Kimbell Royalty Partners, LP 8-K/A, filed Mar 2, 2023
Kimbell Royalty Partners, LP (KRP)
About this 8-K/A
Kimbell Royalty Partners, LP filed this 8-K/A on March 2, 2023, reporting on events of December 15, 2022.
Items reported
- Item 9.01: Financial statements and exhibits
UNITED STATES
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Washington, D.C. 20549
FORM
(Amendment No. 1)
CURRENT REPORT
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| Introductory Note |
As reported in a Current Report on Form 8-K filed with the U.S. Securities and Exchange Commission by Kimbell Royalty Partners, LP, a Delaware limited partnership (“Kimbell”), on December 15, 2022 (the “Original Form 8-K”), on December 15, 2022, Kimbell and Kimbell Royalty Operating, LLC, a Delaware limited liability company (together with Kimbell, the “Buyer Parties”), completed the previously announced acquisition (the “Acquisition”) of mineral and royalty interests pursuant to a purchase and sale agreement, dated November 3, 2022, by and among the Buyer Parties and Hatch Royalty LLC, a Delaware limited liability company (“Hatch”).
This amendment is filed to provide the historical financial statements of Hatch Resources LLC, the consolidating parent company of Hatch, and the pro forma financial information of Kimbell giving effect to the Acquisition, as required by Item 9.01 of Form 8-K. Except as set forth below, the Original Form 8-K is unchanged.
| Item 9.01. | Financial Statements and Exhibits. |
(a) Financial Statements of Business Acquired.
The audited historical financial statements of Hatch Resources LLC, as of and for the year ended December 31, 2021, and the unaudited interim financial statements of Hatch Resources LLC, as of and for the nine months ended September 30, 2022, together with the related notes to such financial statements, are filed as Exhibits 99.1 and 99.2 hereto, respectively, and incorporated by reference herein.
(b) Pro Forma Financial Information.
The following unaudited pro forma financial information of Kimbell giving effect to the Acquisition is filed as Exhibit 99.3 hereto and incorporated by reference herein:
| · | unaudited pro forma condensed combined statement of operations for the nine months ended September 30, 2022; and | |
| · | unaudited pro forma condensed combined statement of operations for the year ended December 31, 2021. |
(d) Exhibits.
| Number | Description | |
| 23.1 | Consent of Weaver and Tidwell, L.L.P., independent auditor to Hatch Resources LLC | |
| 99.1 | Audited historical financial statements of Hatch Resources LLC, as of and for the year ended December 31, 2021 | |
| 99.2 | Unaudited interim financial statements of Hatch Resources LLC, as of and for the nine months ended September 30, 2022 | |
| 99.3 | Unaudited pro forma condensed combined financial statements of Kimbell Royalty Partners, LP | |
| 104 | Cover Page Interactive Data File (the cover page XBRL tags are embedded within the Inline XBRL document). |
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
| KIMBELL ROYALTY PARTNERS, LP | ||
| By: | Kimbell Royalty GP, LLC, | |
| its general partner | ||
| By: | /s/ Matthew S. Daly | |
| Matthew S. Daly | ||
| Chief Operating Officer | ||
Date: March 2, 2023
Exhibit 23.1
Consent of Independent Public Accounting Firm
We hereby consent to the incorporation by reference in Kimbell Royalty Partners LP’s Registration Statements on Form S-3 (No. 333-269264, No. 333-238330, No. 333-236341, No. 333-229417 and No. 333-226425) and on Form S-8 (No. 333-265288, No. 333-228678 and No. 333-217986), of our report dated April 29, 2022, relating to consolidated balance sheets as of December 31, 2021 and 2020, and the related consolidated statements of operations, changes in members’ equity, and cash flows for the years then ended, and the related notes to consolidated financial statements, of Hatch Resources LLC, that appear in, and/or are incorporated by reference in, the Current Report on Form 8-K of Kimbell Royalty Partners, LP.
Weaver and Tidwell, L.L.P.
Austin, Texas
March 2, 2023
Exhibit 99.1
Hatch Resources LLC and Subsidiaries
Consolidated Financial Statements
December 31, 2021
C O N T E N T S
Page
| Independent Auditor’s Report | 1 |
| Consolidated Financial Statements | |
| Consolidated Balance Sheets | 4 |
| Consolidated Statements of Operations | 5 |
| Consolidated Statements of Changes in Members’ Equity | 6 |
| Consolidated Statements of Cash Flows | 7 |
| Notes to Consolidated Financial Statements | 8 |
| Supplementary Information | |
| Consolidating Balance Sheet | 21 |
| Consolidating Statement of Operations | 22 |
| Consolidating Statement of Cash Flows | 23 |
| Notes to Supplementary Information | 24 |
Independent Auditor’s Report
To the Members
Hatch Resources LLC
Report on the Audit of the Consolidated Financial Statements
Opinion
We have audited the consolidated financial statements of Hatch Resources, LLC (the Company), which comprise the consolidated balance sheets as of December 31, 2021 and 2020 and the related consolidated statements of operations, changes in members’ equity, and cash flows for the years then ended, and the related notes to the consolidated financial statements.
In our opinion, the accompanying consolidated financial statements present fairly, in all material respects, the financial position of Hatch Resources, LLC as of December 31, 2021 and 2020, and the results of its operations and their cash flows for the years then ended in accordance with accounting principles generally accepted in the United States of America.
Basis for Opinion
We conducted our audits in accordance with auditing standards generally accepted in the United States of America (GAAS). Our responsibilities under those standards are further described in the Auditor’s Responsibilities for the Audit of the Financial Statements section of our report. We are required to be independent of the Company, and to meet our other ethical responsibilities, in accordance with the relevant ethical requirements relating to our audits. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Responsibilities of Management for the Financial Statements
Management is responsible for the preparation and fair presentation of the consolidated financial statements in accordance with accounting principles generally accepted in the United States of America, and for the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.
In preparing the consolidated financial statements, management is required to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the Company’s ability to continue as a going concern for one year after the date that the consolidated financial statements are issued (or when applicable, one year after the date that the consolidated financial statements are available to be issued).
Auditor’s Responsibilities for the Audit of the Financial Statements
Our objectives are to obtain reasonable assurance about whether the consolidated financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditor’s report that includes our opinion. Reasonable assurance is a high level of assurance but is not absolute assurance and therefore is not a guarantee that an audit conducted in accordance with GAAS will always detect a material misstatement when it exists. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control. Misstatements are considered material if there is a substantial likelihood that, individually or in the aggregate, they would influence the judgment made by a reasonable user based on the consolidated financial statements.
The Members
Hatch Resources LLC
In performing an audit in accordance with GAAS, we:
| • | Exercise professional judgment and maintain professional skepticism throughout the audit. |
| • | Identify and assess the risks of material misstatement of the consolidated financial statements, whether due to fraud or error, and design and perform audit procedures responsive to those risks. Such procedures include examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. |
| • | Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control. Accordingly, no such opinion is expressed. |
| • | Evaluate the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluate the overall presentation of the consolidated financial statements. |
| • | Conclude whether, in our judgment, there are conditions or events, considered in the aggregate, that raise substantial doubt about the Company’s ability to continue as a going concern for a reasonable period of time. |
We are required to communicate with those charged with governance regarding, among other matters, the planned scope and timing of the audit, significant audit findings, and certain internal control–related matters that we identified during the audit.
Supplementary Information
Our audit was conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The supplementary consolidating information is presented for purposes of additional analysis and is not a required part of the consolidated financial statements. Such information is the responsibility of management and was derived from and relates directly to the underlying accounting and other records used to prepare the consolidated financial statements. The information has been subjected to the auditing procedures applied in the audit of the consolidated financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the consolidated financial statements or to the consolidated financial statements themselves, and other additional procedures in accordance with auditing standards generally accepted in the United States of America. In our opinion, the information is fairly stated in all material respects in relation to the consolidated financial statements as a whole.
WEAVER & TIDWELL, L.L.P.
Austin, Texas
April 29, 2022
2
Consolidated Financial Statements
3
Hatch Resources LLC and Subsidiaries
Consolidated Balance Sheets
| As of | As of | |||||||
| December 31, 2021 | December 31, 2020 | |||||||
| ASSETS | ||||||||
| CURRENT ASSETS: | ||||||||
| Cash and cash equivalents | $ | 742,494 | $ | 1,183,722 | ||||
| Prepaid expenses | 193,088 | 7,880 | ||||||
| Accounts receivable | 2,936,935 | 982,640 | ||||||
| Accounts receivable from Affiliates | 313,069 | - | ||||||
| Commodity derivative assets | - | 12,743 | ||||||
| Total current assets | 4,185,586 | 2,186,985 | ||||||
| PROPERTY, PLANT AND EQUIPMENT: | ||||||||
| Oil and gas properties | 138,914,040 | 100,377,997 | ||||||
| Less: accumulated depletion | (6,440,160 | ) | (3,641,640 | ) | ||||
| Net oil and gas properties | 132,473,880 | 96,736,357 | ||||||
| Other property and equipment | 303,675 | 303,675 | ||||||
| Less: accumulated depreciation | (213,809 | ) | (75,040 | ) | ||||
| Net property and equipment | 89,866 | 228,635 | ||||||
| NON-CURRENT ASSETS: | ||||||||
| Deposit - LT | 16,246 | 16,246 | ||||||
| Total non-current assets | 16,246 | 16,246 | ||||||
| TOTAL ASSETS | $ | 136,765,578 | $ | 99,168,223 | ||||
| LIABILITIES AND MEMBERS' EQUITY | ||||||||
| CURRENT LIABILITIES: | ||||||||
| Accounts payable | $ | 2,885 | $ | 95,991 | ||||
| Revenue payable | - | 21,840 | ||||||
| Accrued liabilities | 209,156 | 549,738 | ||||||
| Price risk mgmt act - current | 671,502 | - | ||||||
| Total current liabilities | 883,543 | 667,569 | ||||||
| NON-CURRENT LIABILITIES | ||||||||
| Revolving credit facility, net | 65,328,400 | 43,320,395 | ||||||
| Deferred rent liabilities | 12,712 | - | ||||||
| Total non-current liabilities | 65,341,112 | 43,320,395 | ||||||
| Total liabilities | 66,224,655 | 43,987,964 | ||||||
| MEMBERS' EQUITY | ||||||||
| Hatch Resources LLC equity | 70,147,133 | 54,904,358 | ||||||
| Noncontrolling interest | 393,790 | 275,901 | ||||||
| Total members' equity | 70,540,923 | 55,180,259 | ||||||
| TOTAL LIABILITIES AND EQUITY | $ | 136,765,578 | $ | 99,168,223 | ||||
The Notes to the Consolidated Financial Statements are an integral part of these statements.
4
Hatch Resources LLC and Subsidiaries
Consolidated Statements of Operations
| Year ended | Year ended | |||||||
| December 31, 2021 | December 31, 2020 | |||||||
| REVENUES: | ||||||||
| Oil revenues | $ | 11,617,520 | $ | 5,365,440 | ||||
| Gas revenues | 2,262,548 | 328,036 | ||||||
| Liquid revenues | 1,648,799 | 536,422 | ||||||
| Other operating revenues | 383,883 | 147,891 | ||||||
| Gain (loss) on commodity derivative instruments | (920,058 | ) | 311,011 | |||||
| Total revenues | 14,992,692 | 6,688,800 | ||||||
| EXPENSES: | ||||||||
| Production and ad valorem taxes | 1,323,795 | 440,546 | ||||||
| General and administrative | 3,855,225 | 4,080,713 | ||||||
| Depreciation, depletion and amortization | 2,937,289 | 2,777,752 | ||||||
| Total expenses | 8,116,309 | 7,299,011 | ||||||
| INCOME FROM OPERATIONS | 6,876,383 | (610,211 | ) | |||||
| OTHER INCOME (EXPENSE) | ||||||||
| Unrealized gain (loss) on commodity derivative instruments | (684,245 | ) | 12,743 | |||||
| Other income | - | 3,539 | ||||||
| Interest expense | (2,031,470 | ) | (1,541,614 | ) | ||||
| Total other expense | (2,715,715 | ) | (1,525,332 | ) | ||||
| NET INCOME (LOSS) | 4,160,668 | (2,135,543 | ) | |||||
| NET INCOME (LOSS) ATTRIBUTABLE TO NONCONTROLLING INTEREST | 31,932 | (10,678 | ) | |||||
| NET INCOME (LOSS) ATTRIBUTABLE TO HATCH RESOURCES LLC | $ | 4,128,736 | $ | (2,124,865 | ) | |||
The Notes to the Consolidated Financial Statements are an integral part of these statements.
5
Hatch Resources LLC and Subsidiaries
Consolidated Statements of Changes in Members’ Equity
| Members' | Retained | Noncontrolling | ||||||||||||||
| Equity | Deficit | Interest | Total Equity | |||||||||||||
| Balance at December 31, 2019 | $ | 35,375,887 | $ | (4,163,278 | ) | $ | 156,847 | $ | 31,369,456 | |||||||
| Members' contributions | 25,816,614 | - | 129,732 | 25,946,346 | ||||||||||||
| Net loss | - | (2,124,865 | ) | (10,678 | ) | (2,135,543 | ) | |||||||||
| Balance at December 31, 2020 | 61,192,501 | (6,288,143 | ) | 275,901 | 55,180,259 | |||||||||||
| Members' contributions | 11,114,039 | - | 85,957 | 11,199,996 | ||||||||||||
| Net income | - | 4,128,736 | 31,932 | 4,160,668 | ||||||||||||
| Balance at December 31, 2021 | $ | 72,306,540 | $ | (2,159,407 | ) | $ | 393,790 | $ | 70,540,923 | |||||||
The Notes to the Consolidated Financial Statements are an integral part of these statements.
