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Item 7. Management’s Discussion and Analysis

2024-02-22 compared with 2023-02-23 · 53 added, 63 removed, 136 unchanged (46% of the section changed)

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The following discussion summarizes our results of operations and liquidity and capital resources for the fiscal years ended December 31, 2023 and 2022 and should be read in conjunction with our Consolidated Financial Statements and the accompanying notes included elsewhere in this Annual Report.

A discussion of results of operations and liquidity and capital resources for fiscal year 2020 has been omitted from this report but may be found at “Item 7 –

Management’s Discussion and Analysis of Financial Condition and Results of Operations”

of our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on February 24, 2022, and is incorporated by reference in this report from such prior Annual Report on Form 10-K.

A discussion of results of operations and liquidity and capital resources for fiscal year 2021 has been omitted from this report but may be found at “Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2022, filed with the SEC on February 23, 2023, and is incorporated by reference in this report from such prior Annual Report on Form 10-K.

We intend for this discussion to provide the reader with information that will assist in understanding our financial statements, the changes in certain key items in those financial statements from period to period, and the primary factors that accounted for those changes.

2023 Overview

Our results during 2022, to a large extent, benefitted from industrywide increases in realized oil and natural gas sales prices.

Increases in Royalty Properties and NPI sales volumes were largely a result of continued drilling activity in the Permian Basin.

Our results during 2023 were mainly affected by industrywide decreases in realized oil and natural gas sales prices versus 2022, partially offset by increases in Royalty Properties and NPI sales volumes from continued drilling activity in the Permian Basin and Bakken region and incremental production from 2022 and 2023 acquisitions.

Significant results include the following:

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Distributions of $131.6 million to our limited partners;

Acquisition of mineral, royalty and overriding royalty interests representing approximately 2,100 net royalty acres located in 12 counties across Texas and New Mexico in exchange for 816,719 common units representing limited partnership interests in the Partnership valued at $20.4 million and issued pursuant to the Partnership's registration statement on Form S-4;

Acquisition of mineral and royalty interests representing approximately 3,600 net royalty acres located in 13 counties across Colorado, Louisiana, Ohio, Oklahoma, Pennsylvania, West Virginia and Wyoming in exchange for 570,000 common units representing limited partnership interests in the Partnership valued at $14.8 million and issued pursuant to the Partnership's registration statement on Form S-4;

First payments on 1,808 gross and ten net new wells completed on our Royalty Properties and 112 gross and two net new wells completed on our NPI Properties.

The wells were located in 63 counties and parishes in 12 states with the majority of the activity concentrated in the Permian Basin, Rockies, and South Texas.

Acquisition of mineral and royalty interests representing approximately 716 net royalty acres located in three counties in Texas in exchange for 494,000 common units representing limited partnership interests in the Partnership valued at $14.4 million and issued pursuant to the Partnership's registration statement on Form S-4;

Acquisition of mineral and royalty interests representing approximately 568 net royalty acres located in three counties across Texas in exchange for 374,000 common units representing limited partnership interests in the Partnership valued at $10.4 million and issued pursuant to the Partnership's registration statement on Form S-4;

Acquisition of mineral and royalty interests representing approximately 900 net royalty acres located in 13 counties and parishes across Louisiana, New Mexico, and Texas in exchange for 343,750 common units representing limited partnership interests in the Partnership valued at $11.0 million and issued pursuant to the Partnership's registration statement on Form S-4;

First payments on 1,052 gross and six net new wells on our Royalty Properties, of which 612 gross and two net wells were attributable to our 2022 and 2023 acquisitions, and 126 gross and four net new wells on our NPI Properties.

The wells were located in 65 counties and parishes in 11 states with the majority of the activity concentrated in the Bakken region, Permian Basin, and South Texas.

Included in these totals are wells in which we own both a royalty interest and a net profits interest.

