Item 1. Business
ITEM 1.
BUSINESS
The Trust is an express trust created under the laws of the State of Texas by the San Juan Basin Royalty Trust Indenture entered into on
November 1, 1980, between Southland Royalty Company (Southland) and The Fort Worth National Bank. Effective as of September 30, 2002, the original indenture was amended and restated, and, effective as of December 12, 2007,
the restated indenture was amended and restated (such amended and restated indenture, as further amended by the First Amendment to the Amended and Restated Royalty Trust Indenture dated February 15, 2024, the Indenture).
As a result of a series of mergers and other transactions, PNC Bank, National Association (PNC Bank), served as the previous
Trustee of the Trust from October 8, 2021, through February 14, 2024. Effective February 15, 2024, Argent Trust Company, a Tennessee chartered trust company (Argent), became the Trustee of the Trust. The principal office
of the Trust is 3838 Oak Lawn Avenue, Suite 1720, Dallas, Texas 75219 (telephone number (866) 809-4553). Argent Trust Company, as successor trustee of the Trust, is subject to the terms and conditions of the
Indenture. The defined term Trustee as used herein shall refer to PNC Bank (which maintains its offices at 2200 Post Oak Blvd., Floor 18, Houston, TX 77056) for periods from October 8, 2021, until February 14, 2024, and shall
refer to Argent Trust Company (which maintains its offices at 3838 Oak Lawn Ave, Suite 1720, Dallas, Texas 75219) for periods on and after February 15, 2024.
Prior to October 8, 2021, other entities served as Trustee of the Trust. See Item 8. Financial Statements and Supplementary Data,
Note 5. For any time period prior to October 8, 2021, use of the defined term Trustee herein shall refer to the entity serving as Trustee during the applicable time period.
The Conveyance and the Royalty
Pursuant
to the Net Overriding Royalty Conveyance (the Conveyance) effective November 1, 1980, Southland conveyed to the Trust a 75% net overriding royalty interest (the Royalty) that burdens certain of Southlands oil and
natural gas interests (the Subject Interests) in properties located in the San Juan Basin of northwestern New Mexico (the San Juan Basin). Subsequent to the Conveyance of the Royalty, through a series of sales, assignments
and mergers, Hilcorp became Southlands successor. Hilcorp acquired the Subject Interests from Burlington Resources Oil & Gas Company LP (Burlington), an indirect wholly-owned subsidiary of ConocoPhillips, on July 31,
2017. The Royalty functions generally as a net profits interest. Under the terms of the Conveyance, the Trust receives royalty income (Royalty Income) equal to 75% of Net Proceeds attributable to the Subject Interests. The term Net
Proceeds, as used in the Conveyance, means the excess of Gross Proceeds received by Hilcorp during a particular period over production costs for such period. Gross Proceeds means the amount received by Hilcorp (or any subsequent
owner of the Subject Interests) from the sale of the production attributable to the Subject Interests, subject to certain adjustments (e.g., fuel, gathering, and transportation). Production costs generally means costs incurred on an
accrual basis by Hilcorp in operating the Subject Interests, including both capital and non-capital costs. For example, these costs include development drilling, production and processing costs, applicable
taxes and operating charges. However, Hilcorp informed the Trust that, for wells operated by Hilcorp, it generally did not intend to accrue lease operating expenses to the Trust. If production costs exceed Gross Proceeds in any month, the excess is
recovered out of future Gross Proceeds prior to the making of further payment to the Trust. The Trust is not otherwise liable for any production costs or other costs or liabilities attributable to the Subject Interests or the minerals produced
therefrom. If at any time the Trust receives more than the amount due under the Royalty, it is not obligated to return such overpayment, but the amounts payable to it for any subsequent period are reduced by such amount, plus interest, at a rate
specified in the Conveyance.
The Royalty constitutes the principal asset of the Trust. The Trusts beneficial interest in the
Royalty is divided into 46,608,796 units (the Units) representing undivided fractional interests in the beneficial interest of the Trust equal to the number of shares of the common stock of Southland outstanding as of the close of
business
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on November 3, 1980. Each stockholder of Southland of record at the close of business on November 3, 1980, received one freely tradable Unit for each share of the common stock of
Southland then held. Holders of Units are referred to herein as Unit Holders.
As of December 31, 2023, 98.4% of the
Trusts estimated proved reserves consisted of natural gas reserves, and 97.5% of the Gross Proceeds from the Subject Interests in 2023 were attributable to the production and sale of natural gas by Hilcorp as well as other proceeds.
Accordingly, the market price for natural gas produced and sold from the San Juan Basin heavily influences the amount of Trust income available for distribution to the Unit Holders by the Trust and, by extension, the price of the Units. The market
price paid for natural gas is seasonal because there is greater demand for natural gas used for heating purposes in the winter months and more energy requirements for air conditioning in the summer months than during the rest of the year.
