BP PRUDHOE BAY ROYALTY TRUST - Quarter Report: 2020 June (Form 10-Q)
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2020
OR
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 1-10243
BP PRUDHOE BAY ROYALTY TRUST
(Exact Name of Registrant as Specified in Its Charter)
| Delaware | 13-6943724 | |
| (State or Other Jurisdiction of Incorporation or Organization) |
(I.R.S. Employer Identification No.) | |
| The Bank of New York Mellon Trust Company, N.A., 601 Travis Street, Houston, TX |
77002 | |
| (Address of Principal Executive Offices) | (Zip Code) | |
Registrant’s Telephone Number, Including Area Code: (713) 483-6020
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (17 CFR § 232.405) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☐ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
| Large Accelerated filer | ☐ | Accelerated filer | ☑ | |||
| Non-accelerated filer | ☐ | Smaller reporting company | ☐ | |||
| Emerging growth company | ☐ | |||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) Yes ☐ No ☑
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class |
Trading |
Name of each exchange | ||
| Units of Beneficial Interest | BPT | New York Stock Exchange |
As of August 10, 2020, 21,400,000 Units of Beneficial Interest were outstanding.
PART I
FINANCIAL INFORMATION
| Item 1. | Financial Statements |
BP Prudhoe Bay Royalty Trust
Statements of Assets, Liabilities and Trust Corpus
(Prepared on a modified cash basis)
(Unaudited)
(In thousands, except unit data)
| June 30, 2020 |
December 31, 2019 |
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| Assets |
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| Cash and cash equivalents (Note 2) |
$ | 479 | $ | 1,151 | ||||
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| Total assets |
$ | 479 | $ | 1,151 | ||||
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| Liabilities and Trust Corpus |
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| Accrued expenses |
$ | 288 | $ | 253 | ||||
| Royalty deposit liability (Note 8) |
67 | — | ||||||
| Trust corpus (40,000,000 units of beneficial interest authorized, 21,400,000 units issued and outstanding) |
124 | 898 | ||||||
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| Total liabilities and trust corpus |
$ | 479 | $ | 1,151 | ||||
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See accompanying notes to financial statements (unaudited).
BP Prudhoe Bay Royalty Trust
Statements of Cash Earnings and Distributions
(Prepared on a modified cash basis)
(Unaudited)
(In thousands, except unit data)
| Three Months Ended June 30, |
Six Months Ended June 30, |
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| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Royalty revenues |
$ | (67 | ) | $ | 7,748 | $ | 9,270 | $ | 29,507 | |||||||
| Interest income |
4 | 10 | 11 | 19 | ||||||||||||
| Less: Trust administrative expenses |
(689 | ) | (312 | ) | (942 | ) | (638 | ) | ||||||||
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| Cash earnings (loss) |
$ | (752 | ) | $ | 7,446 | $ | 8,339 | $ | 28,888 | |||||||
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| Cash distributions |
$ | — | $ | 7,381 | $ | 9,078 | $ | 28,844 | ||||||||
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| Cash distributions per unit |
$ | — | $ | 0.3449 | $ | 0.4242 | $ | 1.3479 | ||||||||
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| Units outstanding |
21,400,000 | 21,400,000 | 21,400,000 | 21,400,000 | ||||||||||||
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See accompanying notes to financial statements (unaudited).
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BP Prudhoe Bay Royalty Trust
Statements of Changes in Trust Corpus
(Prepared on a modified cash basis)
(Unaudited)
(In thousands)
| Three Months Ended June 30, |
Six Months Ended June 30, |
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| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Trust corpus at beginning of period |
$ | 475 | $ | 698 | $ | 898 | $ | 692 | ||||||||
| Cash earnings (loss) |
(752 | ) | 7,446 | 8,339 | 28,888 | |||||||||||
| Decrease (increase) in accrued expenses |
401 | (29 | ) | (35 | ) | (2 | ) | |||||||||
| Cash distributions |
— | (7,381 | ) | (9,078 | ) | (28,844 | ) | |||||||||
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| Trust corpus at end of period |
$ | 124 | $ | 734 | $ | 124 | $ | 734 | ||||||||
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See accompanying notes to financial statements (unaudited).
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BP Prudhoe Bay Royalty Trust
Notes to Financial Statements
(Prepared on a modified cash basis)
June 30, 2020
| (1) | Formation of the Trust and Organization |
BP Prudhoe Bay Royalty Trust (the “Trust”), a grantor trust, was created as a Delaware business trust pursuant to a Trust Agreement dated February 28, 1989 (the “Trust Agreement”) among The Standard Oil Company (“Standard Oil”), BP Exploration (Alaska) Inc. (“BP Alaska”) (now known as Hilcorp North Slope, LLC (“HNS”)1, The Bank of New York Mellon, as trustee, and BNY Mellon Trust of Delaware (successor to The Bank of New York (Delaware)), as co-trustee. On December 15, 2010, The Bank of New York Mellon resigned as trustee and was replaced by The Bank of New York Mellon Trust Company, N.A., a national banking association, as successor trustee (the “Trustee”).
On February 28, 1989, Standard Oil conveyed an overriding royalty interest (the “Royalty Interest”) to the Trust. The Trust was formed for the sole purpose of owning and administering the Royalty Interest. The Royalty Interest represents the right to receive a per barrel royalty (the “Per Barrel Royalty”) of 16.4246% on the lesser of (a) the first 90,000 barrels of the average actual daily net production of oil and condensate per quarter or (b) the average actual daily net production of oil and condensate per quarter from HNS’s working interests as of February 28, 1989 in the Prudhoe Bay field situated on the North Slope of Alaska (the “1989 Working Interests”). Trust Unit holders are subject to the risk that production will be interrupted or discontinued or fall, on average, below 90,000 barrels per day in any quarter. BP guaranteed the performance of BP Alaska of its payment obligations with respect to the Royalty Interest and that guarantee remains in place with respect the performance of HNS of such payment obligations.