Wells with such overlapping interests are counted in both categories;

Total lease bonus of $8.7 million includes consummation of 31 leases and pooling elections of our mineral interest in undeveloped properties located in 17 counties in four states.

Of the total, $7.3 million was attributable to a record lease bonus executed in Reagan County, Texas.

Total lease bonus of $12.7 million includes consummation of leases or extension of existing leases of our mineral interest in undeveloped properties located in 11 counties in three states.

Of the total, $11.8 million was attributable to a lease on 243 net acres in two tracts of land in Reagan County, Texas for $30,000 per acre and a 25% royalty and an amendment to an existing lease on two separate tracts of land also totaling 243 net acres in Reagan County, Texas for $18,750 per acre.

Critical Accounting Estimates

The Partnership’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United State (“U.S.

GAAP”), which requires us to make certain estimates and apply judgments that affect our financial position and results of operations as reflected in our financial statements.

The Partnership’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United State (“U.S.

GAAP”), which requires us to make certain estimates and apply judgments that affect our financial position and results of operations as reflected in our financial statements.

Actual results may differ from those estimates.

The Partnership’s accounting policies are summarized in Note 1 of the Notes to Consolidated Financial Statements in “Item 8 –

Financial Statements and Supplementary Data”.

The Partnership’s accounting policies are summarized in Note 2 of the Notes to Consolidated Financial Statements in “Item 8 – Financial Statements and Supplementary Data”.

Management continually reviews our accounting policies, how they are applied, and how they are reported and disclosed in our financial statements.

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As a result, the present value is not necessarily an indication of the fair value of the reserves.

Oil and natural gas prices have historically been volatile, and the prevailing prices at any given time may not reflect our Partnership’s or the industry’s forecast of future prices.

Revenue Recognition

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As a royalty owner, we have no operational control over the volumes and method of sale of oil and natural gas produced and sold from the Royalty Properties and NPI.

Revenues from Royalty Properties and NPI are recorded under the cash receipts approach as directly received from the remitters’

statement accompanying the revenue check.

Since the revenue checks are generally received two to four months after the production month, the Partnership accrues for revenue earned but not received by estimating production volumes and product prices.

Estimates of uncollected revenues and unpaid expenses from Royalty Properties (which are interests in oil and natural gas leases that give the Partnership the right to receive a portion of the production from the leased acreage, without bearing the costs of such production) and net profits overriding royalty interests (referred to as the Net Profits Interest, or “NPI”) operated by nonaffiliated entities are particularly subjective due to our inability to gain accurate and timely information.

Revenues from Royalty Properties and NPI are recorded under the cash receipts approach as directly received from the remitters’ statement accompanying the revenue check.

Since the revenue checks are generally received two to three months after the production month, the Partnership accrues for revenue earned but not received by estimating production volumes and product prices.

Identified differences between our accrued revenue estimates and actual revenue received historically have not been significant.

The Partnership does not record revenue for unsatisfied or partially unsatisfied performance obligations.

The Partnership’s right to revenues from Royalty Properties and NPI occurs at the time of production, at which point, payment is unconditional, and no remaining performance obligation exists for the Partnership.

Accordingly, the Partnership’s revenue contracts for Royalty Properties and NPI do not generate contract assets or liabilities.

Results of Operations

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Comparison of the years ended December 31, 2023 and 2022

The increase in oil sales volumes attributable to our Royalty Properties during 2022 is primarily a result of higher suspense releases on new wells in the Permian Basin and South Texas, higher suspense releases on new wells and increased production from acquired wells in the Rockies, and increased production in the Bakken region.

The increase in natural gas sales volumes attributable to our Royalty Properties during 2022 is primarily a result of higher suspense releases on new wells in the Permian Basin, South Texas, and the Southeast and higher suspense releases on new wells and increased production from acquired wells in the Rockies, partially offset by natural production declines in the Barnett Shale.

