Texas Pacific Land Corporation

and welcome to Texas Pacific Land Corporation first quarter 2024 earnings call. At this time, all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Sean Amini, Vice President, Finance and Investor Relations. Thank you, Mr. Amini. You may begin.

Thank you for joining us today for Texas Pacific Land Corporation's first quarter 2024 earnings conference call. Yesterday afternoon, the company released its financial results and filed its Form 10-Q with the Securities and Exchange Commission, which is available on the investor section of the company's website at www.texaspacific.com. In addition, the company has posted an investor presentation that we will be referencing today. That presentation related to produce water desalination and beneficial reuse can be found in the investor section of our website under presentations. It is also posted under the events section on our website, which can be accessed through the news and media tab and then IR calendar. As a reminder, remarks made on today's conference call may include forward-looking statements. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those discussed today. We do not undertake any obligation to update our forward-looking statements in light of new information or future events. For more detailed discussion of the factors that may affect the company's results, please refer to our earnings release for this quarter and to our most recent SEC filings. During this call, we will also be discussing certain non-GAAP financial measures. More information and reconciliations about these non-GAAP financial measures are contained in our earnings release and SEC filings. Please also note we may at times refer to our company by its stock ticker, TPL. This morning's conference call is hosted by TPL's Chief Executive Officer, Ty Glover, Executive Vice President of Texas Pacific Water Resources, Robert Crane, and TPL's Chief Financial Officer, Chris Dedham. Management will make some prepared comments, after which we will open the call for questions. Now, I will turn the call over to Ty.

