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ROYT > SEC Filings for ROYT > Form 10-K/A on 12-May-2014All Recent SEC Filings

Show all filings for PACIFIC COAST OIL TRUST

Form 10-K/A for PACIFIC COAST OIL TRUST


12-May-2014

Annual Report


Item 7. Trustee's Discussion and Analysis of Financial Condition and Results of Operations.

This discussion contains forward-looking statements. Please refer to "Forward-Looking Statements" for an explanation of these types of statements.

Overview

The Trust is a statutory trust formed in January 2012 under the Delaware Statutory Trust Act. The business and affairs of the Trust are administered by The Bank of New York Mellon Trust Company, N.A. (the "Trustee"). The Trust's purpose is to hold the Conveyed Interests (described below), to distribute to the Trust unitholders cash that the Trust receives in respect of the Conveyed Interests, subject to the effects of the commodity derivative contracts described below under "Commodity Derivative Contracts," and to perform certain administrative functions in respect of the Conveyed Interests and the Trust Units. The Trust does not conduct any operations or activities. The Trustee has no authority over or responsibility for, and no involvement with, any aspect of the oil and gas operations or other activities on the Underlying Properties. Wilmington Trust, National Association, as the Delaware Trustee (the "Delaware Trustee"), has only minimal rights and duties as are necessary to satisfy the requirements of the Delaware Statutory Trust Act. The Trust derives all or substantially


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all of its income and cash flow from the Conveyed Interests, subject to the effects of the commodity derivative contracts. The Trust is treated as a grantor trust for U.S. federal income tax purposes.

The Trust was created to acquire and hold net profits and royalty interests in certain oil and natural gas properties located in California and further described below for the benefit of the Trust unitholders pursuant to an agreement among Pacific Coast Energy Company, LP, a privately held Delaware limited partnership ("PCEC"), the Trustee and the Delaware Trustee. The Conveyed Interests (as defined below) represent undivided interests in underlying properties consisting of PCEC's interests in its oil and natural gas properties located onshore in California (the "Underlying Properties"). The Conveyed Interests were conveyed by PCEC to the Trust concurrent with the initial public offering of the Trust's common units in May 2012.

Concurrent with the initial public offering, on May 8, 2012, the Trust and PCEC entered into a Conveyance of Net Profits Interest and Overriding Royalty Interest (the "Conveyance"), pursuant to which PCEC conveyed to the Trust net profits interest and an overriding royalty interest (the "Conveyed Interests") in the Underlying Properties. The Conveyed Interests entitle the Trust to receive 80% of the net profits from the sale of oil and natural gas production from the proved developed reserves as of December 31, 2011 on the Underlying Properties (the "Developed Properties") and either 25% of the net profits from the sale of oil and natural gas production from all other development potential on the Underlying Properties (the "Remaining Properties") or a 7.5% royalty interest from the sale of oil and natural gas production from the Remaining Properties located in PCEC's Orcutt properties (the "Royalty Interest Proceeds").

On September 19, 2013, the Trust, PCEC and the Other Selling Unitholders entered into the Underwriting Agreement with the Underwriters, with respect to the Offering by PCEC and the Other Selling Unitholders. On September 23, 2013, PCEC distributed 11,216,661 Trust Units to the Other Selling Unitholders. Immediately following the distribution on September 23, 2013, the Other Selling Unitholders sold 8,500,000 Trust Units, and PCEC sold an additional 5,000,000 Trust Units, for a total sale of 13,500,000 Trust Units. PCEC retained 3,866,497 Trust Units, or 10% of the issued and outstanding Trust Units. The Trust received no proceeds from the sales of these Trust Units.

The Trust calculates the net profits and royalties for the Developed Properties and Remaining Properties monthly. For any monthly period during which costs for the Remaining Properties exceed gross proceeds, the Trust is entitled to receive the Royalty Interest Proceeds, and the Trust continues to receive such proceeds until the first day of the month following the day on which cumulative gross proceeds for the Remaining Properties exceed the cumulative total excess costs for the Remaining Properties (such occurrence being herein called an "NPI Payout"). Due to significant planned capital expenditures associated with the Remaining Properties for the benefit of the Trust, PCEC expects the Trust to receive payments associated with the Remaining Properties in the form of Royalty Interest Proceeds until the NPI Payout occurs in approximately 2021. In any monthly period following an NPI Payout, the Trust is entitled to receive Royalty Interest Proceeds if costs for the Remaining Properties exceed gross proceeds.