6
Hatch Resources LLC and Subsidiaries
Consolidated Statements of Cash Flows
| Year ended | Year ended | |||||||
| December 31, 2021 | December 31, 2020 | |||||||
| CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||
| Net income (loss) | $ | 4,160,668 | $ | (2,135,543 | ) | |||
| Adjustments to reconcile net income loss to net cash provided by operating activities: | ||||||||
| Depreciation, depletion and amortization | 2,937,289 | 2,777,752 | ||||||
| Amortization of deferred financing costs | 83,005 | 51,317 | ||||||
| Price risk mgmt activities | 684,245 | (12,743 | ) | |||||
| Changes in operating assets and liabilities: | ||||||||
| Accounts receivable | (1,954,295 | ) | (177,332 | ) | ||||
| Accounts receivable from Affiliates | (313,069 | ) | - | |||||
| Prepayments | (185,208 | ) | 21,576 | |||||
| Deposit | - | 778,976 | ||||||
| Accounts payable | (93,106 | ) | (87,708 | ) | ||||
| Revenue payable | (21,840 | ) | (84,235 | ) | ||||
| Accrued liabilities | (327,870 | ) | 233,668 | |||||
| Net cash provided by operating activities | 4,969,819 | 1,365,728 | ||||||
| CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||
| Proceeds from sales of oil and gas properties | - | 465,600 | ||||||
| Additions to oil and gas properties | (38,536,043 | ) | (27,858,198 | ) | ||||
| Additions to other property and equipment | - | (113,796 | ) | |||||
| Net cash used in investing activities | (38,536,043 | ) | (27,506,394 | ) | ||||
| CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||
| Proceeds from credit facility | 31,000,000 | 23,500,000 | ||||||
| Payments on credit facility | (8,850,000 | ) | (23,000,000 | ) | ||||
| Financing costs on credit facility | (225,000 | ) | - | |||||
| Members' contribution | 11,114,039 | 25,816,614 | ||||||
| Contributions from noncontrolling interest | 85,957 | 129,732 | ||||||
| Net cash provided by financing activities | 33,124,996 | 26,446,346 | ||||||
| Net increase in cash | (441,228 | ) | 305,680 | |||||
| Cash and cash equivalents at beginning of period | 1,183,722 | 878,042 | ||||||
| Cash and cash equivalents at end of period | $ | 742,494 | $ | 1,183,722 | ||||
| Supplemental cash flow information: | ||||||||
| Cash paid during the year for interest | $ | 1,948,465 | $ | 1,490,299 | ||||
The Notes to the Consolidated Financial Statements are an integral part of these statements.
7
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Note 1. Description of Business
Hatch Resources LLC (Hatch Resources, or the Company) is a Delaware limited liability company formed on August 31, 2018 to engage in the acquisition of mineral, royalty, and overriding royalty interests in the Permian Basin. To date, the interests accumulated are located entirely in the Delaware Basin in Texas and New Mexico.
The Company’s LLC agreement was amended and restated on January 18, 2019 in connection with the Company’s funding. Prior to this time, the Company had no assets or liabilities and the date of the amended and restated LLC agreement was the first date of activity. As a result of the amended LLC agreement, Hatch Resources owns 99.5% of Hatch Operations LLC (HoldCo), which is a holding company. HoldCo owns: 99% of Hatch Royalty LLC (Royalty) which owns and holds royalty interests, 100% of Hatch Operating Subsidiary LLC (OpCo) which owns and holds working interests, and 100% of Hatch Sidecar LLC (Sidecar). Sidecar owns the remaining 1% of Royalty. The Company’s LLC agreement was further amended and restated on December 31, 2020 and as a result, Hatch Resources owns 99.2% of HoldCo.
Principles of Consolidation
The consolidated financial statements of Hatch Resources presented herein include the accounts of the aforementioned entities. All intercompany transactions and balances have been eliminated. The 0.8% noncontrolling interest in HoldCo is presented as noncontrolling interest, a separate component of net income and equity in the accompanying consolidated financial statements.
Basis of Presentation
The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP).
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the reported amounts of revenues and expenses during the reporting period. The Company evaluates estimates and assumptions on an ongoing basis using historical experience and other factors. While management believes that the estimates and assumptions used in preparation of the consolidated financial statements are appropriate, because there are numerous uncertainties inherent in the estimation process, actual results could differ materially from those estimates. Significant estimates made in preparing these consolidated financial statements include the estimate of uncollected revenues and unpaid expenses from mineral, royalty, and overriding royalty interests in properties operated by nonaffiliated entities, the estimates of proved oil and natural gas reserves and related present value estimates of future net cash flows from those properties, and equity-based compensation.
Estimated proved oil and natural gas reserve quantities and associated discounted and undiscounted cash flows are significant components of depletion and proved property impairment calculations and require many subjective judgments. Estimates of reserves are forecasts based on engineering analyses and historical production information. Different reserve engineers could reach different conclusions as to estimated quantities of oil and natural gas reserves based on the same information.
The passage of time provides more qualitative and quantitative information regarding reserve estimates, and revisions are made to prior estimates based on updated information. However, there can be no assurance that more revisions will not be necessary in the future. Significant downward revisions could result in changes in depletion rates and proved property impairments representing non-cash charges to income.
8
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Limitation of Members’ Liability
Under the terms of the limited liability company agreement, as amended, the members are not obligated for debt, obligations, or other liabilities of the Company. However, one Class A member does have certain obligations under the Credit Agreement (See Note 7). Profits and losses are allocated to members based on their ownership interests and a preferred payout schedule.
Cash and Cash Equivalents
Hatch Resources considers all highly liquid investments with an original maturity of three months or less to be cash equivalents.
Accounts Receivable
The Company’s accounts receivables are primarily from mineral, royalty, and overriding royalty interests and recorded at the amount due, less an allowance for doubtful accounts when applicable. In estimating the allowance, management considers, among other things, how recently and how frequently payments have been received and the financial position of the party. As of December 31, 2021 and 2020, no allowance for doubtful accounts is deemed necessary based upon a review of current receivables and the lack of historical write offs. There was no bad debt expense recorded for years ended December 31, 2021 and 2020, respectively.
Accounts Receivable due from Affiliate
The Company’s accounts receivable due from affiliate account as of December 31, 2021 relates to certain general and administrative expenses funded by the Company during the current year. The receivable was repaid by the affiliate in February 2022.
Oil and Natural Gas Properties
The Company invests primarily in mineral, royalty, and overriding royalty interests of oil and natural gas properties. Oil and natural gas producing activities are accounted for in accordance with the successful efforts method of accounting. Under this method, costs of acquiring properties are capitalized. All general and administrative costs unrelated to acquisitions are expensed as incurred. See Note 2 for further detail.
Other Property and Equipment
Other property and equipment includes office furniture and equipment and computer hardware and equipment and is stated at historical cost. Depreciation and amortization are calculated using the straight-line method over expected useful lives of five years. Depreciation and amortization expense totaled approximately $139 thousand and $49 thousand for the years ended December 31, 2021 and December 31, 2020, respectively.
Deposit – Non-Current Asset
The Company’s deposit account as of December 31, 2021 relates to the security deposit made in connection with the office lease executed in November 2020. The security deposit is classified as non-current as the Company does not expect to realize the security deposit until the end of the lease in March 2023. See Note 8 for further detail.
9
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Accrued Liabilities
Accrued liabilities consist primarily of ad valorem taxes.
Derivative Financial Instruments
The Company’s ongoing operations expose it to changes in the market price for oil and natural gas. To manage risks related to fluctuations in prices attributable to its projected oil production, the Company enters into oil derivative contracts. Entrance into such contracts is dependent upon prevailing or anticipated market conditions.
Derivative instruments are recognized at fair value. If a right of offset exists under master netting arrangements and certain other criteria are met, derivative assets and liabilities with the same counterparty are netted on the consolidated balance sheet. The Company does not specifically designate derivative instruments as cash flow hedges, even though they reduce its exposure to changes in commodity prices; therefore, gains and losses arising from changes in the fair value of derivatives are recognized on a net basis in the consolidated statement of operations within hedging income (loss).
Revenue Recognition
The Company follows Accounting Standards Codification Topic 606, Revenue from Contracts with Customers, (ASC 606).
Oil, Natural Gas, and Liquids Sales
Oil, natural gas and NGL sales revenues are generally recognized when control of the product is transferred to the customer, the performance obligations under the terms of the contracts with customers are satisfied and collectability is reasonably assured. One hundred percent of the Company’s oil, natural gas and NGL sales are made under contracts with customers (operators). The performance obligations for the Company’s contracts with customers are satisfied at a point in time through the delivery of oil and natural gas to its customers. Accordingly, the Company’s contracts do not give rise to contract assets or liabilities. The Company recognizes revenue based on the Company’s percentage ownership share of revenue, net of any deductions for gathering and transportation. This resulted in $400 thousand and $393 thousand of netted expenses for the years ended December 31, 2021 and 2020, respectively.
The Company typically receives payment for oil, natural gas and NGL sales within 60 days of the month of delivery, which can extend up to 9 months after initial production from the well and 6 months after the purchase of mineral interests in currently producing wells. The Company’s contracts for oil, natural gas and NGL sales are standard industry contracts that include variable consideration based on the monthly index price and adjustments that may include counterparty-specific provisions as defined in the mineral lease agreement. As each unit of product represents a separate performance obligation and the consideration is variable as it relates to oil and natural gas prices, the Company recognizes revenue from oil and natural gas sales using the allocation exception for variable consideration in ASC 606.
Allocation of Transaction Price to Remaining Performance Obligations
Oil, Natural Gas, and Liquids Sales. The Company has utilized the practical expedient in ASC 606 which states the Company is not required to disclose the transaction price allocated to remaining performance obligations if the variable consideration is allocated entirely to a wholly unsatisfied performance obligation. As the Company has determined that each unit of product generally represents a separate performance obligation, future volumes are wholly unsatisfied, and disclosure of the transaction price allocated to remaining performance obligations is not required.
10
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Prior-Period Performance Obligations
Hatch Resources records revenue in the month production is delivered to the purchaser. As a royalty interest owner, Hatch Resources has limited visibility into the timing of when new wells start producing and production statements may not be received for 30 to 90 days or more after the date production is delivered. As a result, the Company is required to estimate the amount of production delivered to the purchaser and the price that will be received for the sale of the product. The expected sales volumes and prices for these properties are estimated and recorded within the Accounts receivable line item in the accompanying consolidated balance sheet. The difference between the Company’s estimates and the actual amounts received for oil and natural gas sales is recorded in the month that payment is received from the third party.
Income Taxes
As a limited liability company, the Company is not subject to federal income taxes as components of its income and expenses flow through directly to the members. Accordingly, no provision for federal income taxes has been reflected in the consolidated financial statements. However, the Company is subject to state income taxes in various states in which it operates.
Tax positions are evaluated in a two-step process. The Company first determines whether it is more likely than not that a tax position will be sustained upon examination. If a tax position meets the more likely than not threshold, it is then measured to determine the amount of expense to record in the consolidated financial statements. The tax expense recorded would equal the largest amount of expense related to the outcome that is 50% or greater likely to occur. The Company classifies any potential accrued interest recognized on an underpayment of income taxes as interest expense and classifies any statutory penalties recognized on a tax position taken as operating expense. Management of the Company has not taken a tax position that, if challenged, would be expected to have a material effect on the financial statements as of December 31, 2021 and 2020.
The Company did not incur any penalties or interest related to its state tax returns for the year ended December 31, 2021 and 2020.
Under the new centralized partnership audit rules effective for tax years beginning after 2017, the Internal Revenue Service (IRS) assesses and collects underpayments of tax from the Company instead of from each member. The Company may be able to pass the adjustments through to its partners by making a push-out election or, if eligible, by electing out of the centralized partnership audit rules.
11
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Equity-Based Compensation
As of December 31, 2021 and December 31, 2020, the Company had certain Class B member units (Class B Units) issued and outstanding related employee grant agreements. As and when approved by the Board of Managers, the Company shall distribute to the holders of the units a distribution. The units vest as defined in each Class B Units respective grant agreement, or immediately upon the sale of the Company. Unvested units are forfeited if the respective employee is terminated for cause. Class B Unit holders do not include voting rights. Compensation expense for such awards will be recognized in the accompanying consolidated statement of operations once distributions are deemed reasonably probable. Refer to Note 6 for additional information.
Concentrations of Credit Risk
The operators of the Company’s oil and gas properties sell production to a small number of purchasers, as is customary in the industry. The risk of non-payment by these purchasers is considered minimal, and the operators do not generally obtain collateral for sales. For the year ended December 31, 2021, one third-party operator accounted for approximately 20% of total revenues. At December 31, 2021, one third-party operator accounted for approximately 11% of accrued revenues. For the year ended December 31, 2020, four third-party operators accounted for approximately 42% of total revenues. At December 31, 2020, one third-party operator accounted for approximately 14% of accrued revenues.
The Company maintains its cash in bank deposit accounts which, at times, may exceed federally insured limits of $250 thousand. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk on cash.
Recently Issued Accounting Standards Not Yet Adopted
In February 2016, the FASB issued ASU 2016-02, Leases, which requires all leasing arrangements to be presented in the balance sheet as liabilities along with a corresponding asset. ASU 2016-02 does not apply to leases of mineral rights to explore for or use crude oil and natural gas. The ASU will replace most existing lease guidance in GAAP when it becomes effective. In January 2018, the FASB issued ASU 2018-01, Land Easement Practical Expedient for Transition to Topic 842, to provide an optional practical expedient to not evaluate existing or expired land easements that were not previously accounted for as leases under Topic 840.
In July 2018, the FASB issued ASU 2018-11 Leases (Topic 842): Targeted Improvements, which provides for another transition method, in addition to the existing transition method, by allowing entities to initially apply the new leases standard at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption (i.e. comparative periods presented in the consolidated financial statements will continue to be in accordance with current GAAP (Topic 840, Leases)). The new standard becomes effective during the fiscal year ending December 31, 2022 and early adoption is permitted. The Company is currently evaluating the impact that the adoption of this update will have on consolidated financial statements and related disclosures.