Effective January 1, 2000, BP Alaska and all other Prudhoe Bay working interest owners cross-assigned interests in the Prudhoe Bay field pursuant to the Prudhoe Bay Unit Alignment Agreement. BP Alaska retained all rights, obligations, and liabilities associated with the Trust.
The trustees of the Trust are The Bank of New York Mellon Trust Company, N.A. and BNY Mellon Trust of Delaware, a Delaware banking corporation. BNY Mellon Trust of Delaware serves as co-trustee in order to satisfy certain requirements of the Delaware Statutory Trust Act. The Bank of New York Mellon Trust Company, N.A. alone is able to exercise the rights and powers granted to the Trustee in the Trust Agreement.
| 1 | As noted in the Trust’s Current Report on Form 8-K dated July 6, 2020, on July 1, 2020, BP p.l.c. (“BP”) announced the completion of the “upstream” part of its planned $5.6 billion sale of assets and operations in Alaska to Hilcorp Alaska, including the transfer of leases in the Prudhoe Bay oil field and Point Thomson gas field. The completed portion of the sale also includes the previously announced acquisition by Hilcorp Alaska of BP’s interest in BP Alaska, that owned all of BP’s upstream oil and gas interest in Alaska (including oil and gas leases in the Prudhoe Bay field). The sale involving BP’s “midstream” assets, including its interest in the Trans Alaska Pipeline System (TAPS), remains subject to Alaska state regulatory review, which is expected to be completed in September 2020. On July 1, 2020, BP Alaska, a Delaware corporation, converted to a Delaware limited liability company and changed its name to “Hilcorp North Slope, LLC”. |
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BP Prudhoe Bay Royalty Trust
Notes to Financial Statements
(Prepared on a modified cash basis)
June 30, 2020
The Per Barrel Royalty in effect for any day is equal to the price of West Texas Intermediate crude oil (the “WTI Price”) for that day less scheduled Chargeable Costs (adjusted for inflation) and Production Taxes (based on statutory rates then in effect).
The Trust is passive, with the Trustee having only such powers as are necessary for the collection and distribution of revenues, the payment of Trust liabilities, and the protection of the Royalty Interest. The Trustee, subject to certain conditions, is obligated to establish cash reserves and borrow funds to pay liabilities of the Trust when they become due. The Trustee may sell Trust properties only (a) as authorized by a vote of the Trust Unit holders, (b) when necessary to provide for the payment of specific liabilities of the Trust then due (subject to certain conditions) or (c) upon termination of the Trust. Each Trust Unit issued and outstanding represents an equal undivided share of beneficial interest in the Trust. Royalty payments are received by the Trust and distributed to Trust Unit holders, net of Trust expenses, in the month succeeding the end of each calendar quarter. The Trust will terminate (i) upon a vote of holders of not less than 60% of the outstanding Trust Units, or (ii) at such time the net revenues from the Royalty Interest for two successive years are less than $1,000,000 per year (unless the net revenues during such period are materially and adversely affected by certain events constituting “Force Majeure”, as defined in the Trust Agreement).2
| (2) | Impact of COVID-19 Pandemic and Liquidity |
A novel strain of coronavirus, SARS-CoV-2 (severe acute respiratory syndrome coronavirus 2), surfaced in late 2019 and has since spread around the world. In March 2020, the World Health Organization characterized the disease caused by the virus—COVID-19—as a pandemic. Due to the economic impacts of the COVID-19 pandemic, the markets have experienced a decline in oil prices in response to oil demand concerns further exacerbated by the price war among members of the Organization of Petroleum Exporting Countries and other non-OPEC producer nations during the first quarter 2020 and global storage considerations. There was no royalty payment received by the Trust in April 2020 for the quarter ended March 31, 2020 or in July 2020 for the quarter ended June 30, 2020. If oil prices remain depressed and at current levels, which are below the “break-even” WTI price of $54.34 in order for the Trust to receive a positive Per Barrel Royalty with respect to a particular day’s production, the Trust’s operations will continue to be adversely impacted.
| 2 | “Force Majeure” is defined in Section 9.01 of the Trust Agreement to mean the following: |
(i) acts of God; strikes, lockouts or other industrial disturbances; acts of public enemies; orders or restraints of any kind of the government of the United States or of the State of Alaska or any of their departments, agencies, political subdivisions or officials, or any civil or military authority; insurrections; civil disturbances; riots; epidemics [emphasis added]; sabotage; war, whether or not declared; landslides; lightning; earthquakes; fires; hurricanes; winds; tornados; storms; droughts; floods; arrests; restraint of government and people; explosions; breakage, malfunction or accident to facilities, machinery, transmission pipes or canals; partial or entire failure of utilities; shortages of labor, materials, supplies or transportation; or
(ii) any other cause, circumstance or event (other than depletion of the petroleum reservoir in which the Trust has an interest) not reasonably within the control of the Company.