The Trust makes monthly cash distributions of all of its monthly cash receipts, after deduction of fees and expenses for the administration of the Trust, to holders of its Trust Units as of the applicable record date (generally within five business days after the last business day of each calendar month) on or before the 10th business day after the record date. Actual cash distributions to the Trust unitholders fluctuates monthly based upon the quantity of oil and natural gas produced from the Underlying Properties, the prices received for oil and natural gas production, costs to develop and produce the oil and natural gas and other factors. Because payments to the Trust are generated by depleting assets with the production from the Underlying Properties diminishing over time, a portion of each distribution represents, in effect, a return of a unitholder's original investment. Oil and natural gas production from proved reserves attributable to the Underlying Properties will decline over time.

Properties

The Underlying Properties consist of the Developed Properties and the Remaining Properties. Production from the Developed Properties attributable to the Trust is produced from wells that, because they have already been drilled, require limited additional capital expenditures. Production from the Remaining Properties attributable to the Trust requires capital expenditures for the drilling of wells and installation of infrastructure. PCEC is providing required capital on behalf of the Trust during this period; however, because the costs initially incurred exceed gross proceeds, the Remaining Properties have negative net profits during the drilling and development period. During this period of negative net profits, instead of being paid net profits, the Trust is being paid a 7.5% overriding royalty on the portion of the Remaining Properties located on PCEC's Orcutt properties. Once revenues from the Remaining Properties have paid back PCEC for the cumulative costs it has advanced on behalf of the Trust, the NPI on the Remaining Properties will be paid out in place of the royalty interests, as


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described below. The royalty interest conveyed to the Trust is referred to herein as the "Royalty Interest". These interests, collectively the "Conveyed Interests," entitle the Trust to receive the following:

Developed Properties

80% of the net profits from the sale of oil and natural gas production from the Developed Properties.

Remaining Properties

7.5% of the proceeds (free of any production or development costs but bearing the proportionate share of production and property taxes and post-production costs) attributable to the sale of all oil and natural gas production from the Remaining Properties located on PCEC's Orcutt properties, including but not limited to PCEC's interest in such production (the "Royalty Interest Proceeds"), or

25% of the net profits from the sale of oil and natural gas production from all of the Remaining Properties.

The Trust calculates the net profits and royalties for the Developed Properties and the Remaining Properties separately. Any excess costs for either the Developed Properties or the Remaining Properties does not reduce net profits calculated for the other. The amount of Royalty Interest Proceeds paid is taken into account in the net profits interest calculation for the Remaining Properties. If at any time cumulative costs for the Developed Properties or the Remaining Properties exceed cumulative gross proceeds associated with such properties, neither the Trust nor the Trust unitholders are liable for the excess costs, but the Trust does not receive any net profits from the Developed Properties or the Remaining Properties, as the case may be, until future cumulative net profits for such properties exceed the cumulative total excess costs for such properties.

The Trust is not subject to any pre-set termination provisions based on a maximum volume of oil or natural gas to be produced or the passage of time. The Trust will dissolve upon the earliest to occur of the following: (1) the Trust, upon approval of the holders of at least 75% of the outstanding Trust Units, sells the Net Profits Interest, (2) the annual cash received by the Trust attributable to the Conveyed Interests, in the aggregate, is less than $2.0 million for each of any two consecutive years, (3) the holders of at least 75% of the outstanding Trust Units vote in favor of dissolution or (4) the Trust is judicially dissolved.

Commodity Derivative Contracts

The revenues derived from the Underlying Properties depend substantially on prevailing oil prices and, to a lesser extent, natural gas prices. As a result, commodity prices also affect the amount of cash flow available for distribution to the Trust unitholders. Lower prices may also reduce the amount of oil and natural gas that PCEC or the third-party operators can economically produce. PCEC entered into commodity derivative contracts to reduce the exposure of the revenues from oil production from the Underlying Properties to fluctuations in oil prices and to achieve more predictable cash flow. However, these contracts limit the amount of cash available for distribution if prices increase above the fixed hedge price. None of the Trust's exposure to natural gas prices is hedged.