Note 2. Oil and Gas Properties
The Company uses the successful efforts method of accounting for its investment in mineral, royalty, and overriding royalty interests. Under this method of accounting, proved and unproved property acquisition costs are capitalized as the cost of properties when incurred. To the extent capitalized costs of proved properties, net of accumulated depletion, exceed the undiscounted future cash flows, the carrying value of the property is reduced to estimated fair value and the excess capitalized costs are charged to impairment expense in the period incurred. Proved properties are grouped for impairment purposes by regional aggregations of fields according to a number of factors including location and geological characteristics. No impairment expense associated with proved properties was recognized for the years ended December 31, 2021 and December 31, 2020.
12
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
A portion of the carrying value of the Company’s interests is attributable to unproved properties. The unproved amounts are not subject to depletion until they are classified as proved properties. Capitalized costs attributable to the properties become subject to depletion when proved reserves are assigned to the property and the Company transfers the cost basis from unproved to proved properties accordingly. The Company assesses all properties classified as unproved on an annual basis for impairment. The Company assesses properties on an individual basis or as a group, if properties are individually insignificant. The assessment includes consideration of the following factors, among others: recent drilling activity, remaining lease term, geological, geophysical and engineering evaluations, and market prices for similar assets. Unproved property totaled approximately $34.6 million and $24.9 million at December 31, 2021 and 2020, respectively. No impairment expense associated with unproved properties was recognized for the years ended December 31, 2021 and December 31, 2020.
Note 3. Acquisitions
Hatch Resources has completed numerous acquisitions of mineral and royalty interests from various sellers in Texas and New Mexico. The additions to oil and natural gas property activity are comprised of payments for acquisitions of minerals, land brokerage costs, due diligence costs, and any recording or legal fees associated with the acquisition. The acquisitions were funded with capital contributions from members and borrowings under the revolving credit facility. During the year ended December 31, 2021, the assets acquired for total cash consideration of $38.5 million consisted of approximately $28.8 million of proved properties and $9.7 million of unproved properties. During the year ended December 31, 2020, the assets acquired for total cash consideration of $27.8 million consisted of approximately $19.1 million of proved properties and $8.7 million of unproved properties.
Note 4. Derivatives
The Company’s ongoing operations expose it to changes in the market price for oil and natural gas. To mitigate the inherent commodity price risk associated with its operations, the Company uses oil commodity derivative financial instruments. From time to time, such instruments may include variable-to-fixed-price swaps, costless collars, fixed-price contracts, and other contractual arrangements.
As of December 31, 2021 and 2020, the Company’s commodity derivative contracts consisted of fixed price swaps, under which the Company receives a fixed price for the contract and pays a floating market price to the counterparty over a specified period for a contracted volume. The Company hedges its daily production based on its current proved developed producing wells currently in pay status. As of December 31, 2021 and 2020, these economic hedges constituted approximately 16% and 19% of daily oil and natural gas production, respectively.
The Company’s oil fixed price swap transactions are settled based upon the average daily prices for the calendar month of the contract period. Settlement for oil derivative contracts occurs in the succeeding month.
13
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
The Company has not designated any of its derivative contracts as hedges for accounting purposes. The Company records all derivative contracts at fair value. Changes in the fair values of the Company’s derivative instruments are recognized as gains or losses in the current period and are presented on a net basis in the accompanying consolidated statements of operations and consisted of the following:
| Year Ended December 31, | ||||||||
| 2021 | 2020 | |||||||
| Beginning fair value of commodity derivative instruments | $ | 12,743 | $ | - | ||||
| Loss on commodity derivative instruments | 1,604,304 | 323,754 | ||||||
| Net cash paid on settlements of derivative instruments | 920,058 | (311,011 | ) | |||||
| Ending fair value of commodity derivative instruments | $ | (671,502 | ) | $ | 12,743 | |||
The following table presents the fair value of the Company’s derivative contracts for the periods indicated:
| Classification | Balance Sheet Location | December 31, 2021 | December 31, 2020 | |||||||
| Assets: | ||||||||||
| Current Assets | Derivative Assets | $ | - | $ | 12,743 | |||||
| Liabilities: | ||||||||||
| Current Liabilities | Derivative Liabilities | (671,502 | ) | - | ||||||
| $ | (671,502 | ) | $ | 12,743 | ||||||
At December 31, 2021, the Company’s open commodity derivative contracts consisted of the following:
| Oil Price Swaps | ||||||||||||||||
| Weighted Average | Range (per BBL) | |||||||||||||||
| Notional Volumes (Bbl) | Fixed Price (per Bbl) | Low | High | |||||||||||||
| January 2022 - December 2022 | 49,600 | $ | 60.17 | $ | 56.75 | $ | 67.00 | |||||||||
| Natural Gas Price Swaps | ||||||||||||||||
| Notional Volumes | Weighted Average | Range (per MMbtu) | ||||||||||||||
| (MMbtu) | Fixed Price (per Mmbtu) | Low | High | |||||||||||||
| January 2022 - February 2022 | 58,000 | $ | 5.02 | N/A | N/A | |||||||||||
Note 5. Fair Value
ASC 820, Fair Value Measurements and Disclosures, defines fair value, establishes a framework for measuring fair value, establishes a fair value hierarchy based on the quality of inputs used to measure fair value, and enhances disclosure requirements for fair value measurements. The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. The Company has applied ASC 820 to all financial instruments that are required to be reported at fair value.
Financial instruments are carried at fair value and are classified and disclosed in the following categories:
Level 1–Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. Level 1 consists of financial instruments whose fair values are estimated using quoted market prices.
Level 2–Quoted prices for identical or similar assets or liabilities in markets that are less active, that is, markets in which there are few transactions for the asset or liability that are observable for substantially the full term. Included in Level 2 are those financial instruments for which fair values are estimated using models or other valuation methodologies. These models are primarily industry-standard models that consider various observable inputs, including time value, yield curve, volatility factors, observable current market and contractual prices for the underlying financial instruments, as well as other relevant economic measures.
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Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Level 3–Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported by little or no market activity). Level 3 is comprised of financial instruments whose fair value is estimated based on internally developed models or methodologies utilizing significant inputs that are not readily observable for objective sources.
The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). A market is active if there are sufficient transactions on an ongoing basis to provide current pricing information for the asset or liability, pricing information is released publicly, and price quotations do not vary substantially either over time or among market makers. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the reporting entity.
Assets and liabilities that are measured at fair value are classified based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability. The Company recognizes transfers between fair value hierarchy levels as of the end of the reporting period in which the event or change in circumstances causing the transfer occurred. The Company did not have any transfers between Level 1, Level 2 or Level 3 fair value measurements during the years ended December 31, 2021 and 2020, respectively.
Recurring Fair Value Measurements
The Company’s commodity derivative instruments are classified within Level 2. The fair values of the Company’s oil fixed price swaps are based upon inputs that are either readily available in the public market, such as oil and natural gas futures prices, volatility factors and discount rates, or can be corroborated from active markets.
The following tables summarize the Company’s assets and liabilities measured at fair value on a recurring basis by the fair value hierarchy:
| Fair Value Mesurements Using | Effect of | |||||||||||||||||||
| Level 1 | Level 2 | Level 3 | Counterparty Netting | Total | ||||||||||||||||
| December 31, 2021 | ||||||||||||||||||||
| Assets | ||||||||||||||||||||
| Commodity derivative contracts | $ | - | $ | 71,192 | $ | - | $ | (71,192 | ) | $ | - | |||||||||
| Liabilities | ||||||||||||||||||||
| Commodity derivative contracts | $ | - | $ | (742,694 | ) | $ | - | $ | 71,192 | $ | (671,502 | ) | ||||||||
| December 31, 2020 | ||||||||||||||||||||
| Assets | ||||||||||||||||||||
| Commodity derivative contracts | $ | - | $ | 12,743 | $ | - | $ | - | $ | 12,743 | ||||||||||
Nonrecurring Fair Value Measurements
In connection with the Company’s review of long-lived assets, if there is an indication of impairment and the estimated undiscounted future cash flows do not exceed the carrying value of the long-lived assets, then these assets are written down to fair value. During the year ended December 31, 2021, the Company’s oil and natural gas properties were reviewed for impairment and no interests were found to be impaired. The factors used to determine fair value for purposes of impairment testing include, but are not limited to, estimates of proved reserves, development activity, future commodity prices, timing of future production, production costs, and a discount rate commensurate with the risk reflective of the lives remaining for the respective assets. Because these significant fair value inputs are typically not observable, the Company has categorized the amounts as Level 3 inputs.
15
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
The fair value of each Class B unit granted is estimated on the date of grant using an option-pricing model that incorporates various inputs, some of which are unobservable. Expected volatilities are based on implied volatilities from market-traded equity on what the Company believes to be comparable public companies. The expected term of Class B units granted is estimated based on the Company’s expected exit timeline at the grant date. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of the grant for the expected exit timeline. Certain adjustments are applied to fair value calculations for Class B Units to reflect market illiquidity and non-transferability using a risk adjusted discount rates.
Note 6. Members’ Equity
Members’ Classes
Class A Units
Pursuant to the Hatch Resources LLC agreement as amended, the Class A Members have committed capital of $201.1 million, in accordance with each members’ percentage of membership interest, which is funded directly to HoldCo. The noncontrolling interest has committed capital of $1.0 million and in return, has received a 0.5% noncontrolling interest in HoldCo. In December 2020, the Hatch Resources LLC as amended to distribute and redeem Class A Units in HoldCo to an entity that previously was a member of the noncontrolling interest. As a result, the noncontrolling interest committed capital totaled $1.5 million and noncontrolling interest totaled 0.76%. The Class A units have a par value of $100 per unit and 2,011,000 Class A units are authorized to be issued. As of December 31, 2021, the Class A Members had contributed capital of $72.7 million and 727,000 Class A units were issued and outstanding.
Class B Units
Pursuant to the Hatch Resources’ LLC agreement as amended, the Company is authorized to issue up to 1,000,000 Class B units, a form of equity-based compensation. As of December 31, 2021, there were 950,000 Class B units issued and outstanding. The units are granted to employees and are subject to time-based vesting provisions. The Class B units awarded are subject to restrictions on transferability and customary forfeiture provisions. Class B unit award recipients do not include the right to vote but do include the right to receive distributions thereon, if and when made by the Company, based on the capital distribution methodology described above.
During the year ended December 31, 2021, 300,000 Class B units were issued with a grant date fair value of $4.09 per unit. The Company used an option pricing model incorporating the following assumptions:
| Class B Fair Value Assumptions | Input | |||
| Expected volatility | 45 | % | ||
| Expected term (years) | 4 | |||
| Risk free rate | 0.22 | % | ||
| Discount for lack of marketability | 10 | % | ||
At December 31, 2021, 325,000 Class B units are vested.
At December 31, 2021, unrecognized compensation expense totaling approximately $6.4 million and will be recognized once it is deemed reasonably probable that distributions to Class B unitholders will occur.
16
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Allocation of Profits and Losses
Net income or loss is allocated to the Members pro rata in proportion to the Members’ respective membership interest, provided that the members’ capital accounts are compliant with regulations, as described in the LLC agreement.
Capital Distributions
All amounts to be distributed shall first be distributed to Class A Members in proportion to their respective Class A membership interest percentages. Distributions shall be made as follows:
| Phase | Class A Units | Class B Units | ||||||
| Prior to Payout No. 1 | Class A Percentage | N/A | ||||||
| After Payout No. 1 but prior to Payout No. 2 | 79.92% | 20.08% | ||||||
| After Payout No. 2 but prior to Payout No. 3 | 74.91% | 25.09% | ||||||
| After Payout No. 3 | 69.90% | 30.10% | ||||||
Payout No. 1 occurs when the Class A unitholders receive an 8% per annum return on the aggregate contributions made to date. Payout No. 2 occurs when the Class A unitholders receive a 20% per annum return on the aggregate contributions made to date and distributions to the Class A unitholders exceed two times the aggregate contributions made to date. Payout No. 3 occurs when distributions to the Class A unitholders exceed three times the aggregate contributions made to date.
As of December 31, 2021, no distributions have been made to Class A or Class B Members of the Company.
Note 7. Long-Term Debt
On July 2, 2019, the Company entered into a credit facility (the Credit Agreement) with Texas Capital Bank with an initial nonconforming borrowing base of $25 million and letter of credit commitment of $3.75 million. The borrowing base was increased by an additional $25 million to total a borrowing base of $50 million and letter of credit agreement of $7.5 million on September 11, 2019. In August 2021, the Company’s Credit Agreement was amended to increase the Company’s borrowing base by $25 million to total a borrowing base of $75 million and allows the Company to make voluntary prepayments which reduces the non-conforming borrowing base by an aggregate amount of the prepayments if the payment is designates as such. The amendment also added a one year auto extension to the maturity date subject to the Company’s elections. Borrowings under the Credit Agreement are collateralized by an equity support letter recourse to the Company’s sponsor. Outstanding borrowings on the equity support letter borrowing base accrue interest at an annual rate of the Prime rate plus 37.5 bps with a 3.5% Prime Floor (3.875% effective rate) and a 0.5% LIBOR floor. The interest rate in effect on December 31, 2021 was approximately 3.875%. As of December 31, 2021, the borrowing base was $72.2 million of which $65.7 million was outstanding. The Credit Agreement matures in July 2024. The Company had no letters of credit outstanding under the Credit Agreement on December 31, 2021.
17
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Debt issuance costs are capitalized and amortized over the life of the Credit Agreement. In connection with the amendment to the Credit Agreement executed in August 2021, an additional $225 thousand in debt issuance costs were recorded. Amortization expense related to the debt issuance costs was approximately $83 thousand and $51 thousand for the years ended December 31, 2021 and December 31, 2020, respectively. Amortization expense related to debt issuance costs is included in interest expense on the accompanying consolidated statements of operations. Debt issuance costs, net of accumulated amortization, of $321,600 and $179,605 are recorded in revolving credit facility, net on the consolidated balance sheet. Total interest expense for the years ended December 31, 2021 and December 31, 2020 was approximately $2.0 million and $1.5 million, respectively.