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BP Prudhoe Bay Royalty Trust
Notes to Financial Statements
(Prepared on a modified cash basis)
June 30, 2020
In order to ensure that the Trust has the ability to pay future expenses, the Trust established a cash reserve account, which is intended to be sufficient to pay approximately one year’s current and expected liabilities and expenses of the Trust. If the Trust does not receive additional royalty payments during the remainder of 2020 or in the first quarter of 2021, the Trust’s ability to meet its obligations would be adversely affected, which raises substantial doubt about its ability to continue as a going concern. As noted above, as a general matter, the Trust is expected to terminate at such time the net revenues from the Royalty Interest for two successive years are less than $1,000,000 per year.
| (3) | Basis of Accounting |
The financial statements of the Trust are prepared on a modified cash basis and reflect the Trust’s assets, liabilities, corpus, earnings, and distributions, as follows:
| a. | Revenues are recorded when received (generally within 15 days of the end of the preceding quarter) and distributions to Trust Unit holders are recorded when paid. |
| b. | Trust expenses (which include accounting, engineering, legal, and other professional fees, trustees’ fees, and out-of-pocket expenses) are recorded on an accrual basis. |
| c. | Cash reserves may be established by the Trustee for certain contingencies that would not be recorded under generally accepted accounting principles. |
While these statements differ from financial statements prepared in accordance with accounting principles generally accepted in the United States of America, the modified cash basis of reporting revenues and distributions is considered to be the most meaningful because quarterly distributions to the Trust Unit holders are based on net cash receipts. These modified cash basis financial statements are unaudited but, in the opinion of the Trustee, include all adjustments necessary to present fairly the assets, liabilities and corpus of the Trust as of June 30, 2020 and December 31, 2019, and the modified cash basis of earnings and distributions and changes in Trust corpus for the three and six-month periods ended June 30, 2020 and 2019. The adjustments are of a normal recurring nature and are, in the opinion of the Trustee, necessary to fairly present the results of operations.
As of June 30, 2020 and December 31, 2019, cash equivalents which represent the cash reserve consist of a Morgan Stanley ILF Treasury Fund and U.S. Treasury Bills with original maturities of ninety days or less.
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BP Prudhoe Bay Royalty Trust
Notes to Financial Statements
(Prepared on a modified cash basis)
June 30, 2020
Estimates and assumptions are required to be made regarding assets, liabilities and changes in Trust corpus resulting from operations when financial statements are prepared. Changes in the economic environment, financial markets and any other parameters used in determining these estimates could cause actual results to differ, and the differences could be material.
These unaudited financial statements should be read in conjunction with the financial statements and related notes in the Trust’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019. The cash earnings and distributions for the interim periods presented are not necessarily indicative of the results to be expected for the full year.
| (4) | Royalty Interest |
At inception in February 1989, the Royalty Interest held by the Trust had a carrying value of $535,000,000. In accordance with generally accepted accounting principles, the Trust amortized the value of the Royalty Interest based on the units of production method. Such amortization was charged directly to the Trust corpus, and did not affect cash earnings. In addition, the Trust periodically evaluated impairment of the Royalty Interest by comparing the undiscounted cash flows expected to be realized from the Royalty Interest to the carrying value, pursuant to the Financial Accounting Standards Board Accounting Standards Codification 360, Property, Plant, and Equipment. If the expected future undiscounted cash flows were less than the carrying value, the Trust recognized impairment losses for the difference between the carrying value and the estimated fair value of the Royalty Interest. By December 31, 2010, the Trust had recognized accumulated amortization of $359,473,000 and aggregate impairment write-downs of $175,527,000 reducing the carrying value of the Royalty Interest to zero.
| (5) | Income Taxes |
The Trust files its federal tax return as a grantor trust subject to the provisions of subpart E of Part I of Subchapter J of the Internal Revenue Code of 1986, as amended, rather than as an association taxable as a corporation. The Trust Unit holders are treated as the owners of Trust income and corpus, and the entire taxable income of the Trust will be reported by the Trust Unit holders on their respective tax returns.
If the Trust were determined to be an association taxable as a corporation, it would be treated as an entity taxable as a corporation on the taxable income from the Royalty Interest, the Trust Unit holders would be treated as shareholders, and distributions to Trust Unit holders would not be deductible in computing the Trust’s tax liability as an association.
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BP Prudhoe Bay Royalty Trust
Notes to Financial Statements
(Prepared on a modified cash basis)
June 30, 2020
| (6) | Alaska Oil and Gas Production Tax |
On April 14, 2013, Alaska’s legislature passed an oil-tax reform bill amending Alaska’s oil and gas production tax statutes, AS 43.55.10 et seq. (the “Production Tax Statutes”) with the aim of encouraging oil production and investment in Alaska’s oil industry. On May 21, 2013, the Governor of Alaska signed the bill into law as chapter 10 of the 2013 Session laws of Alaska (the “Act”). Among significant changes, the Act eliminated the monthly “progressivity” tax rate implemented by certain amendments to the Production Tax Statutes in 2006 and 2007, increased the base rate from 25% to 35% and added a stair-step per-barrel tax credit for oil production. This tax credit is based on the gross value at the point of production per barrel of taxable oil and may not reduce a producer’s tax liability below the “minimum tax” (which is a percentage, ranging from zero to 4%, of the gross value at the point of production of a producer’s taxable production during the calendar year based on the average price per barrel for Alaska North Slope crude oil for sale on the United States West Coast for the year) under the Production Tax Statutes. These changes became effective on January 1, 2014.
On January 15, 2014, the Trustee executed a letter agreement with BP Alaska dated January 15, 2014 (the “2014 Letter Agreement”) regarding the implementation of the Act with respect to the Trust. Pursuant to the 2014 Letter Agreement, Production Taxes for the Trust’s Royalty Production will equal the tax for the relevant quarter, minus the allowable monthly stair-step per-barrel tax credits for the Royalty Production during that quarter. If there is a “minimum tax”-related limitation on the amount of the stair-step per-barrel tax credits that could otherwise be claimed for any quarter during the year, any difference between that limitation as preliminarily determined on a quarterly basis and the actual limitation for the entire year will be reflected in the payment to the Trust for the first quarter Royalty Production in the following year.