PCEC entered into commodity derivative contracts with Wells Fargo Bank, National Association in order to mitigate the effects of falling commodity prices through March 31, 2014. The Trust is entitled to the effect of 2,000 barrels of daily swap volumes of ICE Brent crude oil at $115.00 per barrel during the twenty-four months ending March 31, 2014, proportional to the Trust's interest in the Developed Properties.

The amounts received by PCEC from the commodity derivative contract counterparty upon settlement of the commodity derivative contracts reduce the operating expenses related to the Underlying Properties in calculating net profits. In addition, the aggregate amounts paid by PCEC upon settlement of the commodity derivative contracts related to the Underlying Properties reduce the amount of net profits paid to the Trust.

For the year ended December 31, 2013, the Trust received net settlements from the commodity derivative contracts related to the Underlying Properties of approximately $4.6 million, which was approximately 6.6% of the total amount of cash the Trust received from PCEC in 2013. As the commodity derivative contracts expire as to production after March 31, 2014, the Trust will no longer have the benefit of the commodity derivative contracts. The Trust's future cash receipts should therefore be expected to be more volatile, and may well be lower, than they would have been if the commodity derivative contracts were of longer duration.


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Results of Operations

For the year ended December 31, 2013 and the period from May 8, 2012 through December 31, 2012, income from NPI received by the Trust amounted to $70.1 million and $41.3 million, respectively. The NPI received by the Trust for the year ended December 31, 2013 was primarily associated with the net profits for oil and natural gas production during the months of November and December 2012 and January through October 2013. The net profits income received by the Trust during 2012 was primarily associated with net profits for oil and natural gas production during the months of April through October 2012.

The following table displays PCEC's underlying sales volumes and average prices for the Underlying Properties, representing the amounts included in the net profits calculation for distributions paid during the year ended December 31, 2013 and from May 8, 2012 to December 31, 2012.

                                         Year Ended           May 8 through
                                      December 31, 2013     December 31, 2012
Developed Properties:
Underlying sales volumes (Boe) (a)             1,301,095               759,450
Average daily production (Boe/d)                   3,655                 3,204
Average price (per Boe)              $             98.59   $             99.23
Production cost (per Boe)            $             32.09   $             34.15

Remaining Properties:
Underlying sales volumes (Boe) (b)               297,195                35,772
Average daily production (Boe/d)                     814                   151
Average price (per Boe)              $             97.72   $             96.95
Production cost (per Boe)            $             19.12   $             24.40



(a) Oil sales represented 97% of total sales volumes from the Developed Properties for the year ended December 31, 2013 and the period from May 8, 2012 to December 31, 2012.

(b) Oil sales represented 100% of total sales volumes from the Remaining Properties.


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Computation of Net Profits Income Received by the Trust

The Trust's net profits and royalty income consist of monthly net profits and royalty income attributable to the Conveyed Interests. Net profits and royalty income for the year ended December 31, 2013 and for the period from May 8, 2012 to December 31, 2012 was determined as shown in the following table. The Trust did not receive any income for the three months ended March 31, 2012.

                                                        Year Ended            May 8 through
Thousands of dollars                                 December 31, 2013      December 31, 2012

Developed Properties-80% Net Profits Interest
Gross profits:
Oil sales                                           $           127,230    $            74,960
Natural gas sales                                                 1,048                    403
Total                                                           128,278                 75,363
Costs:
Direct operating expenses:
Lease operating expenses                                         38,099                 23,474
Production and other taxes                                        3,655                  2,464
Development expenses                                              6,064                    327
Total                                                            47,818                 26,265
Total income                                                     80,460                 49,098
Net Profits Interest                                                 80 %                   80 %
Income from Net Profits Interest                    $            64,368    $            39,279
Remaining Properties-25% Net Profits Interest
Total Revenues:
Oil sales                                           $            29,043    $             3,468
Total                                                            29,043                  3,468
7.5% Overriding Royalty Interest                                  2,125                    260
Costs:
Direct operating expenses:
Lease operating expenses                                          4,975                    873
Production and other taxes                                          708                      -
Development expenses                                             14,706                 23,226
Total                                                            20,389                 24,099
Total income (excess cost)                                        6,529                (20,891 )
Net Profits Interest                                                 25 %                   25 %
25% Net Profits Interest Income (Deficit)(1)        $             1,632    $            (5,223 )
Total Trust Cash Flow
80% Net Profit Interest                             $            64,368    $            39,279
7.5% Overriding Royalty Interest                                  2,125                    260
Settlement of commodity derivative contracts                      4,601                  2,364
PCEC operating and service fee                                   (1,012 )                 (583 )
Total                                               $            70,082    $            41,320
Trust general and administrative expenses and
cash withheld for expenses                                         (726 )                 (492 )
Distributable income                                $            69,356    $            40,828




