BASIC EARTH SCIENCE SYSTEMS INC, 10KSB, 2000-06-29

BASIC EARTH SCIENCE SYSTEMS INC
10KSB, 2000-06-29
CRUDE PETROLEUM & NATURAL GAS

Previous: BANTA CORP, NT 11-K, EX-99, 2000-06-29

Next: BASIC EARTH SCIENCE SYSTEMS INC, 10KSB, EX-10.I.A, 2000-06-29

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-KSB

[x] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934

For the Fiscal Year Ended March 31, 2000

[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934

Commission file number: 0-7914

BASIC EARTH SCIENCE SYSTEMS, INC.
8547 E. Arapahoe Road, J-464
Greenwood Village, Colorado 80112

Telephone (303) 773-8000

Incorporated in Delaware IRS ID# 84-0592823

Securities registered under Section 12(b) of the Act: NONE

Securities registered under Section 12(g) of the Act: Common Stock, $.001 par
value

Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to the filing requirements for the past 90 days. Yes X No
----- -----

Check if disclosure of delinquent filers in response to Item 405 of Regulation
S-B is not contained in this form, and no disclosure will be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ ]

Issuer's revenues for its most recent fiscal year: $2,219,000

As of June 22, 2000, 16,530,487 shares of the registrant's common stock were
outstanding and the aggregate market value of such common stock held by
non-affiliates was approximately $1,243,000. The proxy statement for the 2000
annual meeting is incorporated by reference into Part III.

<PAGE>

Basic Earth Science Systems, Inc.

Form 10-KSB

March 31, 2000

Table of Contents

Part I: Page
Item 1. Description of Business.......................... 3

Item 2. Description of Property.......................... 9

Item 3. Legal Proceedings................................ 10

Item 4. Submission of Matters to a Vote of Security
Holders.......................................... 10
Part II:
Item 5. Market for Common Equity and Related
Stockholder Matters.............................. 11

Item 6. Management's Discussion and Analysis and
Plan of Operation................................ 12

Item 7. Consolidated Financial Statements................ 20

Item 8. Changes In and Disagreements With Accountants
On Accounting and Financial Disclosure........... 41

Part III:
Item 9. Directors, Executive Officers, Promoters and
Control Persons; Compliance With
Section 16(a) of the Exchange Act................ 41

Item 10. Executive Compensation........................... 42

Item 11. Security Ownership of Certain Beneficial Owners
and Management................................... 42

Item 12. Certain Relationships and Related Transactions... 42

Part IV:
Item 13. Exhibits and Reports on Form 8-K................. 42

<PAGE>

Part I

ITEM 1
DESCRIPTION OF BUSINESS

Overview
--------

Basic Earth Science Systems, Inc. (Basic or the Company), was originally
organized in July 1969 and became a public company in 1980. The Company is
principally engaged in the acquisition, exploitation, development, operation and
production of crude oil and natural gas. The Company's primary areas of
operation are the Williston basin in North Dakota and Montana, south Texas and
the Denver-Julesburg basin in Colorado.

Company Developments
--------------------
The fiscal year ended March 31, 1999 (fiscal 1999) marked the final twelve
months of a nearly two-year period that saw oil prices decline to levels not
seen since the mid-1980s. The Company endured these difficult times by focusing
on controlling lease operating and general and administrative costs. With
respect to lease operations, this involved shutting in many of its operated
wells that were unprofitable at the lower price levels. In addition, Basic
postponed repairs and workovers on other properties, thereby shutting in
production on properties that were otherwise profitable, when the payout of
these repairs/workovers was unacceptably long or adversely impacted the
Company's cash position or liquidity ratios. In turn, Basic concentrated on
higher margin wells to maximize cash flow. This curtailment of field activities,
combined with a reduction in personnel, salaries and related benefits and a move
to a new office location to reduce office rent expense, allowed the Company to
weather this turbulent period.

In general, low oil prices in fiscal 1999 adversely affected the Company's
activities as Basic was unable to pursue its long-term plan of operation. And,
despite higher oil prices at year end (relative to the previous year) and lower
operational costs, the Company's independent auditors included a "going concern"
explanatory paragraph in their Report of Independent Certified Public
Accountants at March 31, 1999.

