Press release here.
There was lots of chatter around $7/share this quarter in Yahoo Finance discussion boards and Seeking Alpha comment threads. The report of $6.52/share is a little light relative to the aforementioned prediction but it represents a fine period of 53% and 145% growth in the O&G royalty and water businesses respectively.
The $6.52 Q3 print puts TPL at $21.79 per share in trailing 12mo earnings. If we stick with the 38x P/E that was discussed in the last post, that gets “fair value” to $828. I say “fair value” loosely as picking a P/E is more art than science.
In the coming days I’m going to do some segment analysis to show top line and bottom line trends. One thing that is becoming readily apparent is that easements and sundry income will be lumpy as easement income is no longer being smoothed.
One small aberration was the 167 acre land sale at $25.7k/acre. TPL land sales are rare these days and that price was really something. This isn’t going to happen but the whole trust sold at that valuation gets the value of the surface acreage to ~$23B. Again, that is a big stretch but the sale shows the “hidden asset” nature of TPL which is easy to overlook in the current era of high flying top and bottom line growth.
TPL, with its 10/30 closing price of $710, stands at a 38 P/E relative to trailing 12mo earnings of $18.63 per share. After earnings print (tomorrow??), trailing 12mo earnings could migrate to $22.27 per share if the $7 estimates are correct ($7 goes in, $3.36 Q317 drops out). If P/E stays at the low end of its recent corridor range, we get to $846 (38 x $22.27).
For fun, a 2016 energy selloff-type move to 20x gets TPL to $445 after assumed earnings. That looks to be close to the floor on valuation.
Also after assumed earnings, a reversion to long term 30x trailing 12mo EPS puts TPL at $668. Pretty close to where we are now.
If the price doesn’t move after earnings print, $22.27 trailing 12mo earnings at $710 implies a 12mo trailing P/E of 31.9x. In that case, TPL would be very close to average long term historical valuation though you could argue that the income picture has changed substantially over the observed time period.
What’s the right P/E for the new watery, minerally, and sundry-y TPL?
Horizon Kinetics commented on the 3rd Quarter recently. As most know, HK is a large holder of TPL and represents the gold standard for TPL commentary and sentiment. Comments on TPL were pretty light this quarter but appear favorable.
Would encourage a read of this whole piece. You don’t find much else like it from other managers.
In prior webinars we reviewed one technique for locating such securities: look among the multitude that have been excluded from the indexation vortex and which might therefore be anomalously cheap, and which might have business models that are not exposed to the same risks. We described some marine shipping companies, even large-cap ones like AP Mollar-Maersk, some drilling service companies like Subsea 7, non-standard security types like Texas Pacific Land Trust, which is not even a corporation, and so on. They have excellent or even perfect balance sheets, so are not at risk from interest rate or credit market shocks, and they operate in cyclically depressed industries so that they have plenty of positive revenue optionality, as well as profit margin and valuation optionality. In the extreme, if you owned only one, you might not be exposed to any conventional systemic risk.
We’ve made use of a similar improvement over existing market structure to be exposed to oil – since energy could be both a source of risk to the economy as well as a source of investment return – without the complexities and limitations of conventional oil producers. An ExxonMobil, for instance, must spend enormous sums of money, each and every year, to explore for new reserves to replace that which is depleted. Texas Pacific Land Trust, like Wheaton Precious Metals, is also a royalty company. Despite its $6 billion market value, it has only 47 employees. Its latest pre-tax profit margin, for the June quarter, was 89%. The only companies one might be able to identify with profit margins that high, and there are very, very few, are royalty companies.
This isn’t in direct reference to TPL but I thought was worth sharing. Sourcewater is a startup aimed at connecting buyers and sellers of water and water disposal services. The company’s website is worth a look to get a better perspective on the West Texas water bonanza.
I have no connection to this company. Sharing for context only.
I enjoyed this long form sales pitch from the company. Some excerpts:
Just in the past few years, the average frac has gone from needing about 4 million gallons of water (100,000 barrels) to needing 20 million gallons (500,000 barrels) or more – sometimes much more. And most operators now frac a bunch of wells at the same time for efficiency (called “pad drilling” or “zipper fracs”) so the amount of water they need in the span of just a few days could be millions of barrels, maybe even close to 100 million gallons – in just a few days.
In fact, water is in such high demand that oil and gas operators are buying water anywhere they can get it. For example, Pioneer Natural Resources, one of the top Permian operators, recently made a deal with the local cities of Odessa and Midland to buy and reuse their sewage water for fracking. Many operators are starting to recycle the water that comes out of the ground with the oil and gas they produce, taking that “produced water” and injecting it into the next frac to save on both freshwater needs and disposal costs.
Mineral rights are not usually owned by the person who owns the land. But under Texas law and in some other oil and gas states, surface landowners always own the water. That means a lot of people who were always locked out of oil booms of the past because they didn’t own their mineral rights can finally get in on the action. Any landowner near an active oil or gas formation with water under their land is sitting on a gold mine. Not black gold. Clear gold. Liquid gold.
Sourcewater already has thousands of active users registered on its marketplace with more than 1 billion barrels of water listed for sale and over 100,000 water sources just in Texas. Energy companies and service companies search for water on Sourcewater.com every single day, looking for the water they need for their next frac site. Ready to become a water millionaire? Create a free water listing on Sourcewatertoday.
TPL closed at $871.99 on 10/3/18. This marked an all time closing high price for the Trust. As I type, the last trade was $729.57 which gives us a -16.3% move down from peak to current. In that time, the S&P500 is down 7.4% on a price return basis whilst CME crude futures are down 14%. Said simply, TPL is underperforming large caps but is just about pacing oil.
In TPL’s price zip code, a 16.3% move down equates into some big dollar swings that might hurt more psychologically than a similar move in a stock that goes from $10 to $8.37. It’s not every day that you see a $140 down move in price. Ouch:
When you observe the down move on a logarithmic scale, the current move looks reasonable in the context of of past moves. A 10% move now looks the same as a 10% move then. The Trust has seen many of them. In both directions.
So, in summary, low liquidity and a +156% total return over the past two years will give you a pull back like this. To quote Tom Jones, “It’s not unusual”.
Pull the link up in Google Chrome and click translate if you too failed first semester Spanish in undergrad.
TPL royalties have an approximate weighted average value of 5%, which is considerably lower than the standard paid in the Permian; This is a powerful incentive for producers to continue increasing production on TPL lands.
Another obstacle for investors who are comfortable with TPL is the near impossibility of assigning a value and anchoring it. TPL is an example of how optionality plays an important role. If I had to value TPL in the past, I would have assigned zero to the water business. I would not even have known.
In last year’s letter, I explained that I was looking for convex situations. These are situations in which, when the facts appear and are positive, they have a greater effect than when they are negative; TPL perfectly fulfills that attribute.