Note 8. Commitments and Contingencies
Operating Leases
The Company entered into an office lease on November 2, 2020. The office lease includes an escalation feature, where rates increase over the term of the lease. The lease included two months of rent abatement for the first two months of the lease term. The amount of rent expensed is based on the contractual amount owed and the security deposit paid by the Company in connection with the agreement is classified as a long-term asset on the accompanying balance sheet. The lease term is twenty-eight months. Future minimum lease payments under non-cancelable leases for office space as of December 31, 2021 are as follows:
| Year | Total | ||||
| 2022 | $ | 120,990 | |||
| 2023 | 20,625 | ||||
| $ | 141,615 | ||||
The Company had an office sublease which was entered into on January 23, 2019 and was terminated in November 2020. No penalties were incurred in connection with the termination of the Company’s office sublease.
Rental expense is recognized on a straight-line basis over the lease term and is included in general and administrative expense on the accompanying consolidated statement of operations. Rental expense for the years ended December 31, 2021 and 2020 totaled approximately $137 thousand and $122 thousand, respectively.
Environmental Matters
The Company’s business includes activities that are subject to U.S. federal, state, and local environmental regulations with regard to air, land, and water quality and other environmental matters. The Company does not consider the potential remediation costs that could result from issues identified in any environmental site assessments to be significant to the consolidated financial statements and no provision for potential remediation costs has been recorded.
Litigation
From time to time, the Company is involved in legal actions and claims arising in the ordinary course of business. There were no existing claims as of December 31, 2021.
18
Hatch Resources LLC and Subsidiaries
Notes to Consolidated Financial Statements
Note 9. Subsequent Events
The Company has evaluated events that occurred subsequent to December 31, 2021 through April 15, 2022, which is the date the consolidated financial statements were available to be issued.
Acquisitions
Subsequent to December 31, 2021, the Company has made acquisitions of interests in oil and gas properties in the normal course of business totaling approximately $2.9 million.
Facility Drawdown
Subsequent to December 31, 2021, the Company completed four drawdowns on its credit facility totaling $3.0 million.
19
Supplementary Information
20
Hatch Resources LLC and Subsidiaries
Consolidating Balance Sheet
As of December 31, 2021
| Consolidated Hatch | ||||||||||||||||
| Hatch Resources LLC | Operations LLC | Eliminating | Consolidated | |||||||||||||
| ("Topco") | ("Holdco") | Entries | Hatch Resources LLC | |||||||||||||
| ASSETS | ||||||||||||||||
| CURRENT ASSETS: | ||||||||||||||||
| Cash and cash equivalents | $ | - | $ | 742,494 | $ | - | $ | 742,494 | ||||||||
| Prepaid expenses | - | 193,088 | - | 193,088 | ||||||||||||
| Accounts receivable | - | 2,936,935 | - | 2,936,935 | ||||||||||||
| Accounts receivable from Affiliates | - | 313,069 | - | 313,069 | ||||||||||||
| Total current assets | - | 4,185,586 | - | 4,185,586 | ||||||||||||
| PROPERTY, PLANT AND EQUIPMENT: | ||||||||||||||||
| Oil and gas properties | - | 138,914,040 | - | 138,914,040 | ||||||||||||
| Less: accumulated depletion | - | (6,440,160 | ) | - | (6,440,160 | ) | ||||||||||
| Net oil and gas properties | - | 132,473,880 | - | 132,473,880 | ||||||||||||
| Other property and equipment | - | 303,675 | - | 303,675 | ||||||||||||
| Less: accumulated depreciation | - | (213,809 | ) | - | (213,809 | ) | ||||||||||
| Net property and equipment | - | 89,866 | - | 89,866 | ||||||||||||
| NON-CURRENT ASSETS: | ||||||||||||||||
| Investment in subsidiaries | 70,147,133 | - | (70,147,133 | ) | - | |||||||||||
| Deposit | - | 16,246 | - | 16,246 | ||||||||||||
| Total non-current assets | 70,147,133 | 16,246 | (70,147,133 | ) | 16,246 | |||||||||||
| TOTAL ASSETS | $ | 70,147,133 | $ | 136,765,578 | $ | (70,147,133 | ) | $ | 136,765,578 | |||||||
| LIABILITIES AND MEMBERS' EQUITY | ||||||||||||||||
| CURRENT LIABILITIES: | ||||||||||||||||
| Accounts payable | $ | - | $ | 2,885 | $ | - | $ | 2,885 | ||||||||
| Accrued liabilities | - | 209,156 | - | 209,156 | ||||||||||||
| Price risk mgmt act - current | - | 671,502 | - | 671,502 | ||||||||||||
| Total current liabilities | - | 883,543 | - | 883,543 | ||||||||||||
| NON-CURRENT LIABILITIES | ||||||||||||||||
| Revolving credit facility, net | - | 65,328,400 | - | 65,328,400 | ||||||||||||
| Deferred rent liabilities | - | 12,712 | - | 12,712 | ||||||||||||
| Total non-current liabilities | - | 65,341,112 | - | 65,341,112 | ||||||||||||
| Total liabilities | - | 66,224,655 | - | 66,224,655 | ||||||||||||
| MEMBERS' EQUITY | ||||||||||||||||
| Hatch Resources LLC equity | 70,147,133 | 70,540,923 | (70,540,923 | ) | 70,147,133 | |||||||||||
| Noncontrolling interest | - | - | 393,790 | 393,790 | ||||||||||||
| Total members' equity | 70,147,133 | 70,540,923 | (70,147,133 | ) | 70,540,923 | |||||||||||
| TOTAL LIABILITIES AND EQUITY | $ | 70,147,133 | $ | 136,765,578 | $ | (70,147,133 | ) | $ | 136,765,578 | |||||||
The Notes to Supplementary Information are an integral part of this statement.
21
Hatch Resources LLC and Subsidiaries
Consolidating Statement of Operations
For the Year Ended December 31, 2021
| Consolidated Hatch | ||||||||||||||||
| Hatch Resources LLC | Operations LLC | Eliminating | Consolidated | |||||||||||||
| ("Topco") | ("Holdco") | Entries | Hatch Resources LLC | |||||||||||||
| REVENUES: | ||||||||||||||||
| Oil revenues | $ | - | $ | 11,617,520 | $ | - | $ | 11,617,520 | ||||||||
| Gas revenues | - | 2,262,548 | - | 2,262,548 | ||||||||||||
| Liquid revenues | - | 1,648,799 | - | 1,648,799 | ||||||||||||
| Other operating revenues | - | 383,883 | - | 383,883 | ||||||||||||
| Gain (loss) on commodity derivative instruments | - | (920,058 | ) | - | (920,058 | ) | ||||||||||
| Total revenues | - | 14,992,692 | - | 14,992,692 | ||||||||||||
| EXPENSES: | ||||||||||||||||
| Production and ad valorem taxes | - | 1,323,795 | - | 1,323,795 | ||||||||||||
| General and administrative | - | 3,855,225 | - | 3,855,225 | ||||||||||||
| Depreciation, depletion and amortization | - | 2,937,289 | - | 2,937,289 | ||||||||||||
| Total expenses | - | 8,116,309 | - | 8,116,309 | ||||||||||||
| INCOME FROM OPERATIONS | - | 6,876,383 | - | 6,876,383 | ||||||||||||
| OTHER INCOME (EXPENSE) | ||||||||||||||||
| Unrealized gain (loss) on commodity derivative instruments | - | (684,245 | ) | - | (684,245 | ) | ||||||||||
| Interest expense | - | (2,031,470 | ) | - | (2,031,470 | ) | ||||||||||
| Total other expense | - | (2,715,715 | ) | - | (2,715,715 | ) | ||||||||||
| NET INCOME (LOSS) | - | 4,160,668 | - | 4,160,668 | ||||||||||||
| NET INCOME (LOSS) ATTRIBUTABLE TO NONCONTROLLING INTEREST | - | - | 31,932 | 31,932 | ||||||||||||
| NET INCOME (LOSS) ATTRIBUTABLE TO HATCH RESOURCES LLC | $ | - | $ | 4,160,668 | $ | (31,932 | ) | $ | 4,128,736 | |||||||
The Notes to Supplementary Information are an integral part of this statement.
22
Hatch Resources LLC and Subsidiaries
Consolidating Statement of Cash flows
For the Year Ended December 31, 2021
| Consolidated Hatch | ||||||||||||||||
| Hatch Resources LLC | Operations LLC | Eliminating | Consolidated | |||||||||||||
| ("Topco") | ("Holdco") | Entries | Hatch Resources LLC | |||||||||||||
| Cash flows from operating activities: | ||||||||||||||||
| Net income (loss) | $ | - | $ | 4,160,668 | $ | - | $ | 4,160,668 | ||||||||
| Adjustments to reconcile net income loss to net cash provided by operating activities: | ||||||||||||||||
| Depreciation, depletion and amortization | - | 2,937,289 | - | 2,937,289 | ||||||||||||
| Amortization of deferred financing costs | - | 83,005 | - | 83,005 | ||||||||||||
| Price risk mgmt activities | - | 684,245 | - | 684,245 | ||||||||||||
| Changes in operating assets and liabilities: | - | - | - | |||||||||||||
| Accounts receivable | - | (1,954,295 | ) | - | (1,954,295 | ) | ||||||||||
| Accounts receivable from Affiliates | - | (313,069 | ) | - | (313,069 | ) | ||||||||||
| Prepayments | - | (185,208 | ) | - | (185,208 | ) | ||||||||||
| Deposit | - | - | - | - | ||||||||||||
| Accounts payable | - | (93,106 | ) | - | (93,106 | ) | ||||||||||
| Revenue payable | - | (21,840 | ) | - | (21,840 | ) | ||||||||||
| Accrued liabilities | - | (327,870 | ) | - | (327,870 | ) | ||||||||||
| Net cash provided by operating activities | - | 4,969,819 | - | 4,969,819 | ||||||||||||
| Cash flows from investing activities: | ||||||||||||||||
| Investments in subsidiaries | (11,200,000 | ) | - | 11,200,000 | - | |||||||||||
| Additions to oil and gas properties | - | (38,536,043 | ) | - | (38,536,043 | ) | ||||||||||
| Additions to other property and equipment | - | - | - | - | ||||||||||||
| Net cash used in investing activities | (11,200,000 | ) | (38,536,043 | ) | 11,200,000 | (38,536,043 | ) | |||||||||
| Cash flows from financing activities: | ||||||||||||||||
| Proceeds from credit facility | - | 31,000,000 | - | 31,000,000 | ||||||||||||
| Payments on credit facility | - | (8,850,000 | ) | - | (8,850,000 | ) | ||||||||||
| Financing costs on credit facility | - | (225,000 | ) | - | (225,000 | ) | ||||||||||
| Members' contribution | 11,200,000 | 11,114,039 | (11,200,000 | ) | 11,114,039 | |||||||||||
| Contributions from noncontrolling interest | - | 85,957 | - | 85,957 | ||||||||||||
| Net cash provided by financing activities | 11,200,000 | 33,124,996 | (11,200,000 | ) | 33,124,996 | |||||||||||
| Net increase in cash | - | (441,228 | ) | - | (441,228 | ) | ||||||||||
| Cash and cash equivalents at beginning of period | - | 1,183,722 | - | 1,183,722 | ||||||||||||
| Cash and cash equivalents at end of period | $ | - | $ | 742,494 | $ | - | $ | 742,494 | ||||||||
| Supplemental cash flow information: | ||||||||||||||||
| Cash paid during the year for interest | $ | - | $ | 1,948,465 | $ | - | $ | 1,948,465 | ||||||||
The Notes to Supplementary Information are an integral part of this statement.
23
Hatch Resources LLC and Subsidiaries
Notes to Supplementary Information
Note 1. Consolidating Financial Statements
The borrower of the Company’s long-term
debt is HoldCo, a subsidiary of the Company. At
December 31, 2021, certain of the Company’s subsidiaries are subsidiary guarantors per the Credit Agreement. The preceding
consolidating financial information presents the results of operations, financial position, and cash flows for:
| • | Hatch Resources LLC (TopCo); |
| • | Hatch Operations LLC (HoldCo) and subsidiaries (Consolidated Hatch Operations LLC); |
| • | and the consolidating adjustments necessary to present the Company’s results on a consolidated basis. |
24
Exhibit 99.2
Hatch Resources LLC and Subsidiaries
Consolidated Financial Statements
September 30, 2022
C O N T E N T S
Page
| Unaudited Consolidated Financial Statements | |||
| Unaudited Consolidated Balance Sheet | 1 | ||
| Unaudited Consolidated Statement of Operations | 2 | ||
| Unaudited Consolidated Statement of Changes in Members’ Equity | 3 | ||
| Unaudited Consolidated Statement of Cash Flows | 4 | ||
| Notes to Unaudited Consolidated Financial Statements | 5 | ||
Hatch Resources LLC and Subsidiaries
Unaudited Consolidated Balance Sheet
September 30, 2022
| ASSETS | ||||
| CURRENT ASSETS: | ||||
| Cash and cash equivalents | $ | 1,008,178 | ||
| Prepaid expenses | 57,672 | |||
| Accounts receivable | 4,458,456 | |||
| Accounts receivable from Affiliates | 65,216 | |||
| Total current assets | 5,589,522 | |||
| PROPERTY, PLANT AND EQUIPMENT: | ||||
| Oil and gas properties | 167,269,632 | |||
| Less: accumulated depletion | (10,618,676 | ) | ||
| Net oil and gas properties | 156,650,956 | |||
| Other property and equipment | 362,717 | |||
| Less: accumulated depreciation | (276,951 | ) | ||
| Net property and equipment | 85,766 | |||
| TOTAL ASSETS | $ | 162,326,244 | ||
| LIABILITIES AND MEMBERS' EQUITY | ||||
| CURRENT LIABILITIES: | ||||
| Accounts payable | 62,133 | |||
| Accrued liabilities | 141,812 | |||
| Total current liabilities | 203,945 | |||
| NON-CURRENT LIABILITIES | ||||
| Revolving credit facility, net | 68,774,403 | |||
| Operating lease liability | 49,698 | |||
| Total non-current liabilities | 68,824,101 | |||
| Total liabilities | 69,028,046 | |||
| MEMBERS' EQUITY | ||||
| Hatch Resources LLC equity | 92,733,037 | |||
| Noncontrolling interest | 565,161 | |||
| Total members' equity | 93,298,198 | |||
| TOTAL LIABILITIES AND EQUITY | $ | 162,326,244 |
The Notes to the Unaudited Consolidated Financial Statements are an integral part of this statement.
