are based on net cash receipts for such month.
However, these statements differ from financial statements prepared in accordance with accounting principles generally accepted in the United States of America because, under such principles, royalty
income for a month would be based on net proceeds from production for such month without regard to when calculated or received, general and administrative expenses would be recorded in the month they
accrue, and interest income for a month would be calculated only through the end of such month.
Note 3Legal Proceedings
There are no pending legal proceedings to which the Trust is a named party. The Trustee has been advised by Linn, Hilcorp, and BP that the Trust may be subject to litigation in the
ordinary course of business for certain matters that include the Royalty Properties. While each of the Working Interest Owners has advised the Trustee that it does not currently believe any of the
pending litigation will have a material adverse effect net to the Trust, in the event such matters were adjudicated or settled in a material amount and charges were made against Royalty income, such
charges could have a material impact on future Royalty income.
Note 4Income Tax Matters
In a technical advice memorandum dated February 26, 1982, the Internal Revenue Service (the "IRS") advised the Dallas District Director that the Trust is classifiable as a grantor
trust and not as an association taxable as a corporation. As a grantor trust, the Trust incurs no federal income tax liability and each unitholder is subject to tax on the unitholder's pro rata share
of the income and expense of the Trust as if the unitholder were the direct owner of a pro rata share of the Trust's assets. In addition, there is no state tax liability for the period.
8
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note 4Income Tax Matters (Continued)
For
taxable years beginning after December 31, 2012, individuals, estates, and trusts with income above certain thresholds are subject under Section 1411 of the Internal
Revenue Code to an additional 3.8% taxalso known as the "Medicare contribution tax"on their net investment income. Grantor trusts such as Mesa Royalty Trust are not subject
to the 3.8% tax; however, the unitholders may be subject to the tax. For these purposes, investment income would generally include certain income derived from investments, such as the royalty income
derived from the units and gain realized by a unitholder from a sale of units.
The
Trustee assumes that some Trust units are held by a middleman, as such term is broadly defined in U.S. Treasury Regulations (and includes custodians, nominees, certain joint owners,
and brokers holding an interest for a custodian in street name). Therefore, the Trustee considers the Trust to be a non-mortgage widely held fixed investment trust ("WHFIT") for U.S. federal income
tax purposes. The
Bank of New York Mellon Trust Company, N.A., 601 Travis Street, Floor 16, Houston, Texas 77002, telephone number 713-483-6020, is the representative of the Trust that will provide tax
information in accordance with applicable U.S. Treasury Regulations governing the information reporting requirements of the Trust as a WHFIT.
Notwithstanding
the foregoing, the middlemen holding units on behalf of unitholders, and not the Trustee of the Trust, are solely responsible for complying with the information reporting
requirements under the Treasury Regulations with respect to such units, including the issuance of IRS Forms 1099 and certain written tax statements. Unitholders whose units are held by
middlemen should consult with such middlemen regarding the information that will be reported to them by the middlemen with respect to the units.
Note 5Excess Production Costs
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As of
September 30,
2017
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As of
December 31,
2016
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San Juan BasinColorado PropertiesBP
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$
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$
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3,860
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San Juan BasinColorado PropertiesRed Willow
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13,000
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12,532
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San Juan BasinNew Mexico PropertiesXTO
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5,941
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3,591
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Total
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$
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18,941
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$
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19,983
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Excess
production costs result when costs, charges, and expenses attributable to a working interest property exceed the revenue received from the sale of oil, gas, and other hydrocarbons
produced from such property. The excess production costs must be recovered by the Working Interest Owners before any distribution of Royalty income from the properties will be made to the Trust.
9
MESA ROYALTY TRUST
NOTES TO FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note 6Distributable Income Per Unit
During 2011, the Trustee, acting pursuant to the Trust Indenture, withheld $1.0 million for future unknown contingent liabilities and expenses (such cumulative withholding being
the "Contingent Reserve"). The Trustee reserves the right to determine whether or not to release cash reserves in future periods with respect to any reimbursement expenses. At any given time, the
Contingent Reserve is included in cash and short term investments.
For
the three months ended September 30, 2017, the Trustee decreased the Contingent Reserve by (1) $47,840 of royalty income received from BP in June 2017 after the
distribution to unitholders had been announced for the month of June 2017, which royalty income was included in the July 2017 distribution to unitholders and (2) the amount of expected expense
reimbursement cash receipts of $1,307.
For
the nine months ended September 30, 2017, the Trustee increased the Contingent Reserve by (1) $82,244 of royalty income received from BP in March 2017 after the
distribution to unitholders had been announced for the month of March 2017, which royalty income was included in the April 2017 distribution to unitholders and (2) $47,840 of royalty income
received from BP in June 2017 after the distribution to unitholders had been announced for the month of June 2017, which royalty income was included in the July 2017 distribution to unitholders. For
the nine months ended September 30, 2017, the Trustee decreased the Contingent Reserve by (1) $82,244 and $47,840 of aggregate royalty income received from BP and (2) the amount
of expected expense reimbursement cash receipts of $1,307. As of September 30, 2017, the value of the Contingent Reserve was $998,693, which is included in cash and short-term investments. On
October 18, 2017, the Trust received $1,307 of the expected expense reimbursement cash receipts, which increased the Contingent Reserve by that same amount but is not included in the figures
below reported as of September 30, 2017. The effect on distributable income per unit of adjustments to the Contingent Reserve is as follows:
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Three Months
Ended
September 30,
|
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Nine Months
Ended
September 30,
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2017
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2016
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2017
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2016
|
|
Distributable Income Before Reserve for Contingent Liabilities and Expenses
|
|
$
|
593,957
|
|
$
|
416,102
|
|
$
|
2,135,299
|
|
$
|
717,459
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|
Increase in the Contingent Reserve
|
|
|
|
|
|
(108,471
|
)
|
|
(130,084
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)
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|
(115,310
|
)
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Withdrawal from the Contingent Reserve
|
|
|
49,147
|
|
|
101
|
|
|
131,391
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|
|
913
|
|
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Distributable income Available for Distribution
|
|
$
|
643,104
|
|
$
|
307,732
|
|
$
|
2,136,606
|
|
$
|
603,062
|
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Distributable income Available for Distribution per unit
|
|
$
|
0.3450
|
|
$
|
0.1651
|
|
$
|
1.1465
|
|
$
|
0.3236
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Units outstanding
|
|
|
1,863,590
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|
|
1,863,590
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1,863,590
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1,863,590
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10