The increase in oil sales volumes attributable to our NPI properties during 2022 is primarily a result of increased production and higher suspense releases on new wells in the Permian Basis and higher suspense releases on new wells in the Bakken region, partially offset by natural production declines in the Bakken region.

The increase in natural gas sales volumes attributable to our NPI properties during 2022 is primarily a result of the increased production and higher suspense releases on new wells in the Permian Basin, partially offset by natural production declines in the Bakken region and decreased Fayetteville Shale production due to higher prior period adjustments.

The increase in lease bonus revenue from 2021 to 2022 is primarily attributable to receipt of approximately $7.3 million from a lease executed on September 30, 2022, wherein the Partnership leased 243 net acres in two tracts of land in Reagan County, Texas for $30,000 per acre and a 25% royalty.

Production taxes and operating expenses increased 70% from 2021 to 2022.

The increase is primarily a result of higher proportionate production taxes due to higher oil and natural gas sales volumes and sales prices and higher ad valorem taxes.

The increase in oil sales volumes attributable to our Royalty Properties during 2023 versus 2022 is primarily a result of higher suspense releases on new wells in the Permian Basin, and Bakken region and higher suspense releases on new wells and increased production from acquired wells in South Texas, partially offset by decreased production in the Permian Basin, Bakken region, and the Rockies.

The increase in natural gas sales volumes attributable to our Royalty Properties during 2023 compared to 2022 is primarily a result of higher suspense releases on new wells in the Permian Basin, East Texas, and Mid-Continent and higher suspense releases on new wells and increased production from acquired wells in South Texas, partially offset by decreased production in the Permian Basin, Mid-Continent, and Southeast, lower suspense releases on new wells in the Rockies, and natural production declines in the Barnett Shale and Fayetteville Shale.

The increase in oil and natural gas sales volumes attributable to our NPI properties during 2023 is primarily a result of increased production and higher suspense releases on new wells in the Permian Basin and Bakken region.

The increase in lease bonus revenue from 2022 to 2023 is primarily attributable to receipt of approximately $11.8 million from a lease and lease amendment transaction executed on November 6, 2023, wherein the Partnership leased 243 net acres in two tracts of land in Reagan County, Texas for $30,000 per acre and a 25% royalty and amended an existing lease on two separate tracts of land also totaling 243 net acres in Reagan County, Texas for $18,750 per acre.

This is compared to receipt of approximately $7.3 million from a lease executed on September 30, 2022, wherein the Partnership leased 243 net acres in two tracts of land in Reagan County, Texas for $30,000 per acre and a 25% royalty.

Production taxes and operating expenses decreased a combined 5% from 2022 to 2023.

The decrease is primarily a result of lower proportionate production taxes due to lower oil and natural gas sales revenue attributable to our Royalty Properties resulting from lower realized oil and natural gas sales prices, partially offset by higher oil and natural gas volumes.

Depreciation, depletion and amortization increased 38% from 2022 to 2023.

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General and administrative expenses increased 36% from 2022 to 2023.

The increase is primarily attributable to higher compensation expenses due to market adjustments and forgiveness of the Operating Partnership’s $0.9 million and $0.8 million Paycheck Protection Program loans in the second and third quarters of 2021, respectively, which were applied as non-recurring credits of compensation costs previously reimbursed between the Partnership and the Operating Partnership partially offset by lower 2022 information technology project costs.

Net cash provided by operating activities increased 109% from 2021 to 2022.

The increase is primarily a result of higher Royalties revenue receipts, net of production taxes and operating expenses, higher NPI payment receipts, and higher lease bonus receipts, partially offset by higher general and administrative expenses and ad valorem taxes paid.

The increase is primarily attributable to higher compensation expenses due to market adjustments and an expanded Operating Partnership equity program designed for employee retention, increased professional services fees, and one-time, non-recurring professional services expenses of $1.2 million related to an unsuccessful acquisition in the first nine months of 2023.

Net cash provided by operating activities decreased 5% from 2022 to 2023.