1
Hatch Resources LLC and Subsidiaries
Unaudited Consolidated Statements of Operations
Nine Months Ended September 30, 2022
| REVENUES | ||||
| Oil revenues | $ | 20,497,810 | ||
| Gas revenues | 4,369,373 | |||
| Liquid revenues | 3,402,066 | |||
| Other operating revenues | 553,100 | |||
| Loss on commodity derivative instruments | (1,902,433 | ) | ||
| Total revenues | 26,919,916 | |||
| EXPENSES | ||||
| Production and ad valorem taxes | 1,356,650 | |||
| General and administrative | 11,305,278 | |||
| Depreciation, depletion and amortization | 4,241,659 | |||
| Total expenses | 16,903,587 | |||
| INCOME FROM OPERATIONS | 10,016,329 | |||
| OTHER INCOME (EXPENSE) | ||||
| Unrealized gain on commodity derivative instruments | 619,507 | |||
| Interest expense | (2,459,950 | ) | ||
| Total other expense | (1,840,443 | ) | ||
| NET INCOME | 8,175,886 | |||
| NET INCOME ATTRIBUTABLE TO NONCONTROLLING INTEREST | 117,603 | |||
| NET INCOME ATTRIBUTABLE TO HATCH RESOURCES LLC | $ | 8,058,283 |
The Notes to the Unaudited Consolidated Financial Statements are an integral part of this statement.
2
Hatch Resources LLC and Subsidiaries
Unaudited Consolidated Statements of Changes in Members’ Equity
Nine Months Ended September 30, 2022
| Members' | Retained | Noncontrolling | ||||||||||||||
| Equity | Earnings | Interest | Total Equity | |||||||||||||
| Balance at January 1, 2022 | $ | 72,306,540 | $ | (2,159,407 | ) | $ | 393,790 | $ | 70,540,923 | |||||||
| Members' contributions | 6,946,232 | - | 53,768 | 7,000,000 | ||||||||||||
| Members' distributions | (9,037 | ) | - | - | (9,037 | ) | ||||||||||
| Equity-based compensation | 7,590,426 | - | - | 7,590,426 | ||||||||||||
| Net income | - | 8,058,283 | 117,603 | 8,175,886 | ||||||||||||
| Balance at September 30, 2022 | $ | 86,834,161 | $ | 5,898,876 | $ | 565,161 | $ | 93,298,198 | ||||||||
The Notes to the Unaudited Consolidated Financial Statements are an integral part of this statement.
3
Hatch Resources LLC and Subsidiaries
Unaudited Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2022
| CASH FLOWS FROM OPERATING ACTIVITIES: | ||||
| Net income | $ | 8,175,886 | ||
| Adjustments to reconcile net income loss to net cash provided by operating activities: | ||||
| Depreciation, depletion and amortization | 4,182,616 | |||
| Amortization of deferred financing costs | 96,003 | |||
| Operating lease | 65,944 | |||
| Equity-based compensation | 7,590,426 | |||
| Commodity derivative instruments | (671,502 | ) | ||
| Changes in operating assets and liabilities: | ||||
| Accounts receivable | (1,521,521 | ) | ||
| Accounts receivable from Affiliates | 247,853 | |||
| Prepayments | 135,416 | |||
| Accounts payable | 59,248 | |||
| Accrued liabilities | (80,056 | ) | ||
| Net cash provided by operating activities | 18,280,313 | |||
| CASH FLOWS FROM INVESTING ACTIVITIES: | ||||
| Additions to oil and gas properties | (28,355,592 | ) | ||
| Net cash used in investing activities | (28,355,592 | ) | ||
| CASH FLOWS FROM FINANCING ACTIVITIES: | ||||
| Proceeds from credit facility | 9,500,000 | |||
| Payments on credit facility | (6,150,000 | ) | ||
| Members' contribution | 6,946,232 | |||
| Members' distribution | (9,037 | ) | ||
| Contributions from noncontrolling interest | 53,768 | |||
| Net cash provided by financing activities | 10,340,963 | |||
| Net increase in cash | 265,684 | |||
| Cash and cash equivalents at beginning of period | 742,494 | |||
| Cash and cash equivalents at end of period | $ | 1,008,178 | ||
| Supplemental cash flow information: | ||||
| Cash paid during the year for interest | $ | 2,363,947 |
The Notes to the Unaudited Consolidated Financial Statements are an integral part of this statement.
4
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
| Note 1. | Description of Business |
Hatch Resources LLC (Hatch Resources, or the Company) is a Delaware limited liability company formed on August 31, 2018 to engage in the acquisition of mineral, royalty, and overriding royalty interests in the Permian Basin. To date, the interests accumulated are located entirely in the Delaware Basin in Texas and New Mexico.
The Company’s LLC agreement was amended and restated on January 18, 2019 in connection with the Company’s funding. Prior to this time, the Company had no assets or liabilities and the date of the amended and restated LLC agreement was the first date of activity. As a result of the amended LLC agreement, Hatch Resources owns 99.5% of Hatch Operations LLC (HoldCo), which is a holding company. HoldCo owns: 99% of Hatch Royalty LLC (Royalty) which owns and holds royalty interests, 100% of Hatch Operating Subsidiary LLC (OpCo) which owns and holds working interests, and 100% of Hatch Sidecar LLC (Sidecar). Sidecar owns the remaining 1% of Royalty. The Company’s LLC agreement was further amended and restated on December 31, 2020 and as a result, Hatch Resources owns 99.2% of HoldCo.
Principles of Consolidation
The consolidated financial statements of Hatch Resources presented herein include the accounts of the aforementioned entities. All intercompany transactions and balances have been eliminated. The 0.8% noncontrolling interest in HoldCo is presented as noncontrolling interest, a separate component of net income and equity in the accompanying consolidated financial statements.
Basis of Presentation
The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP).
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the reported amounts of revenues and expenses during the reporting period. The Company evaluates estimates and assumptions on an ongoing basis using historical experience and other factors. While management believes that the estimates and assumptions used in preparation of the consolidated financial statements are appropriate, because there are numerous uncertainties inherent in the estimation process, actual results could differ materially from those estimates. Significant estimates made in preparing these consolidated financial statements include the estimate of uncollected revenues and unpaid expenses from mineral, royalty, and overriding royalty interests in properties operated by nonaffiliated entities, the estimates of proved oil and natural gas reserves and related present value estimates of future net cash flows from those properties, and equity-based compensation.
Estimated proved oil and natural gas reserve quantities and associated discounted and undiscounted cash flows are significant components of depletion and proved property impairment calculations and require many subjective judgments. Estimates of reserves are forecasts based on engineering analyses and historical production information. Different reserve engineers could reach different conclusions as to estimated quantities of oil and natural gas reserves based on the same information.
The passage of time provides more qualitative and quantitative information regarding reserve estimates, and revisions are made to prior estimates based on updated information. However, there can be no assurance that more revisions will not be necessary in the future. Significant downward revisions could result in changes in depletion rates and proved property impairments representing non-cash charges to income.
5
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Limitation of Members’ Liability
Under the terms of the limited liability company agreement, as amended, the members are not obligated for debt, obligations, or other liabilities of the Company. However, one Class A member does have certain obligations under the Credit Agreement (See Note 7). Profits and losses are allocated to members based on their ownership interests and a preferred payout schedule.
Cash and Cash Equivalents
The Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents.
Accounts Receivable
The Company’s accounts receivables are primarily from mineral, royalty, and overriding royalty interests and recorded at the amount due, less an allowance for doubtful accounts when applicable. In estimating the allowance, management considers, among other things, how recently and how frequently payments have been received and the financial position of the party. As of September 30, 2022, no allowance for doubtful accounts is deemed necessary based upon a review of current receivables and the lack of historical write offs. There was no bad debt expense recorded for nine months ended September 30, 2022.
Accounts Receivable due from Affiliate
The Company’s accounts receivable due from affiliate account as of September 30, 2022 relates to certain general and administrative expenses funded by the Company during the current period.
Oil and Natural Gas Properties
The Company invests primarily in mineral, royalty, and overriding royalty interests of oil and natural gas properties. Oil and natural gas producing activities are accounted for in accordance with the successful efforts method of accounting. Under this method, costs of acquiring properties are capitalized. All general and administrative costs unrelated to acquisitions are expensed as incurred. See Note 2 for further detail.
Other Property and Equipment
Other property and equipment includes office furniture and equipment and computer hardware and equipment and is stated at historical cost. Depreciation and amortization are calculated using the straight-line method over expected useful lives of five years. Depreciation and amortization expense totaled approximately $64 thousand for the nine months ended September 30, 2022. Right of use asset for operating leases of approximately $59 thousand is also recognized in other property and equipment at September 30, 2022.
Accrued Liabilities
Accrued liabilities consist primarily of ad valorem taxes.
Derivative Financial Instruments
The Company’s ongoing operations expose it to changes in the market price for oil and natural gas. To manage risks related to fluctuations in prices attributable to its projected oil production, the Company enters into oil derivative contracts. Entrance into such contracts is dependent upon prevailing or anticipated market conditions.
6
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Derivative instruments are recognized at fair value. If a right of offset exists under master netting arrangements and certain other criteria are met, derivative assets and liabilities with the same counterparty are netted on the consolidated balance sheet. The Company does not specifically designate derivative instruments as cash flow hedges, even though they reduce its exposure to changes in commodity prices; therefore, gains and losses arising from changes in the fair value of derivatives are recognized on a net basis in the consolidated statement of operations within hedging income (loss).
Revenue Recognition
The Company follows Accounting Standards Codification Topic 606, Revenue from Contracts with Customers, (ASC 606).
Oil, Natural Gas, and Liquids Sales
Oil, natural gas and NGL sales revenues are generally recognized when control of the product is transferred to the customer, the performance obligations under the terms of the contracts with customers are satisfied and collectability is reasonably assured. One hundred percent of the Company’s oil, natural gas and NGL sales are made under contracts with customers (operators). The performance obligations for the Company’s contracts with customers are satisfied at a point in time through the delivery of oil and natural gas to its customers. Accordingly, the Company’s contracts do not give rise to contract assets or liabilities. The Company recognizes revenue based on the Company’s percentage ownership share of revenue, net of any deductions for gathering and transportation. This resulted in approximately $587 thousand of netted expenses for the nine months ended September 30, 2022.
The Company typically receives payment for oil, natural gas and NGL sales within 60 days of the month of delivery, which can extend up to 9 months after initial production from the well and 6 months after the purchase of mineral interests in currently producing wells. The Company’s contracts for oil, natural gas and NGL sales are standard industry contracts that include variable consideration based on the monthly index price and adjustments that may include counterparty-specific provisions as defined in the mineral lease agreement. As each unit of product represents a separate performance obligation and the consideration is variable as it relates to oil and natural gas prices, the Company recognizes revenue from oil and natural gas sales using the allocation exception for variable consideration in ASC 606.
Allocation of Transaction Price to Remaining Performance Obligations
Oil, Natural Gas, and Liquids Sales. The Company has utilized the practical expedient in ASC 606 which states the Company is not required to disclose the transaction price allocated to remaining performance obligations if the variable consideration is allocated entirely to a wholly unsatisfied performance obligation. As the Company has determined that each unit of product generally represents a separate performance obligation, future volumes are wholly unsatisfied, and disclosure of the transaction price allocated to remaining performance obligations is not required.
Prior-Period Performance Obligations
Hatch Resources records revenue in the month production is delivered to the purchaser. As a royalty interest owner, Hatch Resources has limited visibility into the timing of when new wells start producing and production statements may not be received for 30 to 90 days or more after the date production is delivered. As a result, the Company is required to estimate the amount of production delivered to the purchaser and the price that will be received for the sale of the product. The expected sales volumes and prices for these properties are estimated and recorded within the Accounts receivable line item in the accompanying consolidated balance sheet. The difference between the Company’s estimates and the actual amounts received for oil and natural gas sales is recorded in the month that payment is received from the third party.
7
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Income Taxes
As a limited liability company, the Company is not subject to federal income taxes as components of its income and expenses flow through directly to the members. Accordingly, no provision for federal income taxes has been reflected in the consolidated financial statements. However, the Company is subject to state income taxes in various states in which it operates.
Tax positions are evaluated in a two-step process. The Company first determines whether it is more likely than not that a tax position will be sustained upon examination. If a tax position meets the more likely than not threshold, it is then measured to determine the amount of expense to record in the consolidated financial statements. The tax expense recorded would equal the largest amount of expense related to the outcome that is 50% or greater likely to occur. The Company classifies any potential accrued interest recognized on an underpayment of income taxes as interest expense and classifies any statutory penalties recognized on a tax position taken as operating expense. Management of the Company has not taken a tax position that, if challenged, would be expected to have a material effect on the financial statements as of September 30, 2022.
The Company did not incur any penalties or interest related to its state tax returns for the nine months ended September 30, 2022.
Under the new centralized partnership audit rules effective for tax years beginning after 2017, the Internal Revenue Service (IRS) assesses and collects underpayments of tax from the Company instead of from each member. The Company may be able to pass the adjustments through to its partners by making a push-out election or, if eligible, by electing out of the centralized partnership audit rules.