On July 6, 2015, BP Alaska and the Trustee signed a letter agreement (the “2014 Letter Agreement Amendment”) amending the 2014 Letter Agreement to provide that if there is a “minimum tax”-related limitation on the amount of the stair-step per-barrel tax credits that could otherwise be claimed for any quarter during the year, any difference between that limitation as preliminarily determined on a quarterly basis and the actual limitation for the entire year will be reflected in the payment to the Trust for the fourth quarter Royalty Production payment for such year rather than in the payment to the Trust for the first quarter Royalty Production in the following year.
| (7) | Royalty Revenue Adjustments |
Certain of the royalty payments received by the Trust in 2020 and 2019 were adjusted by BP Alaska to compensate for underpayments or overpayment of the royalties due with respect to the quarters ended prior to the dates of such payments. Average net production of crude oil and condensate from the proved reserves allocated to the Trust was less than 90,000 barrels per day during certain quarters. Royalty payments by BP Alaska with respect to those quarters were based on estimates by BP Alaska of production levels because actual data was not available by the date on which payments were required to be made to the Trust. Subsequent recalculation by BP Alaska of the royalty payments due based on actual production data resulted in the payment adjustments shown in the table below (in thousands).
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BP Prudhoe Bay Royalty Trust
Notes to Financial Statements
(Prepared on a modified cash basis)
June 30, 2020
| Payments Received (In Thousands) |
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| Jan. 2020 | Apr. 2019 | Jan. 2019 | ||||||||||
| Royalty payment as calculated |
$ | 9,321 | $ | 7,732 | $ | 21,361 | ||||||
| Adjustment for previous quarter’s underpayment (overpayment), plus accrued interest |
16 | 16 | 398 | |||||||||
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| Total payment received |
$ | 9,337 | $ | 7,748 | $ | 21,759 | ||||||
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| (8) | Subsequent Event |
There was no royalty payment received by the Trust in July 2020 for the quarter ended June 30, 2020. Moreover, as noted in Note 8 of Notes to Financial Statements (Unaudited) in Part I, Item 1, “Financial Statements” of the Trust’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2020, it was determined in that, due to a slight over estimation of December 2019’s production volume included in the 2019 fourth quarter royalty payment calculation, there was an overpayment by BP Alaska of $66,899, including interest through June 30, 2020, with respect to the 2019 fourth quarter royalty payment. This overpayment would be recovered by HNS in one or more future quarters with a sufficient positive royalty payment. In the event that there are no future, or insufficient, positive payments, it is expected that HNS would explore other options it may have under the Trust Agreement, the Conveyance or otherwise to recover the amount of the 2019 fourth quarter overpayment.
As provided in the Trust Agreement of the Trust, the quarterly royalty payment by HNS to the Trust is the sum of the individual revenues attributed to the Trust as calculated each day during the quarter. The amount of such revenues is obtained by multiplying Royalty Production for each day in the calendar quarter by the Per Barrel Royalty for that day. Pursuant to the Trust Agreement, the Per Barrel Royalty for any day is the WTI Price for the day less the sum of (i) Chargeable Costs multiplied by the Cost Adjustment Factor and (ii) Production Taxes. As discussed in Item 1A “RISK FACTORS”, of the Trust’s Annual Report on Form 10-K for the year ended December 31, 2019, on January 1, 2020, the “break-even” WTI price (the price at which all taxes and prescribed deductions are equal to the WTI price) for the Trust to receive a positive Per Barrel Royalty with respect to a particular day’s production was $54.34. As a result of the decline i oil prices during the first and second quarters of 202, the daily WTI price was below the “break-even” point for each day of the quarters after January 23, 2020, resulting in a negative value for the payment calculation for the quarter. However, as provided in the Trust Agreement, the payment with respect to the Royalty Interest for any calendar quarter may not be less than zero.
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| Item 2. | Trustee’s Discussion and Analysis of Financial Condition and Results of Operations. |
Cautionary Statement
This report contains forward looking statements (that is, statements anticipating future events or conditions and not statements of historical fact). Words such as “anticipate,” “expect,” “believe,” “intend,” “plan” or “project,” and “should,” “would,” “could,” “potentially,” “possibly” or “may,” and other words that convey uncertainty of future events or outcomes are intended to identify forward-looking statements. Forward-looking statements in this report are subject to a number of risks and uncertainties beyond the control of the Trustee. Currently, the most significant of such risks and uncertainties relate to the COVID-19 pandemic, which has caused a global slowdown of economic activity (including decrease in demand for a broad variety of goods and services), disruptions in global supply chains and significant volatility and disruption of financial markets. The severity, magnitude and duration of the impact that the COVID-19 pandemic will continue to have on the world economy are uncertain, rapidly changing and difficult to predict. Among other risks and uncertainties are: future changes in oil prices; oil production levels; economic activity; domestic and international political events and developments; legislation and regulation; and certain changes in expenses of the Trust.
The actual results, performance and prospects of the Trust could differ materially from those expressed or implied by forward-looking statements. Descriptions of material risks known to the Trustee that could affect the future performance of the Trust appear in Item 1A, “Risk Factors,” of the Trust’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019 (the “2019 Annual Report”). There may be additional risks of which the Trustee is unaware or which are currently deemed immaterial.
In the light of these risks, uncertainties and assumptions, you should not rely unduly on any forward-looking statements. Forward-looking events and outcomes discussed in the 2019 Annual Report and in this report may not occur or may transpire differently. The Trustee undertakes no obligation to update forward-looking statements after the date of this report, except as required by law, and all such forward-looking statements in this report are qualified in their entirety by the preceding cautionary statements.