The decrease is primarily due to lower revenue receipts attributable to our Royalty Properties, net of production and operating expenses, and higher general and administrative expenses, partially offset by higher NPI payment receipts and higher lease bonus receipts.

Acquisitions for Units

On September 30, 2022, pursuant to a non-taxable contribution and exchange agreement with Excess, the Partnership acquired mineral, royalty and overriding royalty interests totaling approximately 2,100 net royalty acres located in 12 counties across Texas and New Mexico in exchange for 816,719 common units representing limited partnership interests in the Partnership valued at $20.4 million and issued pursuant to the Partnership's registration statement on Form S-4.

On September 29, 2023, pursuant to a non-taxable contribution and exchange agreement with an unrelated third party, the Partnership acquired mineral and royalty interests totaling approximately 716 net royalty acres located in three counties in Texas in exchange for 494,000 common units representing limited partnership interests in the Partnership valued at $14.4 million and issued pursuant to the Partnership’s registration statement on Form S-4.

We believe that the acquisition is considered complementary to our business.

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Accordingly, the cost of the acquisition was allocated on a relative fair value basis and transaction costs were capitalized as a component of the cost of the assets acquired.

Contributed cash delivered at closing, net of capitalized transaction costs paid, of $0.9 million are included in net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2022.

On March 31, 2022, pursuant to a non-taxable contribution and exchange agreement with multiple unrelated third parties, the Partnership acquired mineral and royalty interests representing approximately 3,600 net royalty acres located in 13 counties across Colorado, Louisiana, Ohio, Oklahoma, Pennsylvania, West Virginia and Wyoming in exchange for 570,000 common units representing limited partnership interests in the Partnership valued at $14.8 million and issued pursuant to the Partnership’s registration statement on Form S-4.

Contributed cash delivered at closing and final settlement net cash received, net of capitalized transaction costs paid, of $0.9 million is included in net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2023.

On August 31, 2023, pursuant to a non-taxable contribution and exchange agreement with multiple unrelated third parties, the Partnership acquired mineral and royalty interests totaling approximately 568 net royalty acres located in three counties in Texas in exchange for 374,000 common units representing limited partnership interests in the Partnership valued at $10.4 million and issued pursuant to the Partnership’s registration statement on Form S-4.

We believe that the acquisition is considered complementary to our business.

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Accordingly, the cost of the acquisition was allocated on a relative fair value basis and transaction costs were capitalized as a component of the cost of the assets acquired.

Contributed cash delivered at closing and final settlement net cash received, net of capitalized transaction costs paid, of $0.8 million are included in net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2022.

On December 31, 2021, pursuant to a non-taxable contribution and exchange agreement with Gemini, the Partnership acquired mineral and royalty interests representing approximately 4,600 net royalty acres located in 27 counties across New Mexico, Oklahoma, Texas and Wyoming in exchange for 1,580,000 common units representing limited partnership interests in the Partnership valued at $31.3 million and issued pursuant to the Partnership's registration statement on Form S-4.

Contributed cash delivered at closing and final settlement net cash received, net of capitalized transaction costs paid, of $0.3 million is included in net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2023.

On July 12, 2023, pursuant to a non-taxable contribution and exchange agreement with multiple unrelated third parties, the Partnership acquired mineral and royalty interests totaling approximately 900 net royalty acres located in 13 counties and parishes across Louisiana, New Mexico, and Texas in exchange for 343,750 common units representing limited partnership interests in the Partnership valued at $11.0 million and issued pursuant to the Partnership’s registration statement on Form S-4.

We believe that the acquisition is considered complementary to our business.

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Accordingly, the cost of the acquisition was allocated on a relative fair value basis and transaction costs were capitalized as a component of the cost of the assets acquired.

Contributed cash delivered at closing and final settlement net cash received, net of capitalized transaction costs paid, of $0.5 million is included in net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2023.

We believe that the acquisition is considered complementary to our business.