Equity-Based Compensation
As of September 30, 2022, the Company had certain Class B member units (Class B Units) issued and outstanding related employee grant agreements. As and when approved by the Board of Managers, the Company shall distribute to the holders of the units a distribution. The units vest as defined in each Class B Units respective grant agreement, or immediately upon the sale of the Company. Unvested units are forfeited if the respective employee is terminated for cause. Class B Unit holders do not include voting rights. Compensation expense for such awards will be recognized in the accompanying consolidated statement of operations once distributions are deemed reasonably probable. Refer to Note 6 for additional information.
Concentrations of Credit Risk
The operators of the Company’s oil and gas properties sell production to a small number of purchasers, as is customary in the industry. The risk of non-payment by these purchasers is considered minimal, and the operators do not generally obtain collateral for sales. For the nine months ended September 30, 2022, one third-party operator accounted for approximately 22% of total revenues. At September 30, 2022, one third-party operator accounted for approximately 17% of accrued revenues.
The Company maintains its cash in bank deposit accounts which, at times, may exceed federally insured limits of $250 thousand. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk on cash.
8
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
New Accounting Policy
Effective January 1, 2022, the Company adopted the new lease accounting guidance in Accounting Standards Update No. 2016-02, Leases (Topic 842). The Company has elected the package of practical expedients permitted in Topic 842. Accordingly, the Company accounted for its existing operating lease as an operating lease under the new guidance, without reassessing (a) whether the contract contains a lease under ASC Topic 842, (b) whether classification of the operating lease would be different in accordance with ASC Topic 842, or (c) whether the unamortized initial direct costs before transition adjustments (as of December 31, 2021) would have met the definition of initial direct costs in Topic 842 at lease commencement. As a result of the adoption of the new lease accounting guidance, the Company recognized on January 1, 2022 (the beginning of the earliest period presented) (a) a lease liability of $137,159, which represents the present value of the remaining lease payments of $140,504, discounted using the Company’s incremental borrowing rate of 3.88%, and (b) a right-of-use asset of $145,466.
| Note 2. | Oil and Gas Properties |
The Company uses the successful efforts method of accounting for its investment in mineral, royalty, and overriding royalty interests. Under this method of accounting, proved and unproved property acquisition costs are capitalized as the cost of properties when incurred. To the extent capitalized costs of proved properties, net of accumulated depletion, exceed the undiscounted future cash flows, the carrying value of the property is reduced to estimated fair value and the excess capitalized costs are charged to impairment expense in the period incurred. Proved properties are grouped for impairment purposes by regional aggregations of fields according to a number of factors including location and geological characteristics. No impairment expense associated with proved properties was recognized for the nine months ended September 30, 2022.
A portion of the carrying value of the Company’s interests is attributable to unproved properties. The unproved amounts are not subject to depletion until they are classified as proved properties. Capitalized costs attributable to the properties become subject to depletion when proved reserves are assigned to the property and the Company transfers the cost basis from unproved to proved properties accordingly. The Company assesses all properties classified as unproved on an annual basis for impairment. The Company assesses properties on an individual basis or as a group, if properties are individually insignificant. The assessment includes consideration of the following factors, among others: recent drilling activity, remaining lease term, geological, geophysical and engineering evaluations, and market prices for similar assets. Unproved property totaled approximately $49.7 million at September 30, 2022. No impairment expense associated with unproved properties was recognized for the nine months ended September 30, 2022.
| Note 3. | Acquisitions |
Hatch Resources has completed numerous acquisitions of mineral and royalty interests from various sellers in Texas and New Mexico. The additions to oil and natural gas property activity are comprised of payments for acquisitions of minerals, land brokerage costs, due diligence costs, and any recording or legal fees associated with the acquisition. The acquisitions were funded with capital contributions from members and borrowings under the revolving credit facility. During the nine months ended September 30, 2022, the assets acquired for total cash consideration of $28.4 million consisted of approximately $13.2 million of proved properties and $15.1 million of unproved properties.
9
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
| Note 4. | Derivatives |
The Company’s ongoing operations expose it to changes in the market price for oil and natural gas. To mitigate the inherent commodity price risk associated with its operations, the Company uses oil commodity derivative financial instruments. From time to time, such instruments may include variable-to-fixed-price swaps, costless collars, fixed-price contracts, and other contractual arrangements. As of September 30, 2022, the Company had no outstanding derivative financial instruments. The Company’s oil fixed price swap transactions are settled based upon the average daily prices for the calendar month of the contract period. Settlement for oil derivative contracts occurs in the succeeding month. Changes in the fair values of the Company’s derivative instruments are recognized as gains or losses in the current period and are presented on a net basis in the accompanying consolidated statement of operations. During the nine months ended September 30, 2022, the Company recognized realized and unrealized gain (loss) on commodity derivative instruments of ($1,902,433) and $619,507, respectively.
| Note 5. | Fair Value |
ASC 820, Fair Value Measurements and Disclosures, defines fair value, establishes a framework for measuring fair value, establishes a fair value hierarchy based on the quality of inputs used to measure fair value, and enhances disclosure requirements for fair value measurements. The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. The Company has applied ASC 820 to all financial instruments that are required to be reported at fair value.
Financial instruments are carried at fair value and are classified and disclosed in the following categories:
Level 1–Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. Level 1 consists of financial instruments whose fair values are estimated using quoted market prices.
Level 2–Quoted prices for identical or similar assets or liabilities in markets that are less active, that is, markets in which there are few transactions for the asset or liability that are observable for substantially the full term. Included in Level 2 are those financial instruments for which fair values are estimated using models or other valuation methodologies. These models are primarily industry-standard models that consider various observable inputs, including time value, yield curve, volatility factors, observable current market and contractual prices for the underlying financial instruments, as well as other relevant economic measures.
Level 3–Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported by little or no market activity). Level 3 is comprised of financial instruments whose fair value is estimated based on internally developed models or methodologies utilizing significant inputs that are not readily observable for objective sources.
The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). A market is active if there are sufficient transactions on an ongoing basis to provide current pricing information for the asset or liability, pricing information is released publicly, and price quotations do not vary substantially either over time or among market makers. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the reporting entity.
Assets and liabilities that are measured at fair value are classified based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability. The Company recognizes transfers between fair value hierarchy levels as of the end of the reporting period in which the event or change in circumstances causing the transfer occurred. The Company did not have any transfers between Level 1, Level 2 or Level 3 fair value measurements during the nine months ended September 30, 2022.
10
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Nonrecurring Fair Value Measurements
In connection with the Company’s review of long-lived assets, if there is an indication of impairment and the estimated undiscounted future cash flows do not exceed the carrying value of the long-lived assets, then these assets are written down to fair value. During the nine months ended September 30, 2022, the Company’s oil and natural gas properties were reviewed for impairment and no interests were found to be impaired. The factors used to determine fair value for purposes of impairment testing include, but are not limited to, estimates of proved reserves, development activity, future commodity prices, timing of future production, production costs, and a discount rate commensurate with the risk reflective of the lives remaining for the respective assets. Because these significant fair value inputs are typically not observable, the Company has categorized the amounts as Level 3 inputs.
The fair value of each Class B unit granted is estimated on the date of grant using an option-pricing model that incorporates various inputs, some of which are unobservable. Expected volatilities are based on implied volatilities from market-traded equity on what the Company believes to be comparable public companies. The expected term of Class B units granted is estimated based on the Company’s expected exit timeline at the grant date. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of the grant for the expected exit timeline. Certain adjustments are applied to fair value calculations for Class B Units to reflect market illiquidity and non-transferability using a risk adjusted discount rates.
| Note 6. | Members’ Equity |
Members’ Classes
Class A Units
Pursuant to the Hatch Resources LLC agreement as amended, the Class A Members have committed capital of $201.1 million, in accordance with each members’ percentage of membership interest, which is funded directly to HoldCo. The noncontrolling interest has committed capital of $1.0 million and in return, has received a 0.5% noncontrolling interest in HoldCo. In December 2020, the Hatch Resources LLC amended to distribute and redeem Class A Units in HoldCo to an entity that previously was a member of the noncontrolling interest. As a result, the noncontrolling interest committed capital totaled $1.5 million and noncontrolling interest totaled 0.76%. The Class A units have a par value of $100 per unit and 2,011,000 Class A units are authorized to be issued. As of September 30, 2022, the Class A Members had contributed capital of $79.7 million and 796,000 Class A units were issued and outstanding.
Class B Units
Pursuant to the Hatch Resources’ LLC agreement as amended, the Company is authorized to issue up to 1,000,000 Class B units, a form of equity-based compensation. As of September 30, 2022, there were 883,000 Class B units issued and outstanding. The units are granted to employees and are subject to time-based vesting provisions. The Class B units awarded are subject to restrictions on transferability and customary forfeiture provisions. Class B unit award recipients do not include the right to vote but do include the right to receive distributions thereon, if and when made by the Company, based on the capital distribution methodology described above.
11
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
During the nine months ended September 30, 2022, 63,000 Class B units were issued with a grant date fair value of $18.90 per unit. The Company used an option pricing model incorporating the following assumptions:
| Class B Fair Value Assumptions | Input | ||
| Expected Volatility | 53% | ||
| Expected Term (years) | 3.5 | ||
| Risk Free Rate | 3.5% | ||
| Discount for Lack of Marketability | 10% | ||
During the nine months ended September 30, 2022, 130,000 Class B units were redeemed or forfeited in accordance with separation agreements. At September 30, 2022, 430,000 Class B units are vested.
During the nine months ended September 30, 2022, approximately $7.6 million in compensation expense for grants previously awarded, which were not deemed to have a probable performance condition at issuance.
Allocation of Profits and Losses
Net income or loss is allocated to the Members pro rata in proportion to the Members’ respective membership interest, provided that the members’ capital accounts are compliant with regulations, as described in the LLC agreement.
Capital Distributions
All amounts to be distributed shall first be distributed to Class A Members in proportion to their respective Class A membership interest percentages. Distributions shall be made as follows:
Payout No. 1 occurs when the Class A unitholders receive an 8% per annum return on the aggregate contributions made to date. Payout No. 2 occurs when the Class A unitholders receive a 20% per annum return on the aggregate contributions made to date and distributions to the Class A unitholders exceed two times the aggregate contributions made to date. Payout No. 3 occurs when distributions to the Class A unitholders exceed three times the aggregate contributions made to date.
As of September 30, 2022, no material distributions have been made to Class A or Class B Members of the Company.
12
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
| Note 7. | Long-Term Debt |
On July 2, 2019, the Company entered into a credit facility (the Credit Agreement) with Texas Capital Bank with an initial nonconforming borrowing base of $25 million and letter of credit commitment of $3.75 million. The borrowing base was increased by an additional $25 million to total a borrowing base of $50 million and letter of credit agreement of $7.5 million on September 11, 2019. In August 2021, the Company’s Credit Agreement was amended to increase the Company’s borrowing base by $25 million to total a borrowing base of $75 million and allows the Company to make voluntary prepayments which reduces the non-conforming borrowing base by an aggregate amount of the prepayments if the payment is designates as such. The amendment also added a one year auto extension to the maturity date subject to the Company’s elections. Borrowings under the Credit Agreement are collateralized by an equity support letter recourse to the Company’s sponsor. Outstanding borrowings on the equity support letter borrowing base accrue interest at an annual rate of the Prime rate plus 37.5 bps with a 3.5% Prime Floor (3.875% effective rate) and a 0.5% LIBOR floor. The interest rate in effect on September 30, 2022 was approximately 5.5%. As of September 30, 2022, the borrowing base was $70.0 million of which $69 million was outstanding. The Credit Agreement matures in July 2024. The Company had no letters of credit outstanding under the Credit Agreement on September 30, 2022.
Debt issuance costs are capitalized and amortized over the life of the Credit Agreement. In connection with the amendment to the Credit Agreement executed in August 2021, an additional $225 thousand in debt issuance costs were recorded. Amortization expense related to the debt issuance costs was approximately $96 thousand for the nine months ended September 30, 2022. Amortization expense related to debt issuance costs is included in interest expense on the accompanying consolidated statements of operations. Debt issuance costs, net of accumulated amortization, of approximately $226 thousand are recorded in revolving credit facility, net on the consolidated balance sheet. Total interest expense for the nine months ended September 30, 2022 was approximately $2.4 million.
| Note 8. | Commitments and Contingencies |
Operating Leases
The Company leases its office facilities under a long-term, non-cancelable operating lease agreement. The lease expires in 2023. The following is a maturity analysis of the annual undiscounted cash flows of the operating lease liabilities as of September 30, 2022:
Environmental Matters
The Company’s business includes activities that are subject to U.S. federal, state, and local environmental regulations with regard to air, land, and water quality and other environmental matters. The Company does not consider the potential remediation costs that could result from issues identified in any environmental site assessments to be significant to the consolidated financial statements and no provision for potential remediation costs has been recorded.
Litigation
From time to time, the Company is involved in legal actions and claims arising in the ordinary course of business. There were no existing claims as of September 30, 2022.
13
Hatch Resources LLC and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
| Note 9. | Subsequent Events |
The Company has evaluated events that occurred subsequent to September 30, 2022 through March 2, 2023, which is the date the consolidated financial statements were available to be issued.
Acquisitions
Subsequent to September 30, 2022, the Company has made acquisitions of interests in oil and gas properties in the normal course of business totaling approximately $17.9 million.
Facility Drawdown
Subsequent to September 30, 2022, the Company completed drawdowns on its credit facility totaling $16.0 million.
Property Conveyance
Subsequent to September 30, 2022, the Company completed a material sale of mineral royalty interests to Kimbell Royalty Partners, LP and Kimbell Royalty Operating, LLC (the Conveyance), for total consideration of approximately $278.1 million, comprised of approximately $127.7 million in common units of Kimbell Royalty Operating, LLC and $150.4 million in cash. Cash proceeds of $45 million were subsequently used to pay down the Credit Agreement. Net book value of the interest sold at the date of the Conveyance was $113.6 million.