                                                Twelve Months Ended       May 8 through
(1) 25% Net Profits Interest Accrued Deficit     December 31, 2013      December 31, 2012
Beginning balance                              $              (5,223 ) $                 -
Current period                                                 1,632                (5,223 )
Ending balance                                 $              (3,591 ) $            (5,223 )


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Year ended December 31, 2013 and period from May 8 to December 31, 2012

Income from the Developed Properties, before net settlements related to commodity derivative contracts, was approximately $64.4 million in 2013 compared to $39.3 million in 2012, reflecting a shorter period of operation during 2012. The increase in the excess revenue is attributed principally to the different period of operation, resulting in higher production compared to the previous period in 2012, partially offset by higher capital expenditures. Included in the net profits calculation were approximately $6.1 million and $38.1 million of capital expenditures and lease operating expenses, respectively. During 2012, approximately $0.3 million and $23.5 million of capital expenditures and lease operating expenses, respectively, were included in the net profits calculation.

For the Remaining Properties, NPI income was $1.6 million for the year ended December 31, 2013, compared to a deficit of $5.2 million for the period from May 8 through December 31, 2012. Since a cumulative deficit existed on the 25% net profits interest, the Trust received approximately $2.1 million in 2013 from the 7.5% Overriding Royalty attributable to the sale of all production from the Remaining Properties located on PCEC's Orcutt Properties. Costs exceeded gross proceeds by $20.9 million for 2012, therefore the Trust received $0.3 million from the 7.5% Overriding Royalty attributable to the sale of all production from the Remaining Properties located on PCEC's Orcutt Properties. The cumulative deficit of the net profits interest on the Remaining Properties, including the 7.5% Overriding Royalty, was approximately $3.6 million at December 31, 2013.

Net settlement receipts related to the commodity derivative contracts were $4.6 million for 2013 compared to $2.4 million for 2012.

PCEC charged the Trust $1.0 million and $0.6 million for the Operating and Service Fee during 2013 and 2012, respectively. The annual amount of the Operating and Service Fee was $1.0 million from April 1, 2012 through March 31, 2013. Commencing April 1, 2013, the Operating and Services Fee increased 2% to $1,021,000 based on changes to the CPI. The fee will adjust annually each April 1.

The total cash received by the Trust from PCEC in 2013 was approximately $70.1 million compared to approximately $41.3 million in 2012. The Trustee paid general and administrative expenses of $0.7 million during 2013 compared with $0.5 million during 2012. Expenses paid for the year ended December 31, 2013 and prior period ended December 31, 2012 consisted primarily of Trustee fees, accounting, tax and legal fees and New York Stock Exchange listing fees. Distributable income was approximately $69.4 million and $40.8 million, respectively, for 2013 and 2012.

Liquidity and Capital Resources

Other than Trust administrative expenses, including any reserves established by the Trustee for future liabilities, the Trust's only use of cash is for distributions to Trust unitholders. Available funds are the excess cash, if any, received by the Trust from the Conveyed Interests and other sources (such as interest earned on any amounts reserved by the Trustee) in that month, over the Trust's expenses paid for that month. Available funds are reduced by any cash the Trustee determines to hold as a reserve against future expenses.

The Trustee may create a cash reserve to pay for future liabilities of the Trust. If the Trustee determines that the cash on hand and the cash to be received are, or will be, insufficient to cover the Trust's liabilities, the Trustee may cause the Trust to borrow funds to pay liabilities of the Trust. The Trustee may also cause the Trust to mortgage its assets to secure payment of the indebtedness. If the Trustee causes the Trust to borrow funds, the Trust unitholders will not receive distributions until the borrowed funds are repaid. As of December 31, 2013 the Trust had cash on hand of $39,005 for future Trust expenses.