The transaction was accounted for as an acquisition of assets under U.S.

Accordingly, the cost of the acquisition was allocated on a relative fair value basis and transaction costs were capitalized as a component of the cost of the assets acquired.

Contributed cash delivered at closing, net of capitalized transaction costs paid, of $0.9 million is included in net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2022.

Final settlement net cash received, net of capitalized transaction costs, of $0.4 million is included in the net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2022.

On June 30, 2021, pursuant to a non-taxable contribution and exchange agreement with JSFM, the Partnership acquired overriding royalty interests in the Bakken Trend totaling approximately 6,400 net royalty acres located in Dunn, McKenzie, McLean and Mountrail Counties, North Dakota in exchange for 725,000 common units representing limited partnership interests in the Partnership valued at $12.2 million and issued pursuant to the Partnership’s registration statement on Form S-4.

Final settlement net cash received, net of capitalized transaction costs paid, of $0.5 million is included in the net cash contributed in acquisitions on the consolidated statement of cash flows for the year ended December 31, 2023.

We believe that the acquisition is considered complementary to our business.

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The Texas margin tax applies to corporations and limited liability companies, general and limited partnerships (unless otherwise exempt), limited liability partnerships, trusts (unless otherwise exempt), business trusts, business associations, professional associations, joint stock companies, holding companies, joint ventures and certain other business entities having limited liability protection.

We believe our Partnership meets the requirements for being considered a “passive entity”

for Texas margin tax purposes and, therefore, it is exempt from the Texas margin tax.

Limited partnerships that receive at least 90% of their gross income from designated passive sources, including royalties from mineral properties and other non-operated mineral interest income, and do not receive more than 10% of their income from operating an active trade or business, are generally exempt from the Texas margin tax as “passive entities.” We believe our Partnership meets the requirements for being considered a “passive entity” for Texas margin tax purposes and, therefore, it is exempt from the Texas margin tax.

If the Partnership is exempt from Texas margin tax as a passive entity, each unitholder that is considered a taxable entity under the Texas margin tax would generally be required to include its portion of Partnership revenues in its own Texas margin tax computation.

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Contractual Obligations

The Partnership leases its office space at 3838 Oak Lawn Avenue, Suite 300, Dallas, Texas, through an operating lease (the “Office Lease”).

The third amendment to our Office Lease was executed in April 2017 for a term of 129 months, beginning June 1, 2018 and expiring in 2029.

Under the third amendment to the Office Lease, monthly rental payments range from $25,000 to $30,000.

Future maturities of Office Lease liabilities representing monthly cash rental payment obligations are summarized in Note 7 of the Notes to Consolidated Financial Statements in “Item 8 –

Financial Statements and Supplementary Data”.

Future maturities of Office Lease liabilities representing monthly cash rental payment obligations are summarized in Note 7 of the Notes to Consolidated Financial Statements in “Item 8 – Financial Statements and Supplementary Data”.

We are not directly liable for the payment of any exploration, development or production costs.

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We have not guaranteed the debt of any other party, nor do we have any other arrangements or relationships with other entities that could potentially result in unconsolidated debt.

Pursuant to the terms of the partnership agreement, we cannot incur indebtedness, other than trade payables, (i) in excess of $50,000 in the aggregate at any given time or (ii) which would constitute “acquisition indebtedness”

(as defined in Section 514 of the Internal Revenue Code of 1986, as amended).

We currently expect to have sufficient liquidity to fund our distributions to unitholders and operations despite potential material uncertainties that may impact us as a result of the spread of COVID-19 and any ongoing variants and increased oil and natural gas market volatility caused by the Russian invasion of Ukraine and the recent rise in inflation and interest rates.

To the extent necessary to avoid unrelated business taxable income, our partnership agreement prohibits us from incurring indebtedness, excluding trade payables, in excess of $50,000 in the aggregate at any given time or which would constitute “acquisition indebtedness” (as defined in Section 514 of the Internal Revenue Code of 1986, as amended).