Distribution to Members
Subsequent to September 30, 2022, distributions totaling approximately $227.8 million were made to Class A and Class B unitholders. Distributions were comprised of approximately $100.2 million in cash, and $127.7 million in common units of Kimbell Royalty Operating. Distributions were made in accordance with the Company’s limited partnership agreement. All outstanding Class B units at the date of the Conveyance were treated as vested for the purpose of determining the distribution.
14
Exhibit 99.3
KIMBELL ROYALTY PARTNERS, LP
UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS
On December 15, 2022 (the “Closing Date”), Kimbell Royalty Partners, LP, a Delaware limited partnership (“Kimbell” or the “Partnership”) and Kimbell Royalty Operating, LLC, a Delaware limited liability company (“OpCo” and, together with Kimbell, the “Buyer Parties”), completed the previously announced acquisition (the “Hatch Acquisition”) of mineral and royalty interests pursuant to a purchase and sale agreement (the “PSA”), dated November 3, 2022, by and among the Buyer Parties and Hatch Royalty LLC, a Delaware limited liability company (“Hatch”). The aggregate consideration paid to Hatch for the acquired assets consisted of (i) approximately $149.3 million in cash, subject to purchase price adjustments and other customary closing adjustments and (ii) the issuance of 7,272,821 common units representing limited liability company interests in Opco (“Opco units”) and an equal number of Class B units representing limited partner interests in Kimbell (“Class B units”). The Opco units, together with the Class B units, are exchangeable for an equal number of common units representing limited partner interests in Kimbell (“Common Units”). The total valuation of 7,272,821 Common Units for approximately $120.3 million is based on a closing price of $16.54. The cash consideration of the purchase price was funded from the issuance of 6,900,000 Common Units on November 8, 2022 for $116.9 million and increased borrowings under Kimbell’s existing revolving credit facility on December 13, 2022.
The following unaudited pro forma condensed combined financial statements (the “pro forma financial statements”) present (i) our unaudited pro forma balance sheet as of September 30, 2022, (ii) our unaudited pro forma statement of operations for the nine months ended September 30, 2022 and (iii) our unaudited pro forma financial statement of operations for the year ended December 31, 2021. The pro forma balance sheet as of September 30, 2022 assumes that the Hatch Acquisition occurred on September 30, 2022. The pro forma statement of operations for the nine months ended September 30, 2022 and the year ended December 31, 2021 give pro forma effect to the Hatch Acquisition as if they had occurred on January 1, 2021, the beginning of the earliest period presented.
The pro forma adjustments related to the Hatch Acquisition and related financing for the transaction are based on preliminary estimates, accounting judgments and currently available information and assumptions that management believes are reasonable and are subject to change. Accordingly, these pro forma adjustments are preliminary and have been made solely for the purpose of providing these pro forma financial statements. Differences between these preliminary estimates and the final fair value of assets acquired may occur and these differences could be material. The differences, if any, could have a material impact on the accompanying pro forma financial statements and our future results of operations. The pro forma financial statements have been derived from and should be read together with:
| · | the accompanying notes to the unaudited pro forma financial statements; |
| · | our historical financial statements and the related notes contained in the Partnerships’ Annual Report on Form 10-K for the year ended December 31, 2021; |
| · | our historical financial statements and related notes contained in the Partnership’s Quarterly Report on Form 10-Q for the nine months ended September 30, 2022; |
| · | the statement of assets acquired and liabilities assumed and related notes for the assets acquired from Hatch for the year ended December 15, 2022; and |
| · | the historical financial statements of Hatch Royalty LLC and related notes for the year ended December 31, 2021. |
These pro forma financial statements are for information purposes only and do not purport to represent what the Partnership’s financial position and results of operations would have been had the Hatch Acquisition occurred on the dates indicated. These pro forma financial statements should not be used to project the Partnership’s financial performance for any future period. A number of factors may affect the results.
1
KIMBELL ROYALTY PARTNERS, LP
UNAUDITED PRO FORMA CONDENSED COMBINED BALANCE SHEET
| As of September 30, 2022 | |||||||||||||
| Historical
Kimbell |
Transaction
Accounting Adjustments |
Pro
Forma Combined |
|||||||||||
| Assets | |||||||||||||
| Current assets | |||||||||||||
| Cash and cash equivalents | $ | 16,554,722 | $ | 7,083,238 | 3a,b,c, | $ | 23,637,960 | ||||||
| Oil, natural gas and NGL receivables | 46,387,472 | - | 46,387,472 | ||||||||||
| Accounts receivable and other current assets | 2,595,951 | 9,754,620 | 3c | 12,350,571 | |||||||||
| Total current assets | 65,538,145 | 16,837,858 | 82,376,003 | ||||||||||
| Property and equipment, net | 1,036,281 | - | 1,036,281 | ||||||||||
| Investment in affiliate (equity method) | 1,161,255 | - | 1,161,255 | ||||||||||
| Oil and natural gas properties | |||||||||||||
| Oil
and natural gas properties, using full cost method of accounting ($ 48,689,818 excluded from depletion at September 30, 2022) |
1,204,839,460 | 260,781,867 | 3c, | 1,465,621,327 | |||||||||
| Less: accumulated depreciation, depletion and impairment | (696,086,227 | ) | - | (696,086,227 | ) | ||||||||
| Total oil and natural gas properties, net | 508,753,233 | 260,781,867 | 769,535,100 | ||||||||||
| Right-of-use assets, net | 2,607,158 | - | 2,607,158 | ||||||||||
| Loan origination costs, net | 3,267,908 | - | 3,267,908 | ||||||||||
| Assets of consolidated variable interest entities: | |||||||||||||
| Cash | 551,979 | - | 551,979 | ||||||||||
| Investments held in trust | 238,412,777 | - | 238,412,777 | ||||||||||
| Prepaid expenses | 183,054 | - | 183,054 | ||||||||||
| Total assets | $ | 821,511,790 | $ | 277,619,725 | $ | 1,099,131,515 | |||||||
| Liabilities,
stock subject to possible redemption, partners' capital and unitholder' equity | |||||||||||||
| Current Liabilities: | |||||||||||||
| Accounts payable | $ | 874,180 | $ | - | $ | 874,180 | |||||||
| Other current liabilities | 6,418,999 | - | 6,418,999 | ||||||||||
| Derivative liabilities | 23,477,833 | - | 23,477,833 | ||||||||||
| Total current liabilities | 30,771,012 | - | 30,771,012 | ||||||||||
| Operating lease liabilities, excluding current portion | 2,319,960 | - | 2,319,960 | ||||||||||
| Derivative liabilities | 1,875,710 | - | 1,875,710 | ||||||||||
| Long-term debt | 203,915,911 | 40,000,000 | 3b | 243,915,911 | |||||||||
| Other liabilities | 354,167 | - | 354,167 | ||||||||||
| Liabilities of consolidated variable interest entities: | - | ||||||||||||
| Other current liabilities | 480,607 | - | 480,607 | ||||||||||
| Deferred underwriting commissions | 8,050,000 | - | 8,050,000 | ||||||||||
| Total liabilities | 247,767,367 | 40,000,000 | 287,767,367 | ||||||||||
| Commitments and contingencies (Note 15) | |||||||||||||
| Mezzanine equity: | |||||||||||||
| Redeemable noncontrolling interest in Kimbell Tiger Acquisition Corporation | 236,900,000 | - | 236,900,000 | ||||||||||
| Kimbell Royalty Partners, LP unitholders' equity: | |||||||||||||
| Common units | 485,063,162 | 116,963,625 | 3a | 602,026,787 | |||||||||
| Class B units | 410,579 | 363,641 | 3c | 774,220 | |||||||||
| Total Kimbell Royalty Partners, LP unitholders’ equity | 485,473,741 | 117,327,266 | 602,801,007 | ||||||||||
| Noncontrolling (deficit) interest in OpCo | (148,629,318 | ) | 120,292,459 | 3c | (28,336,859 | ) | |||||||
| Total equity | 336,844,423 | 237,619,725 | 574,464,148 | ||||||||||
| Total liabilities, mezzanine equity and unitholders' equity | $ | 821,511,790 | $ | 277,619,725 | $ | 1,099,131,515 | |||||||
See accompanying notes to the unaudited pro forma financial statements
2
KIMBELL ROYALTY PARTNERS, LP
UNAUDITED PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS
| Nine Months Ended September 30, 2022 | |||||||||||||
| Historical
Kimbell |
Transaction
Accounting Adjustments |
Pro
Forma Combined |
|||||||||||
| Revenue: | |||||||||||||
| Oil, natural gas and NGL revenues | $ | 217,543,364 | $ | 27,418,110 | 4a | $ | 244,961,474 | ||||||
| Lease bonus and other income | 2,039,154 | 553,100 | 4a | 2,592,254 | |||||||||
| Loss on commodity derivative instruments, net | (40,194,369 | ) | - | (40,194,369 | ) | ||||||||
| Total revenues | 179,388,149 | 27,971,210 | 207,359,359 | ||||||||||
| Costs and expenses | |||||||||||||
| Production and ad valorem taxes | 13,542,285 | 1,313,756 | 4a | 14,856,041 | |||||||||
| Depreciation and depletion expense | 33,359,915 | 5,420,477 | 4b | 38,780,392 | |||||||||
| Marketing and other deductions | 10,639,314 | 700,691 | 4a | 11,340,005 | |||||||||
| General and administrative expense | 21,938,249 | - | 21,938,249 | ||||||||||
| Consolidated variable interest entities related: | |||||||||||||
| General and administrative expense | 1,857,593 | - | 1,857,593 | ||||||||||
| Total costs and expenses | 81,337,356 | 7,434,924 | 88,772,280 | ||||||||||
| Operating income | 98,050,793 | 20,536,286 | 118,587,079 | ||||||||||
| Other income (expense) | |||||||||||||
| Equity income in affiliate | 3,658,460 | - | 3,658,460 | ||||||||||
| Interest expense | (9,868,679 | ) | (1,916,000 | ) | 4c | (11,784,679 | ) | ||||||
| Other income (expense) | 4,043,530 | - | 4,043,530 | ||||||||||
| Consolidated variable interest entities related: | |||||||||||||
| Interest earned on marketable securities in trust account | 1,512,777 | - | 1,512,777 | ||||||||||
| Net income before income taxes | 97,396,881 | 18,620,286 | 116,017,167 | ||||||||||
| Income tax expense | 1,850,357 | 353,750 | 4d | 2,204,107 | |||||||||
| Net Income | 95,546,524 | 18,266,536 | 113,813,060 | ||||||||||
| Net income and distributions and accretion on Series A preferred units attributable to noncontrolling interests in OpCo | (11,975,886 | ) | (3,548,163 | ) | 4e | (15,524,049 | ) | ||||||
| Distribution on Class B units | (34,032 | ) | - | (34,032 | ) | ||||||||
| Net income attributable to common units of Kimbell Royalty Partners, LP | $ | 83,536,606 | $ | 14,718,373 | $ | 98,254,979 | |||||||
| Net Income per unit attributable to common units of Kimbell Royalty Partners LP | |||||||||||||
| Basic | $ | 1.26 | $ | 1.36 | |||||||||
| Diluted | $ | 1.00 | $ | 1.01 | |||||||||
| Weighted average number of common units outstanding | |||||||||||||
| Basic | 52,302,235 | 59,202,235 | |||||||||||
| Diluted | 65,397,463 | 79,570,284 | |||||||||||
See accompanying notes to the unaudited pro forma financial statements
3
KIMBELL ROYALTY PARTNERS, LP
UNAUDITED PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS
| Year Ended December 31, 2021 | |||||||||||||
| Historical Kimbell |
Transaction
Accounting Adjustments |
Pro Forma Combined |
|||||||||||
| Revenue | |||||||||||||
| Oil, natural gas and NGL revenues | $ | 175,088,021 | $ 15,278,042 | 4a | $ | 190,366,063 | |||||||
| Lease bonus and other income | 3,319,104 | 383,883 | 4a | 3,702,987 | |||||||||
| Loss on commodity derivative instruments, net | (42,791,909 | ) | - | (42,791,909 | ) | ||||||||
| Total revenues | 135,615,216 | 15,661,925 | 151,277,141 | ||||||||||
| Costs and expenses | |||||||||||||
| Production and ad valorem taxes | 10,480,481 | 1,301,648 | 4a | 11,782,129 | |||||||||
| Depreciation and depletion expense | 36,797,881 | 6,788,766 | 4b | 43,586,647 | |||||||||
| Marketing and other deductions | 12,048,643 | 404,401 | 4a | 12,453,044 | |||||||||
| General and administrative expense | 26,977,519 | - | 26,977,519 | ||||||||||
| Total costs and expenses | 86,304,524 | 8,494,815 | 94,799,339 | ||||||||||
| Operating income | 49,310,692 | 7,167,110 | 56,477,802 | ||||||||||
| Other income (expense) | - | ||||||||||||
| Equity income in affiliate | 1,119,819 | - | 1,119,819 | ||||||||||
| Interest expense | (9,182,103 | ) | (1,544,000) | 4c | (10,726,103 | ) | |||||||
| Other income (expense) | 1,263,566 | - | 1,263,566 | ||||||||||
| Net income before income taxes | 42,511,974 | 5,623,110 | 48,135,084 | ||||||||||
| Provision for (benefit from) income taxes | 74,100 | 9,801 | 4d | 83,901 | |||||||||
| Net income | 42,437,874 | 5,613,309 | 48,051,183 | ||||||||||
| Distribution and accretion on Series A preferred units | (11,249,969 | ) | - | (11,249,969 | ) | ||||||||
| Net (income) loss and distributions and accretion | (8,496,104 | ) | (1,769,333) | 4e | (10,265,437 | ) | |||||||
| Distribution on Class B units | (76,780 | ) | - | (76,780 | ) | ||||||||
| Net income attributable to common units | $ | 22,615,021 | $ | 3,843,976 | $ | 26,458,997 | |||||||
| Net Income per unit attributable to common units of Kimbell Royalty Partners LP | |||||||||||||
| Basic | $ | 0.56 | $ | 0.56 | |||||||||
| Diluted | $ | 0.51 | $ | 0.47 | |||||||||
| Weighted average number of common units outstanding | |||||||||||||
| Basic | 40,400,907 | 47,300,907 | |||||||||||
| Diluted | 60,957,824 | 75,130,645 | |||||||||||
See accompanying notes to the unaudited pro forma financial statements
4
NOTES TO THE UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS
| 1) | Basis of Presentation |
The pro forma financial statements have been prepared in accordance with Article 11 of Regulation S-X as amended by the final rule, Release No. 33-10786, “Amendments to Financial Disclosures about Acquired and Disposed Businesses.” Release No. 33-10786 replaces the existing pro forma adjustment criteria which simplified requirements to depict the accounting for the transaction (“Transaction Accounting Adjustments”) and present the reasonably estimable synergies and other transaction effects that have occurred or are reasonably expected to occur (“Management Adjustments”). Only Transaction Accounting Adjustments are presented in the pro forma financial information and notes thereto. The adjustments presented in the pro forma financial statements have been identified and presented to provide relevant information necessary for an understanding of the Hatch Acquisition.