The Trustee
The primary function of the
Trustee is to collect the Royalty Income, to pay all expenses and charges of the Trust and to distribute the remaining available income to the Unit Holders. The Trust received approximately $53.2 million and $79.0 million in Royalty Income
from Hilcorp in each of the fiscal years ended December 31, 2023 and 2022, respectively. After deducting administrative expenses and accounting for interest income and any change in cash reserves, the Trust distributed approximately
$51.6 million and $77.6 million to Unit Holders in each of the fiscal years ended December 31, 2023 and 2022, respectively. The Trusts corpus was approximately $2.8 million and $3.0 million as of December 31, 2023
and 2022, respectively.
Proceeds from production in the first month are generally received by Hilcorp in the second month, the Royalty
Income is paid by Hilcorp to the Trustee in the third month, and distribution by the Trustee to the Unit Holders is made in the fourth month. Unit Holders of record as of the last business day of each month (the monthly record date) will
be entitled to receive the calculated monthly distribution amount for such month on or before ten business days after the monthly record date. The amount of each monthly distribution will generally be determined and announced ten days before the
monthly record date. The aggregate monthly distribution amount is the excess of (i) the Royalty Income paid to the Trustee, plus any decrease in cash reserves previously established for liabilities and contingencies of the Trust, over
(ii) the expenses and payments of liabilities of the Trust, plus any net increase in cash reserves.
The Trustee may, in its sole
discretion, establish a cash reserve for payment of Trust liabilities that are contingent or uncertain or otherwise not currently due and payable. As of December 31, 2023, the Trustee had established cash reserves of $1.0 million. The
Trustee anticipates increasing the established amount of cash reserves to $2.0 million in 2024, in response to the substantial increase in capital expenditures projected by Hilcorp for 2024 and the potential that such increase materially
reduces or eliminates distributions to the Trust for a period of time.
Cash being held by the Trustee as cash reserves or pending
distribution may be placed, per the Trustees discretion, in obligations issued by (or unconditionally guaranteed by) the United States or any agency thereof, repurchase agreements secured by obligations issued by the United States or any
agency thereof, certificates of deposit of banks having capital, surplus and undivided profits in excess of $50.0 million or money market funds that have been rated at least AAm by Standard & Poors and at least Aa by
Moodys, subject, in each case, to certain other qualifying conditions. Currently, such funds are placed in interest-bearing money market accounts.
The other powers and duties of the Trustee are set forth in the Indenture and include the prosecution and defense of claims by and against the
Trust, the engagement of consultants and professionals and the payment of Trust liabilities. If the Trustee determines that the Trust does not have sufficient funds to pay its liabilities, the Trustee may borrow funds on behalf of the Trust, in
which case no distributions will be made to Unit Holders until such borrowings are repaid in full. The Trustee may not sell or dispose of any part of the assets of the Trust without the affirmative vote from the Unit Holders of 75% of all of the
Units outstanding; however, the Trustee
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may sell up to 1% of the value of the Royalty (as determined pursuant to the Indenture) during any 12-month period without the consent of the Unit Holders
if it determines such a sale is in the best interest of the Unit Holders. The Trust does not operate the Subject Interests and is not empowered to carry on any business activity. The Trust has no employees, officers, or directors. All administrative
functions of the Trust are performed by the Trustee.
Under the Indenture, the Trustee may act in its discretion in carrying out its
powers and performing its duties and is liable only for fraud or for acts and omissions in bad faith. The Trustee is not liable for any act or omission of its agents or employees unless the Trustee acted in bad faith in its selection and retention
of such agents or employees. The Indenture provides that the Trustee and its officers, agents and employees must be indemnified and receive reimbursement of expenses from the assets of the Trust for liabilities and claims incurred in the
administration of the Trust, except for liabilities and claims arising from the Trustees fraud or bad faith.
Because the Trust has
no employees, directors, or executive officers, it does not have a business need to focus on its human capital resources.
Successor Trustee
A Special Meeting of the Unit Holders was held on December 1, 2023 (the December Special Meeting), where Unit Holders were
asked (1) to approve the appointment of Argent Trust Company as successor trustee of the Trust, (2) to approve an amendment to the Indenture to permit a bank or trust company with capital, surplus and undivided profits (as of the end of
its last fiscal year prior to its appointment) of at least $15,000,000 to serve as successor trustee of the Trust, (3) to approve an amendment to the Indenture that would clarify the word Trustee to include former trustees of the
Trust for indemnification purposes, and (4) to approve an adjournment of the special meeting, if necessary or appropriate to permit solicitation of additional proxies in favor of the above proposals (collectively, the Proposals). The
Trust issued a press release on December 1, 2023, announcing the December Special Meeting was adjourned to permit the solicitation of additional proxies in favor of proposals (1) through (4) above, as described in the Trusts
definitive proxy statement filed by the Trust with the Securities and Exchange Commission on October 2, 2023 (the Proxy Statement).