Liquidity and Capital Resources
The Trust is a passive entity. The Trustee’s activities are limited to collecting and distributing the revenues from the Royalty Interest and paying liabilities and expenses of the Trust. Generally, the Trust has no source of liquidity and no capital resources other than the revenue attributable to the Royalty Interest that it receives from time to time. (See the discussion under “THE ROYALTY INTEREST” in Part I, Item 1 of the 2019 Annual Report for a description of the calculation of the Per Barrel Royalty, and the discussion under “THE PRUDHOE BAY UNIT AND FIELD – Reserve Estimates” in Part I, Item 1 of the 2019 Annual Report for information concerning the estimated future net revenues of the Trust.) However, the Trustee has a limited power to borrow, establish a cash reserve, or dispose of all or part of the Trust Estate, under limited circumstances pursuant to the terms of the Trust Agreement. See the discussion under “THE TRUST” in Part I, Item 1 of the 2019 Annual Report.
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Since 1999, the Trustee has maintained a $1,000,000 cash reserve to provide liquidity to the Trust during any future periods in which the Trust does not receive a distribution. As noted under “THE TRUST – Sales of Royalty Interest; Borrowings and Reserves” in Part I, Item I of the 2019 Annual Report, on December 19, 2018, the Trust issued a press release to announce that the Trustee had determined to gradually increase the Trustee’s existing cash reserve for the payment of future expenses and liabilities of the Trust, as permitted by the Trust Agreement. Commencing with the distribution to Unit holders payable in April, 2019, the Trustee intends to withhold the greater of $33,750 or 0.17% of the funds otherwise available for distribution each quarter to gradually increase existing cash reserves by a total of approximately $270,000.3 The Trustee may increase or decrease the targeted amount at any time, and may increase or decrease the rate at which it is withholding funds to build the cash reserve at any time, without advance notice to the Unit holders. Cash held in reserve will be invested as required by the Trust Agreement. Any cash reserved in excess of the amount necessary to pay or provide for the payment of future known, anticipated or contingent expenses or liabilities eventually will be distributed to Unit holders, together with interest earned on the funds.
The Trustee will draw funds from the cash reserve account during any quarter in which the quarterly distribution received by the Trust does not exceed the liabilities and expenses of the Trust, and will replenish the reserve from future quarterly distributions, if any.4 The Trustee anticipated keeping this cash reserve program in place until termination of the Trust. However, if there are no future positive quarterly distributions, funds in the cash reserve account are not expected to be sufficient to last until the technical termination of the Trust, which, unless terminated sooner upon a vote of holders of not less than 60% of the outstanding Trust Units, would occur at such time as net revenues from the Royalty Interest for two successive years are less than $1,000,000 per year, subject to the exception noted above in footnote 2.
Amounts set aside for the cash reserve are invested by the Trustee in U.S. government or agency securities secured by the full faith and credit of the United States, or mutual funds investing in such securities.
As discussed under “CERTAIN TAX CONSIDERATIONS” in Part I, Item 1 of the 2019 Annual Report, amounts received by the Trust as quarterly distributions are income to the holders of the Units (as are any earnings on investment of the cash reserve) and must be reported by the holders of the Units, even if such amounts are used by the Trustee to repay borrowings or replenish the cash reserve and are not received by the holders of the Units.
Results of Operations
Relatively modest changes in oil prices significantly affect the Trust’s revenues and results of operations. Crude oil prices are subject to significant changes in response to fluctuations in domestic and world supply and demand and other market conditions as well as the world political situation as it affects the members of OPEC and other producing countries. The effect of changing economic and political conditions on the demand for and supply of energy throughout the world and future prices of oil cannot be accurately projected.
| 3 | Because no royalty payment was received by the Trust in April 2020 for the quarter ended March 31, 2020 or in July 2020 for the quarter ended June 30, no funds were added to the cash reserve with respect to those quarters. |
| 4 | The Trustee drew on the cash reserves to pay expenses of the Trust for the first and second quarters of 2020. |
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Under the terms of the Conveyance of the Royalty Interest to the Trust, the Per Barrel Royalty for any day is the WTI Price for the day less the sum of (i) Chargeable Costs multiplied by the Cost Adjustment Factor and (ii) Production Taxes. The narrative under the captions “THE TRUST – Trust Property” and “THE ROYALTY INTEREST” in the 2019 Annual Report explains the meanings of the terms “Conveyance,” “Royalty Interest,” “Per Barrel Royalty,” “WTI Price, “Chargeable Costs” and “Cost Adjustment Factor” and should be read in conjunction with this report.
Royalty revenues are generally received on the fifteenth day of the month following the end of the calendar quarter in which the related Royalty Production occurred (the “Quarterly Record Date”). The Trustee, to the extent possible, pays all accrued expenses of the Trust on each Quarterly Record Date from the royalty payment received. Revenues and Trust expenses presented in the statement of cash earnings and distributions are recorded on a modified cash basis and, as a result, royalty revenues and distributions shown in such statements for the three-month and six-month periods ended June 30, 2020 and 2019, respectively, are attributable to BP Alaska’s operations during the three and six-month periods ended March 31, 2020 and 2019, respectively.