Good morning, everyone, and thank you for joining us today. Driven by the continued strength of our surface-derived cash flows, our first quarter 2024 results are an excellent start to the year. Water sales, produced water royalties, and easements and other surface-related income in aggregate had revenue growth of 19% sequential quarter-over-quarter, which totaled approximately $81 million and accounted for nearly 50% of total consolidated revenues. This was another especially great quarter for water sales as it generated $37 million of revenues, which was nearly a company record. Our source water asset footprint combined with our excellent staff were able to push volumes throughout the Permian Basin with 72% of volumes occurring outside of TPL's surface acreage. Oil and gas royalty production of approximately 24,800 barrels of oil equivalent per day also represents strong performance. Our near-term inventory of permits and drilled but uncompleted wells remain at robust levels, which combined with high activity levels on our water and surface assets indicates royalty production will continue to perform well. On capital allocation, the company and our board continue to evaluate all of our options as the business continues to generate considerable free cash flow and maintains a net cash position of $837 million. This affords us tremendous ability to drive value throughout the energy cycle. I do want to spend the majority of my time this morning talking about some exciting news for TPL. As Shawn mentioned, we posted a presentation relating to produce water desalination and beneficial reuse, and I will be referencing those slides. Our remarks today will serve two purposes. First, to give an update on our technology efforts related to produce water, and second, to give an understanding of the state of the produce water market in the Permian today. the latter of which has been getting an increasing amount of attention throughout the industry. Starting with slide two, there are two components to what we announced yesterday. First, we have developed a promising new energy efficient method of produced water desalination. Although water desalination can be done today utilizing multiple methods and technologies, the challenge has always been doing so cost effectively. Desalinating produced water also presents some unique challenges compared to normal ocean or brine water. Over the last few years, our team has been studying a wide array of technologies, hoping to find something that could work economically at scale in the oil field. It may seem both simple yet counterintuitive, but we wondered if we could leverage a process that happens every day in people's home. Water turning into ice. We began to look more closely at this process, which is also referred to as fractional freezing. At first glance, it seemed nonsensical to make ice in a desert in West Texas. However, after running in-house experiments and further research, we pursued the idea in earnest. We reached out to a leading industrial technology and manufacturing firm located here in the United States. Over the course of a couple of years, we collaborated on various ideas and techniques After eventually finding success with the prototype, we quickly constructed a small-scale test unit in TPL's R&D facility in Midland. That test trial was a success and we are moving forward with a larger test facility capable of processing 10,000 produced water barrels per day with expansion potential to 20,000 barrels per day. The second aspect of our announcement relates to beneficial reuse. If we're able to desalinate produced water economically at scale, then it opens up a world of possibilities in terms of what to do with that water. We've been conducting detailed studies in our lab to understand whether desalinated produced water could be used to grow various crops and native grasses. Our lab has a greenhouse, which is pictured on this slide. Here we use various local soils and native plants to understand the impact of utilizing fully desalinated and treated water. In addition to the extensive in-house testing and analytic capabilities, we have also partnered with leading research institutions specializing in water quality, soil, and plant testing. We have another parallel beneficial reuse program underway as we are exploring discharge of desalinated and fully treated water into tributaries that feed into the Pecos River and potentially direct discharge to the surface for aquifer recharge. Across both of these beneficial reuse paths, we are working closely with regulators and have made significant progress with both permitting and stakeholder engagement. Robert Crane, who leads our water team, will discuss these desalination and beneficial reuse initiatives in greater detail later on this call. Ultimately, if everything goes well, our intent is to bring large-scale produce water desalination solutions to the Permian Basin. TPL has created a subsidiary called Transmissive Water Services LLC to house our desalination and beneficial reuse efforts. Transmissive is a wholly owned subsidiary of Texas Pacific Water Resources LLC, or TPWR for short, which itself is a wholly owned subsidiary of TPL. We are currently in commercial negotiations with Blue Chip upstream operators as we move towards the next phase of constructing a larger desalination test facility. Interest has been incredibly high as oil and gas operators understand how critical this type of technology is to keep the Permian oil and gas machine going. This first 10,000-barrel-per-day facility, which we refer to as Phase II, will cost approximately $20 million on a 100% basis, though our aim is to offset a substantial amount of TPL capital costs with any commercial arrangements. Longer term, our intent and desire is to structure commercial arrangements that align with TPL's ongoing business principles of high margin, capital-like cash flows. We've had tremendous success with that model in the past as our team was able to turn TPL's raw surface acreage ownership into a business that last year collectively generated over $250 million of high margin revenue. So we have the proven track record. Sure, our desalination technology and beneficial reuse advances get to a point where we can help launch a large-scale build-out throughout the Permian Basin. I'm confident in our ability to execute agreements and strategic partnerships in a manner that generates significant shareholder value. Turning to slide three, titled Produce Water Overview. These next couple of slides are for the benefit of current and prospective investors that may not be completely apprised at the state of the Permian-produced water market, but I'd like to provide additional context around what TPL is trying to solve. The term produced water refers to the water that is a coproduct from a producing oil and gas well. This water has very high salinity levels and contains oil and suspended solids and heavy metals. Because untreated produce water is not safe for crop irrigation or municipal use, there are two methods in which the industry deals with it. The most common method is to re-inject produce water back subsurface. For many years, the water was injected into subsurface formations either above or below oil-bearing shale formations. Due to the high levels of development activity and high water cuts experienced in the permeate basin, The industry has begun to experience constraints concerning traditional disposal into both of these zones. The high volumes of deep formation injection is suspected to cause seismicity in local areas as injected water can find its way into natural faults. The Texas Railroad Commission, which regulates the oil and gas industry in Texas, has responded by instituting numerous seismic response areas, or SRAs, in certain regions. These SRAs have put restrictions on how much water can be injected. The industry has since pivoted to injections strictly targeting the shallower formations, hoping to avoid some of the faulting issues. Although injection into shallow formations does work, it presents additional complexity for upstream operators who plan to develop overlapping oil and gas acreage, which they would now potentially be drilling through a more highly pressured zone. The other common solution for produced water today is to reuse or recycle that water for oil and gas completion activities, otherwise known as fracking. Upstream operators can use raw produced or lightly treated produced water to complete new wells. However, given the sheer amount of produced water volumes that come from the Permian, even if operators were to use only produced water in their completion activities, the Permian could still have north of 10 million barrels of produced water that would need to find a home.