The Trust again held a special meeting of its Unit Holders on January 16, 2024 (the January Special Meeting) where the Unit
Holders of the Trust voted to approve the proposals set forth in the Trusts Proxy Statement, including the appointment of Argent Trust Company as successor trustee of the Trust, following the effective date of PNC Banks resignation.
Following approval by the Trusts Unit Holders at the January Special Meeting, the Trust entered into the First Amendment to the Amended and Restated Royalty Trust Indenture of San Juan Basin Royalty Trust to clarify the word
Trustee as used in the Indenture, would include former trustees of the Trust for indemnification purposes and to permit a bank or trust company with capital, surplus and undivided profits of at least $15,000,000 to serve as successor
trustee of the Trust. The effective date of PNC Banks resignation as Trustee and the effective date of Argent Trust Companys appointment as successor Trustee was February 15, 2024.
Duration of the Trust
The Trust is not
subject to any pre-set termination provisions based on a maximum volume of natural gas or oil to be produced or the passage of time. The Trust will terminate if (a) its gross revenue for each of two
successive years is less than $1.0 million per year or, if earlier, (b) the Unit Holders of at least 75% of all the Units outstanding vote in favor of termination. Upon termination of the Trust, the Trustee must sell the Royalty and
distribute the proceeds to Unit Holders after satisfying or establishing reserves to satisfy the liabilities of the Trust.
Hilcorp
The sale of San Juan Basin assets from Burlington to Hilcorp closed on July 31, 2017. Hilcorp is the operator of the majority of the
Subject Interests, and as a result, Hilcorps actions could have a material impact
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on the results of operations and Hilcorp could have interests that conflict with the interests of the Trust and the Unit Holders. The Subject Interests that are not operated by Hilcorp are
operated by other operators, some of which may be affiliated with Hilcorp. As an operator, Hilcorp has the obligation under the Conveyance to conduct its operations in accordance with reasonable and prudent business judgment and good oil and natural
gas field practices. The development of the Subject Interests is conducted pursuant to operating and similar agreements to which the Trust is not a party and under which the Trust has no control or other rights to determine the location, timing and
other key aspects of development and maintenance that may materially impact results of operations. Neither the Trustee nor the Unit Holders can influence or control the operation or future development of the Subject Interests.
Hilcorps interests may conflict with those of the Trust and the Unit Holders in situations involving the development, maintenance,
operation, or abandonment of the Subject Interests. Hilcorp has the right to abandon any well when, in its opinion, such well ceases to produce or is not capable of producing oil and natural gas in paying quantities, even though such well is still
generating revenue for the Unit Holders. Hilcorp reserves the right to not participate in operations on the Subject Interests when it has a right to do so under the applicable operating or similar agreement. Hilcorp may make decisions with respect
to expenditures and decisions to allocate resources to projects in other areas that adversely affect the Subject Interests, including reducing expenditures on these properties, which could cause oil and natural gas production to decline at a faster
rate and thereby result in lower cash distributions by the Trust in the future. In addition, Hilcorp is not obligated to the Trust to maintain any particular types or amounts of insurance, and insurance may not be commercially available at adequate
levels to cover its operational hazards at all times during the life of the Trust. If a well is damaged, Hilcorp would have no obligation to drill a replacement well or otherwise compensate the Trust for the loss. The Trust does not have insurance
or indemnification to protect against losses or delays in receiving proceeds from such events.
Hilcorp is responsible, subject to the
terms of an agreement with the Trust, for marketing the production from such properties, either under existing sales contracts or under future arrangements, at the best prices and on the best terms it shall deem reasonably obtainable in the
circumstances. Additionally, Hilcorp is obligated under the Conveyance to maintain books and records sufficient to determine the amounts payable to the Trustee.
Additional Information
The principal
office of the Trust is located at 3838 Oak Lawn Avenue, Suite 1720, Dallas, TX 75219 (toll-free telephone numbers 866-809-4553 and 855-588-7839). The Trust makes available (free of charge) its annual, quarterly, and current reports (and any amendments thereto) filed with the SEC through its website at www.sjbrt.com as soon as
reasonably practicable after electronically filing or furnishing such material with or to the SEC. The Trusts materials filed with the SEC are available at the SECs internet site, www.sec.gov . This site contains reports and, as
applicable, proxy and information statements, and other information regarding the Trust and other issuers that file electronically with the SEC.
The Trust is a widely held fixed investment trust (WHFIT) classified as a non-mortgage
widely held fixed investment trust (NMWHFIT) for federal income tax purposes. The Trustee, 3838 Oak Lawn Avenue, Suite 1720, Dallas, TX 75219 (toll-free telephone number
866-809-4553 and 855-588-7839, email address: royaltytrustgroup@argenttrust.com), is the
representative of the Trust that will provide tax information in accordance with the applicable U.S. Treasury Regulations governing the information reporting requirements of the Trust as a WHFIT and a NMWHFIT. The tax information is generally posted
by the Trustee on the Trusts website: www.sjbrt.com .