The following table summarizes the factors which determined the Per Barrel Royalties used to calculate the payments received by the Trust in January and April 2020 and 2019, respectively (see Note 1 of Notes to Financial Statements (Unaudited) in Part I, Item 1). The information in the table has been furnished by BP Alaska.
| Data for Quarter | ||||||||||||||||||||||||||||||||
| Royalty |
Is Based on Data for Quarter Ended |
Average WTI Price |
Chargeable Costs |
Cost Adjustment Factor |
Adjusted Chargeable Costs |
Average Production Taxes |
Average Per Barrel Royalty |
Average Net Production (mb/d) |
||||||||||||||||||||||||
| Apr 2020 Jan 2020 |
|
03/31/2020 12/31/2019 |
|
$
|
46.35 55.20 |
|
$ $ |
26.50 23.75 |
|
|
1.992 1.981 |
|
$ $ |
52.78 47.04 |
|
$ $ |
1.54 1.96 |
|
$ $ |
0.00 8.02 |
|
|
77.4 77.0 |
| ||||||||
| Apr 2019 Jan 2019 |
|
03/31/2019 12/31/2018 |
|
$ $ |
54.87 58.82 |
|
$ $ |
23.75 20.00 |
|
|
1.946 1.941 |
|
$ $ |
46.23 38.81 |
|
$ $ |
1.88 2.04 |
|
$ $ |
6.77 17.94 |
|
|
77.4 78.7 |
| ||||||||
“Royalty Production” for each day in a calendar quarter is 16.4246% of the first 90,000 barrels of the actual average daily net production of oil and condensate for the quarter from the proved reserves allocated to the Trust. During periods when BP Alaska’s average daily net production from those reserves exceeds 90,000 barrels, the principal factors affecting the Trust’s revenues and distributions to Unit holders are changes in WTI Prices, scheduled annual increases in Chargeable Costs, changes in the Consumer Price Index and changes in Production Taxes. Since 2006, BP Alaska has undertaken a program of field wide infrastructure renewal, pipeline replacement and well mechanical improvements. As a consequence of these activities and the required downtime, and the natural production declines from the Prudhoe Bay field, Royalty Production from the proved reserves of oil and condensate allocated to the Trust was less than 90,000 barrels per day on an annual basis in 2017, 2018 and 2019. BP Alaska anticipates that its average net production of oil and condensate from those reserves will be below 90,000 barrels per day on an annual basis in most future years.
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BP Alaska estimates Royalty Production from the reserves allocated to the Trust for purposes of calculating quarterly royalty payments to the Trust because complete actual field production data for the preceding calendar quarter generally is not available by the Quarterly Record Date. To the extent that average net production from those reserves is below 90,000 barrels per day in any quarter, recalculation by BP Alaska of actual Royalty Production data may result in revisions of prior Royalty Production estimates. Revisions by BP Alaska of its Royalty Production calculations cause BP Alaska to adjust its quarterly royalty payments to the Trust to compensate for overpayments or underpayments of royalties with respect to prior quarters. Such adjustments, if material, may adversely affect certain Unit holders who buy or sell Units between the Quarterly Record Dates for the Quarterly Distributions affected.
The Quarterly Distributions received by the Trust from BP Alaska in January 2020 and 2019 were adjusted by BP Alaska to compensate for the underpayment of royalties due to the Trust with respect to the quarters ended December 31, 2019 and December 31, 2018, respectively. See Note 7 of Notes to Financial Statements (Unaudited) in Item 1. Because the statements of cash earnings and distributions of the Trust are prepared on a modified cash basis, royalty revenues for the three and six-month periods ended June 30, 2020 and 2019 reflect the amount of the adjustments with respect to the earlier fiscal periods.
Three Months Ended June 30, 2020 Compared to
Three Months Ended June 30, 2019
Trust royalty revenues received during the second quarter of the fiscal year are based on Royalty Production during the first quarter of the fiscal year. The first of the following two tables shows the changes from the first quarter of 2019 to the first quarter of 2020 in the factors which determined the Per Barrel Royalties used to calculate the royalty payments received during the second quarters of 2019 and 2020. The second of the two tables shows the resulting changes in the Trust’s revenues and distributions and the changes in the Trust’s expenses from the second quarter of 2019 to the second quarter of 2020.
| Increase (decrease) |
||||||||||||||||
| 3 Months Ended 3/31/2020 |
Amount | Percent | 3 Months Ended 3/31/2019 |
|||||||||||||
| Average WTI Price |
$ | 46.35 | ($ | 8.52 | ) | (15.5 | ) | $ | 54.87 | |||||||
| Adjusted Chargeable Costs |
$ | 52.78 | $ | 6.55 | 14.2 | $ | 46.23 | |||||||||
| Average Production Taxes |
$ | 1.54 | ($ | 0.34 | ) | (18.1 | ) | $ | 1.88 | |||||||
| Average Per Barrel Royalty |
$ | 0.00 | ($ | 6.77 | ) | (100.0 | ) | $ | 6.77 | |||||||
| Average net production (mb/d) |
77.4 | ($ | 0.0 | ) | 0.0 | 77.4 | ||||||||||
The impact of the COVID-19 pandemic on the world economy led to a sudden decrease in oil prices in the first quarter of 2020, with average WTI price falling more than 15 percent compared to the levels for the first quarter of 2019. As a result of this decrease and the 14 percent increase in Adjusted Chargeable Cost that resulted from the scheduled annual increase in Chargeable Costs from $23.75 in 2019 to $26.50 in 2020, the total daily Per Barrel Royalty for the quarter resulted in a negative value. However, as provided in the Trust Agreement, the payment with respect to the Royalty Interest for any calendar quarter may not be less than zero. See Note 8 of Notes to Financial Statements (Unaudited) in Item 1 above. The 18 percent decrease in
13
Production Taxes for the quarter reflects the decrease in WTI price for the period. Production Taxes remained low for the quarter because, as has occurred in each quarter since the second quarter of 2015, Production Taxes were calculated on the basis of the minimum tax under the Act and the 2014 Letter Agreement. See Note 5 of Notes to Financial Statements (Unaudited) in Item 1 above.
The average net production from the 1989 Working Interest for the two reporting periods remained identical, notwithstanding the naturally declining production rate from the Prudhoe Bay field and variance in the impacts of planned and unplanned downtime during the two reporting periods.