We currently expect to have sufficient liquidity to fund our distributions to unitholders and operations despite potential material uncertainties that may impact us as a result of the spread of COVID-19 and any ongoing variants and increased oil and natural gas market volatility caused by the Russian invasion of Ukraine, the conflict between Israel and Hamas and the recent rise in inflation and interest rates.

Although demand and market prices for oil and natural gas have remained strong due to the rising energy use and worldwide shortage of oil due to sanctions implemented on Russia, we cannot predict events that may lead to future price volatility.

Our ability to fund future distributions to unitholders may be affected by the prevailing economic conditions in the oil and natural gas market and other financial and business factors, including the evolution of COVID-19 and any ongoing variants, along with the military conflict between Russia and Ukraine which are beyond our control.

If market conditions were to change due to declines in oil prices or uncertainty created by COVID-19 or any ongoing variants and our revenues were reduced significantly or our operating costs were to increase significantly, our cash flows and liquidity could be reduced.

Despite recent improvements, the current economic environment is volatile, and therefore, we cannot predict the ultimate impact that COVID-19 or the ongoing military conflict between Russia and Ukraine will have on our liquidity or cash flows.

Despite recent improvements, the current economic environment is volatile, and therefore, we cannot predict the ultimate impact that COVID-19, the ongoing military conflict between Russia and Ukraine or the ongoing conflict between Israel and Hamas will have on our liquidity or cash flows.

Liquidity and Working Capital

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February 9, 2023

August 1, 2022

July 31, 2023

August 10, 2023

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February 8, 2024

In general, the limited partners are allocated 96% of the Royalty Properties’

net receipts and 99% of NPI net receipts.

In general, the limited partners are allocated 96% of the Royalty Properties’ net receipts and 99% of NPI net receipts.

Net Profits Interests

We receive monthly payments from the Operating Partnership equal to 96.97% of the net proceeds actually realized by the Operating Partnership from the properties underlying the Net Profits Interest (or “NPI”).

The Operating Partnership retains the 3.03% balance of these net proceeds.

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Due to these fixed percentages, our General Partner does not have any incentive distribution rights or other right or arrangement that will increase its percentage share of net cash generated by our activities or those of the Operating Partnership.

During the period October 2021 through September 2022, our Partnership's quarterly distribution payments to limited partners were based on all of its available cash.

Available cash is defined as all cash and cash equivalents on hand at the end of that quarter (other than cash proceeds received by the Partnership from public or private offering of securities of the Partnership), less any amount of cash reserves that our General Partner determines is necessary or appropriate to provide for the conduct of its business or to comply with applicable laws or agreements or obligations to which we may be subject.

Our practice is to accrue funds quarterly for amounts incurred throughout the year but invoiced and paid annually or semi-annually (e.g.

ad valorem taxes and professional services).

These amounts generally are not held for periods over one year.

During the period October 2022 through September 2023, our Partnership's quarterly distribution payments to limited partners were based on all of its available cash, as defined in "Item 1 – Business".

Fourth Quarter 2023 Distribution Indicated Price

In an effort to provide information concerning prices of oil and natural gas sales that correspond to our quarterly distributions, management calculates the average price by dividing gross revenues received by the net volumes of the corresponding product without regard to the timing of the production to which such sales may be attributable.

This “indicated price”

does not necessarily reflect the contractual terms for such sales and may be affected by transportation costs, location differentials, and quality and gravity adjustments.

While the relationship between the Partnership's cash receipts and the timing of the production of oil and natural gas may be described generally, actual cash receipts may be materially impacted by purchasers’

release of suspended funds and by prior period adjustments.

This “indicated price” does not necessarily reflect the contractual terms for such sales and may be affected by transportation costs, location differentials, and quality and gravity adjustments.

Cash receipts attributable to the Partnership's Royalty Properties during the 2023 fourth quarter totaled $28.3 million.

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Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis