Texas Pacific Land Corporation

philosophy, which ultimately contributes substantial free cash flow to the overall entity while also accelerating development of our oil and gas royalty interest. This most recent quarter is a great example of the built-in hedges that protect TPL during periods of volatile commodity prices. Although oil and gas royalty production this quarter increased 26% year-over-year, our oil and gas royalty revenues were still down 32% due to WTI crude oil and Henry Hub natural gas prices They declined approximately 32% and 71%, respectively. However, for that same quarterly year-over-year comparison, our source water revenues were up 69%, produce water revenues up 12%, and swim revenues were up 34%. During this last quarter, these surface-derived revenue streams in aggregate comprised 48% of TPL's overall consolidated revenues. and helped maintain strong consolidated earnings and free cash flow despite much lower commodity prices. For SLIM specifically, we're seeing broad strength across each subcategory. Pipeline easements, electric line easements, and caliche sales have been especially good as operators deplete duck inventory and push development across broader areas. Our team of land agents and GIS specialists has done a tremendous job working with upstream, midstream, and other operators to accommodate their development needs and procure revenue opportunities for our surface. Turning to water, during the quarter we averaged over 700,000 barrels per day of source water sales volumes, driven by robust brackish and treated water demand. Year-to-date through second quarter 2023, total source, treated, and brokered water volumes are up 31% year-over-year. For the last 12 months, we've sold nearly 200 million barrels of water, and many of those barrels were used to complete oil and gas wells on TPL Royalty Acreage. Produced water volumes during the quarter averaged approximately 2.3 million barrels per day. Just as a reminder, TPL contracts with operators and other third parties for use of our surface for produced water facilities, including disposal wells, and we generate a contracted fee for produced water barrels. Reduced water volumes for second quarter 2023 are up 15% year-over-year. This was by far our best-ever quarterly revenue and free cash flow performance for the water business, contributing just under $60 million of high-margin revenue while only spending less than $2 million in capex. The cumulative efforts of prior capital investments and commercial negotiations going back to the inception of our dedicated in-house water business in 2017 are paying substantial dividends today. In many of our water contracts with operators, we have negotiated exclusive offtake of produced water across large areas of mutual interest. This is an important feature because it provides TPL holistic control over both source and produced water throughout the basin and across our surface. It allows us to continue sales of brackish water while also providing us incremental upside and opportunities to reuse and treat produced water for completion activities. Our operations team also deserves tremendous credit for procuring and moving water for our customers at volume levels we've never done before. TPL continues to demonstrate its ability to offer a full spectrum of reliable water services. During the last quarter, we spent approximately $20 million to acquire 12,000 surface acres in Andrews County along the Texas-New Mexico state line. This acreage fits nicely with our current surface footprint and will provide incremental opportunities for our teams to pursue and commercialize. As previously disclosed, on November 22, 2022, the company filed a complaint to the Delaware Chancery Court to resolve a disagreement with Horizon Kinetics LLC, Horizon Kinetics Asset Management LLC, SoftBest Advisors LLC, and SoftBest LP over their voting commitments pursuant to a stockholder's agreement with the company. We recently concluded the trial, and we're now waiting for the court to issue its opinion. We expect that to happen in due course, and we will update our stockholders when we have more to share. Also, the company recently announced that it has nominated Marguerite Woong Chapman and Robert Rusa as two independent director nominees for election at the upcoming 2023 annual meeting of stockholders. Both candidates bring a strong mix of industry skills and experience. Current directors and co-chairs of the board, David Berry and John Norris, have decided to retire and not stand for re-election at the 2023 annual meeting. Dave and John have been involved with the company for decades, back to its days as a trust. They have always been great stewards of the company and have played a pivotal role in helping the company achieve the success it enjoys today. Without their support, TPL would not have a water or service business or the professional administration anywhere near the scale and expertise it has today. They saw and understood the potential that TPL's unique assets possess, and they took a chance to support a pivot to active management. On behalf of the entire management team here at TPL, we are thankful for their service, guidance, leadership, and friendship over the years, and they will leave behind an exceptional legacy at TPL. With that, I'll turn the call over to Chris. Thanks, Ty.

Total revenues for the second quarter of 2023 were $161 million, representing a 10% increase from the first quarter 2023 revenues. As previously discussed, revenues benefited from higher royalty production, source water sales, produced water royalties, and SLIM revenues, though partially offset by lower oil and gas prices. Adjusted EBITDA and free cash flow for the quarter were $134 million and $105 million, respectively. Consolidated CapEx was $1.4 million, with most of the spend related to the water business. We ended the quarter with $609 million of cash on the balance sheet. Royalty production of approximately 24,900 barrels of oil equivalent per day represents a 19% increase on a sequential quarter basis. Although we continue to maintain that individual quarterly production figures can be lumpy, the underlying production on our royalty acreage continues to trend upward. This is further supported by new well data as recent permits, spuds, and completions remain high across both our Midland and Delaware footprints. In particular, activity in central Midland, Loving, Reeves, and Culberson counties are especially strong. Our oil price realizations remain high, with second quarter 2023 average realized oil price of $73 per barrel, which represents an approximate 100% realization relative to WTI Cushing price per barrel. However, our natural gas and natural gas liquids realizations weakened this quarter relative to prior quarter realizations. Infrastructure constraints and downtime, among other factors, continue to suppress local West Texas price realizations for many operators. For TPL, this is somewhat mitigated as we benefit from additional infrastructure build-out to our SLIM business as new pipelines, processing facilities, and other logistics assets generate easement and lease opportunities. In addition, our royalty acreage is dominated by supermajors and large independent EMPs that tend to own and or commit to new infrastructure, which generally provides them better netbacks compared to smaller public and private operators. As more infrastructure is developed and completed, we would expect our realizations to improve. For this quarter, we have maintained our $3.25 per share dividend. We also spent approximately $20 million to repurchase approximately 14,000 shares. And with that, operator, we will now take questions.

We will now begin the question and answer session. To ask a question, you may press star and 1 on your telephone. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star and then 2. At this time, I will announce the first questioner, which is Derek Whitefield from Stiefel. Please go ahead.

Good morning all and congrats on a strong quarter. For my first question, I wanted to focus on the substantial strength in water resources this quarter. With the understanding that source water is activity driven and this is the best quarter you've posted in the history of the business, I wanted to ask if you could elaborate on some of the drivers underpinning the strength to allow us to better assess sustainability post Q2.

Yeah, look, the water team did a phenomenal job this past quarter. We saw strength across brackish water cells, treatment volumes, as well as produce water. The team really pushed the limits of our system, delivering over 700,000 barrels a day. And there's a couple of reasons for that increase in volume this quarter. One is increased activity in contracted areas of mutual interest. We've talked about those type of agreements in the past where we contract a big area of mutual interest with our operators and they're obligated to purchase water from us. The team also did a fantastic job of selling water outside of our footprint. This quarter, over 60% of our water sales were off of PPL acreage. And that's purely from our business development team and water team expanding our reach beyond our footprint. So I think we'll continue to see strong activity levels throughout the year. This quarter may be a high watermark for the year, but when we look at our backlog of sales, we continue to see some strength in the near term.

That's great. And maybe along the same lines, how should we think about your production trajectory given the strength of Q2 production and your line-of-sight activity?

Hey, Derek, I'll take that one. You know, when we look at the underlying production data on kind of a production day basis, it supports what we're seeing. And, you know, like we said, any given quarter can always be a little bit lumpy. But when we kind of look at the average of the first half of 23, we think that's probably a pretty good reflection of where the business is at. And, you know, as we've kind of stated, when we look at some of the near-term inventory, ducks, completions that are occurring, you know, we feel good that the trajectory for the rest of the year should include some continued growth. So that's how we're kind of thinking about it right now.

Chris, maybe ask slightly differently from my side. When we look at your line-of-sight activity, how many of those net wells would be required to maintain production?

Yeah, you know, Derek, it's a good question. And those numbers always move around as production grows. But, you know, when we think about it, I think something probably in the neighborhood of like eight net wells, give or take. That's probably about the level we would need for flat production and maintenance.

All right, that's very helpful. And maybe just one final follow-up from my side. Regarding the surface acquisition you announced in Q2, could you briefly touch on the strategic importance of that area and perhaps more broadly also just touch on the competitive landscape for surface and royalty opportunities across the basin?

Yeah, that particular acquisition, it was a little over 12,000 acres in Andrews County along the state line. So non-marketed deal that we sourced through internal relationships here on the team. But really, when we buy surface, we're thinking about how does that potential acquisition fit into our current footprint, and then also just our broader asset portfolio, and then you know, really what are the commercial opportunities that we see to take a raw piece of land like that and commercialize it. So, you know, what kind of surface opportunities, source water, produce water, other, you know, next-gen opportunities we think we could commercialize, you know, both in near-term and long-term. But we really like the optionality that that state line acreage gives us. You know, if you look at some of our past surface acquisitions, they've been along the state line. Those have been great investments, and, you know, With all of the activity that crosses the state line from New Mexico into Texas, we just feel like that's a really good option for us. I think as far as the overall market, it's very competitive on the royalty side right now. On the surface side, probably a little less competitive, but maybe fewer opportunities out there to take an asset that's been underutilized. realize some additional value through commercialization. But we do think there's still a lot of opportunity left.

That's great. Terrific, Keller. Thanks for your time. Thanks, Derek. The next question comes from Hamed Korsant from VWS Financial.

Please go ahead.

Good morning. My first question was, on the water side, what would the hindrance be to grow further? If you're doing record pace now, you obviously have a greater capacity than you first thought.

Why do you think Q2 was the high water mark?

Look, I don't know that it necessarily will be the high water mark, but when you have a quarter like this, looking at the back half of the year, our water cells usually taper off towards the end of the year just because there's less activity in the fourth quarter. But to have a quarter like this deliver these kind of volumes is fantastic. The team continues to work hard to source additional barrels off of our footprint. We're also seeing increased activity in on our footprint, so I think sales will continue to be strong.

And on the easement side of the business, I saw on the queue that you had an increase related to pipeline easement. Will that be recurring, that $2.4 million?

So most of our pipeline easements are on term agreements. that will recur. I assume that's what you're asking, if those are recurring agreements. The majority of those are, yes.

Okay. And then what's the appetite to do more of these land acquisitions and what's the attractiveness that you need to do something like this again?

Well, our appetite's strong. We're always looking. Like I said earlier, we're looking for assets that have maybe yet to be commercialized or maybe that's just been unrealized. Looking for something that we feel like the expertise that we have here on our team can add some additional value through commercialization, whether that's on the water side of the business, the swim side of the business, You know, just anything that we feel like the knowledge that we have in-house could create some additional value or the relationships that we have throughout the industry could create some additional value.

That's what we're looking for. Okay, great. Thank you. Thanks, Matt. Thanks, Matt. This concludes our question and answer session.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.