The following table shows the changes to the Trust’s revenues received and distributions paid during the second quarters of 2019 and 2020 resulting from the factors in the table above, as well as changes for the Trust’s administrative expenses.
| Increase (decrease) | ||||||||||||||||
| 3 Months Ended 6/30/2020 |
Amount | Percent | 3 Months Ended 6/30/2019 |
|||||||||||||
| (Dollar amounts in thousands) | ||||||||||||||||
| Royalty revenues |
$ | (67 | ) | ($ | 7,815 | ) | (100.9 | ) | $ | 7,748 | ||||||
| Cash earnings (loss) |
($ | 752 | ) | ($ | 8,198 | ) | (110.1 | ) | $ | 7,446 | ||||||
| Cash distributions |
$ | 0 | ($ | 7,381 | ) | (100.0 | ) | $ | 7,381 | |||||||
| Administrative expenses |
$ | 689 | $ | 377 | 120.8 | $ | 312 | |||||||||
The period-to-period decreases in royalty revenues, cash earnings and cash distributions are due mainly to the lower average WTI Prices that prevailed in the first quarter of 2020 compared to the first quarter of 2019, as well as the increase in Adjusted Chargeable Costs noted in connection with preceding table. The increase in administrative expenses reflects higher overall costs of supplies and services and timing differences in accruals of expenses.
Six Months Ended June 30, 2020 Compared to
Six Months Ended June 30, 2019
Trust royalty revenues received during the first six months of the fiscal year are based on Royalty Production during the first quarter of the fiscal year and the fourth quarter of the preceding fiscal year. The first of the following two tables shows the changes from the six months ended March 31, 2019 to the six months ended March 31, 2020 in the factors which determined the Per Barrel Royalties used to calculate the royalty payments received during the six months ended June 30 of the respective years. The second of the two tables shows the resulting changes in the Trust’s revenues and distributions and the changes in the Trust’s expenses from the first six months of 2019 to the first six months of 2020.
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| Increase (decrease) | ||||||||||||||||
| 6 Months Ended 3/31/2020 |
Amount | Percent | 6 Months Ended 3/31/2019 |
|||||||||||||
| Average WTI Price |
$ | 50.78 | ($ | 6.09 | ) | (10.7 | ) | $ | 56.87 | |||||||
| Adjusted Chargeable Costs |
$ | 49.91 | $ | 7.39 | 17.4 | $ | 42.52 | |||||||||
| Average Production Taxes |
$ | 1.75 | ($ | 0.17 | ) | (8.9 | ) | $ | 1.92 | |||||||
| Average Per Barrel Royalty |
$ | 8.02 | ($ | 4.34 | ) | (35.1 | ) | $ | 12.36 | |||||||
| Average net production (mb/d) |
77.2 | (0.9 | ) | (1.2 | ) | 78.1 | ||||||||||
The sharp decrease in the average Per Barrel Royalty for the period resulted from the negative value of the total daily Per Barrel Royalty for the first quarter of 2020. This negative value was due to the significant decrease in WTI prices and the large increase in Adjusted Chargeable Costs for the first quarter of 2020. As noted above, the increase in Adjusted Chargeable Costs resulted from the scheduled increase in Chargeable Costs from $23.75 in 2019 to $26.50 in 2020.
The modest decline in the average net production from the 1989 Working Interest was due to the naturally declining production rate from the Prudhoe Bay field and variance in the impacts of planned and unplanned downtime during the two reporting periods.
The following table shows the changes to the Trust’s revenues received and distributions paid during the first and second quarters of 2019 and 2020 resulting from the factors in the table above, as well as changes for the Trust’s administrative expenses.
| Increase (decrease) | ||||||||||||||||
| 6 Months Ended 6/30/2020 |
Amount | Percent | 6 Months Ended 6/30/2019 |
|||||||||||||
| (Dollar amounts in thousands) | ||||||||||||||||
| Royalty revenues |
$ | 9,270 | ($ | 20,237 | ) | (68.6 | ) | $ | 29,507 | |||||||
| Cash earnings |
$ | 8,339 | ($ | 20,549 | ) | (71.1 | ) | $ | 28,888 | |||||||
| Cash distributions |
$ | 9,078 | ($ | 19,766 | ) | (68.5 | ) | $ | 28,844 | |||||||
| Administrative expenses |
$ | 942 | $ | 304 | 47.6 | $ | 638 | |||||||||
The period-to-period decreases in royalty revenues, cash earnings and cash distributions are due mainly to the lower average WTI Prices that prevailed in the six month period ended March 31, 2020 compared to the six month period ended March 31, 2019, as well as the increase in Adjusted Chargeable Costs in the first quarter of 2020. The increase in administrative expenses reflects higher overall costs of supplies and services and timing differences in accruals of expenses.
| Item 3. | Quantitative and Qualitative Disclosures About Market Risk. |
The Trust is a passive entity and except for the Trust’s ability to borrow money as necessary to pay liabilities of the Trust that cannot be paid out of cash on hand, the Trust is prohibited from engaging in borrowing transactions. The Trust periodically holds short-term investments acquired with funds held by the Trust pending distribution to Unit holders and funds held in reserve for the payment of Trust expenses and liabilities. Because of the short-term nature of these investments and limitations on the types of investments which may be held by the Trust, the Trust is not subject to any material interest rate risk. The Trust does not engage in transactions in foreign currencies which could expose the Trust or Unit holders to any foreign currency related market risk or invest in derivative financial instruments. It has no foreign operations and holds no long-term debt instruments.
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| Item 4. | Controls and Procedures. |
Disclosure Controls and Procedures
The Trustee has disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Exchange Act) that are designed to ensure that information required to be disclosed by the Trust in the reports that it files or submits under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. These controls and procedures include but are not limited to controls and procedures designed to ensure that information required to be disclosed by the Trust in the reports that it files or submits under the Exchange Act is accumulated and communicated to the responsible trust officers of the Trustee to allow timely decisions regarding required disclosure.
Under the terms of the Trust Agreement and the Conveyance, HNS, beginning with the third quarter of 2020, has, significant disclosure and reporting obligations to the Trust. BP Alaska was, and HNS will be, required to provide the Trust such information concerning the Royalty Interest as the Trustee may need and to which BP Alaska had, and HNS has, access to permit the Trust to comply with any reporting or disclosure obligations of the Trust pursuant to applicable law and the requirements of any stock exchange on which the Units are listed. These reporting obligations include furnishing the Trust a report by February 28 of each year containing all information of a nature, of a standard and in a form consistent with the requirements of the SEC respecting the inclusion of reserve and reserve valuation information in filings under the Exchange Act and with applicable accounting rules. The report is required to set forth, among other things, HNS’s, as applicable, estimates of future net cash flows from proved reserves attributable to the Royalty Interest, the discounted present value of such proved reserves and the assumptions utilized in arriving at the estimates contained in the report.
In addition, the Conveyance gives the Trust certain rights to inspect the books and records of BP Alaska and discuss the affairs, finances and accounts of HNS relating to the 1989 Working Interests with representatives of HNS; it also requires HNS to provide the Trust with such other information as the Trustee may reasonably request from time to time and to which HNS has access.
The Trustee’s disclosure controls and procedures include ensuring that the Trust receives the information and reports that HNS is required to furnish to the Trust on a timely basis, that the appropriate responsible personnel of the Trustee examine such information and reports, and that information requested from and provided by HNS is included in the reports that the Trust files or submits under the Exchange Act.
As of the end of the period covered by this report, the trust officers of the Trustee responsible for the administration of the Trust conducted an evaluation of the Trust’s disclosure controls and procedures. Their evaluation considered, among other things, that the Trust Agreement and the Conveyance impose enforceable legal obligations on HNS, and that HNS has provided the information required by those agreements and other information requested by the Trustee from time to time on a timely basis. The trust officers concluded the Trust’s disclosure controls and procedures are effective.5
| 5 | All information for purposes of this quarterly report was provided to the Trustee by BP Alaska prior to the completion of BP’s sale of the “upstream” part of its planned $5.6 billion sale of assets and operations in Alaska to Hilcorp Alaska noted above in footnote 1. |
16
Internal Control Over Financial Reporting
There has not been any change in the Trust’s internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rule 13a-15 or Rule 15d-15 under the Exchange Act that occurred during the Trust’s last fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Trust’s internal control over financial reporting.
17
PART II
OTHER INFORMATION
| Item 1. | Legal Proceedings. |
None.
| Item 1A. | Risk Factors |
In December 2019, a novel strain of coronavirus, SARS-CoV-2 (severe acute respiratory syndrome coronavirus 2), surfaced in Wuhan, China, and has since spread to other countries, including the United States. In March 2020, the World Health Organization characterized the disease caused by the virus—COVID-19—as a pandemic. The pandemic resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business curtailments and other measures. While governments and central banks in several parts of the world have enacted fiscal and monetary stimulus measures to counteract the impact of COVID-19, the pandemic has resulted in significant economic contraction. The oil industry, in particular, has been substantially disrupted, both domestically and internationally, by the COVID-19 pandemic, which has caused significant changes in energy fuel supply and demand. As a result, WTI prices fell from around $61 per barrel at the beginning of 2020 to below $14 per barrel on April 22, 2020, before recovering somewhat to end just under $22 per barrel on May 4, 2020. Due to this precipitous decline, the current WTI price remains far below the price required to reach the “break even” WTI price (the price at which all taxes and prescribed deductions are equal to the WTI price) of $54.34 in order for the Trust to receive a positive Per Barrel Royalty with respect to a particular day’s production. While future oil prices cannot be accurately projected, the U.S. Energy Information Administration forecasts in its Short-Term Energy Outlook, released on July 7, 2020, that WTI prices will average approximately $38 per barrel in second half of 2020 and approximately $46 per barrel in 2021. Should these forecast WTI prices prevail, it is very unlikely that the Trust would receive a positive Per Barrel Royalty with respect to any day’s production during that period.
| Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds. |
None.
| Item 3. | Defaults Upon Senior Securities. |
None.
| Item 4. | Mine Safety Disclosures. |
Not applicable
| Item 5. | Other Information. |
(a) Reference is made to Note 8 of Notes to Financial Statements (Unaudited) in Part I, Item 1 (Form 8-K, Item 8.01).
(b) Not applicable.
18
| Item 6. | Exhibits. |
19
| 31* | Rule 13a-14(a)/15d-14(a) Certifications. | |
| 32* | Section 1350 Certification. | |
| 99 | Report of Miller and Lents, Ltd., dated February 21, 2020. Incorporated by reference to the correspondingly numbered exhibit to the Registrant’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019 (File No. 1-10243). | |
| 101 | Explanatory note: An Interactive Data File is not submitted with this filing pursuant to Item 601(101) of Regulation S-K, because the Trust does not prepare its financial statements in accordance with generally accepted accounting principles as used in the United States. See Note 2 of Notes to Financial Statements (Unaudited) in Part I, Item 1. | |
| * | Filed herewith. |
20
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, thereunto duly authorized.
| BP PRUDHOE BAY ROYALTY TRUST | ||
| By: | THE BANK OF NEW YORK MELLON TRUST COMPANY, N.A., as Trustee | |
| By: | /s/ Elaina C. Rodgers | |
| Elaina C. Rodgers | ||
| Vice President | ||
Date: August 10, 2020
The registrant is a trust and has no officers or persons performing similar functions. No additional signatures are available and none have been provided.
21