The Trust calculates net profits and royalties from the Underlying Properties separately for each of the Developed Properties and the Remaining Properties. Any excess costs for either the Developed Properties or the Remaining Properties do not reduce net profits calculated for the other. Similarly, the cash on hand for either the Developed Properties or the Remaining Properties is not applied to cover the costs of the other.

Each month, the Trustee pays Trust obligations and expenses and distribute to the Trust unitholders the remaining proceeds received from the Conveyed Interests. The cash held by the Trustee as a reserve against future liabilities or for distribution at the next distribution date may be invested in a limited number of permitted investments. Alternatively, cash held for distribution at the next distribution date may be held in a noninterest bearing account.

PCEC has provided the Trust with a $1.0 million letter of credit to be used by the Trust in the event that its cash on hand (including available cash reserves) is not sufficient to pay ordinary course administrative expenses as they become due.


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Further, if the Trust requires more than the $1.0 million under the letter of credit to pay administrative expenses, PCEC has agreed to loan funds to the Trust necessary to pay such expenses. Any funds provided under the letter of credit or loaned by PCEC may only be used for the payment of current accounts or other obligations to trade creditors in connection with obtaining goods or services or for the payment of other accrued current liabilities arising in the ordinary course of the Trust's business, and may not be used to satisfy Trust indebtedness. If the Trust draws on the letter of credit or PCEC loans funds to the Trust, no further distributions will be made to Trust unitholders (except in respect of any previously determined monthly cash distribution amount) until such amounts drawn or borrowed, including interest thereon, are repaid. Any loan made by PCEC will be on an unsecured basis, and the terms of such loan will be substantially the same as those which would be obtained in an arm's-length transaction between PCEC and an unaffiliated third party.

The Trustee has no current plans to authorize the Trust to borrow money. During 2013, there were no borrowings and no draws on the letter of credit.

Distributions Paid and Declared After Year End

On January 15, 2014 the distribution of $0.12833 per Trust Unit, which was declared on December 23, 2013 was paid to Trust unitholders owning Trust Units as of January 6, 2014.

Subsequent to December 31, 2013, the Trust declared the following distributions:

Declaration Date      Record Date        Payment Date       Distribution per Unit
January 23, 2014    February 5, 2014   February 14, 2014   $               0.13396
February 25, 2014   March 6, 2014      March 14, 2014      $               0.12574

Off-Balance Sheet Arrangements

The Trust has no off-balance sheet arrangements and does not have any transactions, arrangements or other relationships with unconsolidated entities or persons that could materially affect the Trust's liquidity or the availability of capital resources.

Contractual Obligations



A summary of the Trust's contractual obligations as of December 31, 2013 is
provided in the following table (in thousands):



                                                Payments Due by Year
Thousands of dollars     2014      2015      2016      2017      2018     After 2018   Total
PCEC Operating and
Services fee            $ 1,032   $ 1,036   $ 1,036   $ 1,036   $ 1,036      (a)        (a)
Trustee
Administrative fee          200       200       200       200       200      (b)        (b)
Delaware Trustee fee          2         2         2         2         2      (b)        (b)
Total                   $ 1,234   $ 1,238   $ 1,238   $ 1,238   $ 1,238



(a) Under the terms of the Operating and Services Fee Agreement, the Trust pays a monthly operational and services fee to PCEC. The fee will change annually each April 1 based on changes to the Consumer Price Index.

(b) Under the terms of the Trust Agreement, the Trust pays an annual administrative fee of $200,000 to the Trustee and $2,000 to the Delaware Trustee. Because the term of the NPI and the Trust are not limited, the aggregate amounts of future payments cannot be calculated.

Accounting Pronouncements

As the Trust's financial statements are prepared on the modified cash basis, most accounting pronouncements are not applicable to the Trust's financial statements. No new accounting pronouncements have been adopted or issued that would impact the financial statements of the Trust.


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Critical Accounting Policies and Estimates

The Trust uses the modified cash basis of accounting to report Trust receipts of the Conveyed Interests and payments of expenses incurred. The NPI represent the right to receive revenues (oil and natural gas sales), less direct operating . . .

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