The pro forma balance sheet as of September 30, 2022 assumes that the Hatch Acquisition occurred on September 30, 2022. The pro forma statement of operations for the nine months ended September 30, 2022 and the year ended December 31, 2021 give pro forma effect to the Hatch Acquisition as if they had occurred on January 1, 2021, the beginning of the earliest period presented.
The pro forma financial statements are not necessarily indicative of what the actual results of operations and financial position would have been had the transaction taken place on the dates indicated, nor are they indicative of the future consolidated results of operations or financial position of Kimbell following the transaction.
The pro forma basic and diluted earnings per share amounts presented in the unaudited pro forma statement of operations are based on the weighted average number of the Partnerships’ units outstanding, assuming the Hatch Acquisition occurred at the beginning of the earliest period presented.
The pro forma adjustments related to the purchase price allocation of the Hatch Acquisition are preliminary and are subject to revisions as additional information becomes available. Revisions to the preliminary purchase price allocation of the assets acquired may have a significant impact on the pro forma amounts. The pro forma adjustments related to the Hatch Acquisition reflect the fair values of the assets acquired as of Closing Date. The pro forma adjustments do not necessarily reflect the fair values that would have been recorded if the acquisition had occurred on September 30, 2022.
| 2) | Estimated Consideration and Preliminary Purchase Price Allocation |
The Partnership has performed a preliminary valuation analysis of the fair value of the oil and natural gas properties acquired. Using the total consideration for the Hatch Acquisition, the Partnership has estimated the allocation to such assets. All transaction costs associated with the Hatch Acquisition were capitalized. The following table summarizes the allocation of the preliminary purchase price as of the Closing Date:
| Estimated Consideration | ||||
| Cash purchase consideration | $ | 149,880,387 | ||
| Fair value of Class B and OpCo units issued | 120,292,459 | |||
| Less: Purchase price adjustments | (9,390,979 | ) | ||
| Total estimated purchase price | $ | 260,781,867 | ||
| Purchase Price Allocation | ||||
| Oil and natural gas properties: | ||||
| Fair value of acquired properties | $ | 260,781,867 | ||
| Net assets acquired | $ | 260,781,867 | ||
5
This preliminary purchase price allocation of the assets acquired has been used to prepare the transaction accounting adjustments in the pro forma balance sheet and statements of operations. The final purchase price allocation is expected to be completed when the Partnership files its report on Form 10-K for the year ended December 31, 2022 and could differ materially from the preliminary allocation used in the transaction accounting adjustment.
| 3) | Transaction Accounting Adjustments – Balance Sheet |
The unaudited pro forma condensed combined balance sheet has been adjusted to reflect the assets acquired from the Hatch Acquisition and has been prepared for informational purposes only.
| (a) | Represents the proceeds from Kimbell’s public offering of 6,900,000 Common Units completed on November 8, 2022, net of related expenses. |
| (b) | Represents the net increase of $40 million of borrowings under the Partnership’s revolving credit facility to fund the Hatch
Acquisition. The Partnership used $100 million of proceeds from its November 8, 2022 public offering to repay a portion of its outstanding
borrowing under the revolving credit facility. On December 13, 2022, the Partnership borrowed $140 million under its revolving credit
facility, using the proceeds to fund the Hatch Acquisition. |
| (c) | Reflects the consideration transferred and preliminary purchase price allocation for the Hatch Acquisition consisting of: |
| • | the total cash consideration paid to Hatch of $149.3 million; |
| • | the $120.3 million of 7,272,821 Class B Units and an equal number of OpCo Units which were issued as part of the purchase consideration; |
| • | the estimated fair value of the oil and natural gas properties acquired based on the preliminary purchase price allocation; |
| • | the estimated $0.5 million of transaction costs, and |
| • | the cash consideration of $9.4 million to be received by
Kimbell related to revenues directly attributable to the assets acquired from the period October 1, 2022 and December 14, 2022 and received
by Hatch. |
| 4) | Transaction Accounting Adjustment – Statement of Operations |
The unaudited pro forma statement of operations has been adjusted to reflect the assets acquired from the Hatch Acquisition and has been prepared for informational purposes only.
| (a) | Represents the historical royalty income, lease bonus and extension income derived from the acquired mineral and royalty interests, which includes approximately $27.4 million and approximately $15.3 million for the nine months ended September 30, 2022 and the year ended December 31, 2021, respectively, related to oil and natural gas revenues. |
| (b) | Represents the increase in depletion expense computed on a unit of production basis following the preliminary purchase price allocation
to oil and natural gas properties, as if the Hatch Acquisition was consummated on January 1, 2021. Of the $260.2 million estimated
fair value of oil and natural gas properties acquired, only $54.4 million were subject to depletion in the periods presented. |
| (c) | Represents the increase to interest expenses resulting from the interest on the additional borrowings under the Partnership’s
existing credit facility that were used to finance the acquisition. The Partnership’s credit facility bears interest at SOFR plus
a margin of 3.5% or the ABR plus a margin of 2.50%. The unaudited pro forma condensed combined statement of operations for the nine months
ended September 30, 2022 and for the year ended December 31, 2021 each used the weighted average interest of 4.79% and 3.86% respectively
on the net outstanding borrowings of $40 million. A 1/8 of a percent point increase or decrease in the benchmark rate would result in
a change in interest expense of approximately $0.2 million in each period presented. |
| (d) | For the year ended December 31, 2021, reflects estimated incremental income tax provision associated with the Partnership’s
historical statement of operations, using an effective tax rate of approximately 0.17% on net earnings from the Partnership’s Acquisition.
For the nine months ended September 30 , 2022, the Partnership’s effective tax rate is approximately 1.90% and it is applied to
the Partnership’s net earnings from the acquisition for calculating the incremental income tax provision. |
6
| (e) | Reflects the impact of the net income attributable to the non-controlling interests in OpCo as a result of Kimbell’s public
offering of Common Units and the Hatch Acquisition. The net income attributable to the non-controlling interests in OpCo was 19% and 32%
for the nine months ended September 30, 2022 and the year ended December 31, 2021, respectively. | |
| 5) | Pro Forma Net Income per Common Unit |
Pro forma net income per Common Unit is determined by dividing the pro forma net income available to common unitholders by the number of Common Units reflected in the unaudited condensed pro forma financial statements. All Common Units were assumed to have been outstanding since the beginning of the periods presented. The calculation of diluted net loss per Common Unit for the nine months ended September 30, 2022 excludes the Common Units issuable upon the exchange of the outstanding Class B Units and OpCo Common Units and 1,850,067 unvested restricted units issuable upon vesting, because their inclusion in the calculation would be anti-dilutive.
| 6) | Supplemental Pro Forma Oil and Natural Gas Reserve Information |
The following unaudited supplemental pro forma oil and natural gas reserve tables present how the combined oil and natural gas reserves and standardized measure information of the Company and Hatch Acquisition may have appeared had the Hatch Acquisition occurred on January 1, 2021. The supplemental pro forma combined oil and natural gas reserves and standardized measure information are for illustrative purposes only. Numerous uncertainties are inherent in estimating quantities and values of proved reserves including future rates of production, exploration and development expenditures, commodity prices, and service costs which may affect the reserve volumes attributable to the Properties and the standardized measure of discounted future net cash flows.
The following tables provide a summary of the changes in estimated proved reserves for the year ended December 31, 2021, as well as pro forma proved developed as of the beginning and end of the year, giving effect to the Hatch Acquisition as if it had occurred on January 1, 2021.
Estimated Pro Forma Combined Quantities of Proved Reserves
| Crude Oil and Condensate (MBbls) | ||||||||||||
| Kimbell | Hatch | Pro Forma | ||||||||||
| Net proved reserves at December 31, 2020 | 12,294 | 722 | 13,016 | |||||||||
| Revisions of previous estimates | 251 | 33 | 284 | |||||||||
| Purchase of minerals in place | 1,310 | 394 | 1,704 | |||||||||
| Production | (1,344 | ) | (154 | ) | (1,498 | ) | ||||||
| Net proved reserves at December 31, 2021 | 12,511 | 995 | 13,506 | |||||||||
| Net Proved Developed Reserves | ||||||||||||
| December 31, 2020 | 12,294 | 722 | 13,016 | |||||||||
| December 31, 2021 | 12,511 | 995 | 13,506 | |||||||||
| Natural Gas (MMcf) | ||||||||||||
| Kimbell | Hatch | Pro Forma | ||||||||||
| Net proved reserves at December 31, 2020 | 144,233 | 3,120 | 147,353 | |||||||||
| Revisions of previous estimates | 24,079 | 72 | 24,151 | |||||||||
| Purchase of minerals in place | 8,537 | 1,493 | 10,030 | |||||||||
| Production | (19,085 | ) | (559 | ) | (19,644 | ) | ||||||
| Net proved reserves at December 31, 2021 | 157,764 | 4,126 | 161,890 | |||||||||
| Net Proved Developed Reserves | ||||||||||||
| December 31, 2020 | 144,233 | 3,120 | 147,353 | |||||||||
| December 31, 2021 | 157,764 | 4,126 | 161,890 | |||||||||
7
| Natural Gas Liquids (MBbls) | ||||||||||||
| Kimbell | Hatch | Pro Forma | ||||||||||
| Net proved reserves at December 31, 2020 | 6,085 | 385 | 6,470 | |||||||||
| Revisions of previous estimates | 780 | 93 | 873 | |||||||||
| Purchase of minerals in place | 519 | 235 | 754 | |||||||||
| Production | (715 | ) | (71 | ) | (786 | ) | ||||||
| Net proved reserves at December 31, 2021 | 6,669 | 642 | 7,311 | |||||||||
| Net Proved Developed Reserves | ||||||||||||
| December 31, 2020 | 6,085 | 385 | 6,470 | |||||||||
| December 31, 2021 | 6,669 | 642 | 7,311 | |||||||||
| Total (Mboe) | ||||||||||||
| Kimbell | Hatch | Pro Forma | ||||||||||
| Net proved reserves at December 31, 2020 | 42,418 | 1,626 | 44,044 | |||||||||
| Revisions of previous estimates | 5,044 | 138 | 5,182 | |||||||||
| Purchase of minerals in place | 3,252 | 878 | 4,130 | |||||||||
| Production | (5,240 | ) | (318 | ) | (5,558 | ) | ||||||
| Net proved reserves at December 31, 2021 | 45,474 | 2,324 | 47,798 | |||||||||
| Net Proved Developed Reserves | ||||||||||||
| December 31, 2020 | 42,418 | 1,626 | 44,044 | |||||||||
| December 31, 2021 | 45,474 | 2,324 | 47,798 | |||||||||
Pro Forma Combined Standardized Measure of Discounted Future Net Cash Flows
| (in thousands) | Kimbell | Hatch | Pro Forma | |||||||||
| Future cash inflows | $ | 1,335,917 | $ | 92,990 | $ | 1,428,907 | ||||||
| Future production costs | (100,947 | ) | (5,555 | ) | (106,502 | ) | ||||||
| Future state margin taxes | (42,965 | ) | (656 | ) | (43,621 | ) | ||||||
| Future net cash flows | 1,192,005 | 86,779 | 1,278,784 | |||||||||
| Less 10% annual discount to reflect estimated timing of cash flows | (665,390 | ) | (37,563 | ) | (702,953 | ) | ||||||
| Standard measure of discounted future net cash flows | $ | 526,615 | $ | 49,216 | $ | 575,831 | ||||||
Pro Forma Combined Changes in the Standardized Measure of Discounted Future Net Cash Flows
| (in thousands) | Kimbell | Hatch | Pro Forma | |||||||||
| Standardized measure, beginning of year | $ | 284,996 | $ | 20,222 | $ | 305,218 | ||||||
| Sales, net of production costs | (152,751 | ) | (11,436 | ) | (164,187 | ) | ||||||
| Net changes of prices and production costs related to future production | 225,868 | 13,431 | 239,299 | |||||||||
| Extensions, discoveries and improved recovery, net of future production and development costs | - | - | - | |||||||||
| Revisions or previous quantity estimates, net of related costs | 60,517 | 2,915 | 63,432 | |||||||||
| Net changes in state margin taxes | (8,665 | ) | (378 | ) | (9,043 | ) | ||||||
| Accretion of discount | 25,743 | 2,022 | 27,765 | |||||||||
| Purchases of reserves in place, less related costs | 40,545 | 20,782 | 61,327 | |||||||||
| Divestiture of reserves | - | - | - | |||||||||
| Timing differences and other | 50,362 | 1,658 | 52,020 | |||||||||
| Standardized measure – end of year | $ | 526,615 | $ | 49,216 | $ | 575,831 | ||||||
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