Thankfully, the year ended March 31, 2000 (fiscal 2000) brought some much
anticipated and needed relief. Oil prices climbed steadily throughout the year
bringing a markedly improved cash flow for the Company. As a result the
Company's level of operational field activity increased dramatically during
fiscal 2000. This included returning some shut-in wells to production and
performing previously postponed repairs and workovers to re-establish previous
production levels. The Company's return to profitability and the additional cash
flow generated by the higher oil prices provided incentive for Basic's bank to
amend the existing loan agreement and extend the term of the note from April 1,
2000 to December 31, 2001. In addition, and perhaps most importantly, the return
of oil prices to the $20-$30 range has allowed the Company to re-focus on its
long-term plan of operation.

Contemplated Activities
-----------------------

GENERAL. The Company's long-term plan of operation involving Development,
Acquisitions, Drilling and Divestitures/Abandonments is described below. As
noted above, during fiscal 1999, Basic was forced to suspend this plan. However,
during the first quarter of fiscal 2000, with some early signs of oil price

<PAGE>

recovery, the Company began to return selected wells to production while still
maintaining tight control of its general and administrative expenses. As the
year progressed and oil prices showed signs of stabilizing in the $25-$30 per
barrel range, Basic continued returning wells to production. The improved cash
flow also allowed the Company to expand its capital expenditure budget. Two
successful recompletions, one on a Company-operated property and the other on a
non-operated well, were performed during the second half of fiscal 2000. Also,
the Company acquired eight additional wells; all of which it operates. Finally,
Basic continued with its plans to divest and/or abandon marginal wells in an
effort to generate additional cash from sales or the salvage of lease equipment.

The Company may alter or vary its plan of operation based upon changes in
circumstances, unforeseen opportunities, inability to negotiate favorable
acquisition or loan terms, lack of funding and other events which the Company is
not able to anticipate.

DEVELOPMENT. Basic holds a number of properties that management believes have
the potential for increased cash flow and may have additional unproved reserves
which could be exploited. This exploitation may be realized by conventional and
unconventional petroleum engineering techniques and field management practices.
Management intends to pursue these potential opportunities as long as oil prices
continue to stabilize at current levels and the exploitation costs can be funded
with cash flow from operations.

ACQUISITIONS. The Company continues to evaluate properties which are made
available for sale. However, there can be no assurances that funds will be
available to pursue such opportunities or that offers the Company submits may be
accepted.

DRILLING. While drilling is no longer the major focus of the Company's strategy,
Basic may participate in high quality development or exploratory prospects which
management believes are capable of increasing reserves and cash flow with
reasonable risk.

DIVESTITURES/ABANDONMENT. The Company still holds a number of marginal, operated
and non-operated properties. Basic intends to continue its efforts to plug or
sell these wells in the coming fiscal year. Management believes that the salvage
value of the associated equipment, net of plugging costs, will have a positive
impact on the Company's cash flow.

Segment Information and Major Customers
---------------------------------------

INDUSTRY SEGMENT. The Company is engaged only in the upstream segment of the oil
and gas industry, which comprises exploration, production, operations and
development. The Company has no gathering, transportation, refining or marketing
functions.

MARKETS. The Company's oil and natural gas is sold to various purchasers in the
geographic area of its properties. Basic is a small company and, as such, has no
impact on the market for its goods and little control over the price received.
The market for, and the value of, oil and natural gas are dependent upon a
number of factors including other sources of production, competitive fuels, and
proximity and capacity of pipelines or other means of transportation, all of
which are beyond the control of Basic.

The Company believes that substantially all domestic oil, which is produced, can
be readily sold at prevailing market prices. The oil prices the Company receives
are typically $2.25 to $3.00 lower than the benchmark U.S. crude spot price

<PAGE>

because of adjustments for location and grade. The price of domestic oil
fluctuates due to supply and demand. Since there is strong competition among
purchasers, management does not believe it is dependent on any one purchaser or
group of purchasers.

In the year ended March 31, 2000, Basic sold 65 percent of its oil and gas
production to two purchasers: 43 percent to Murphy Oil USA, Inc. and 22 percent
to Norco Crude Gathering, Inc. Sales to no other customer of Basic (or group of
customers under common control) were equal to 10 percent or more of oil and gas
sales.

Substantially all of Basic's gas production is sold at prevailing wellhead gas
prices, subject to additional charges customary to an area. Basic does not own
or operate any gas gathering or processing plant facilities nor does it possess
sufficient volume on any pipeline to market its product to end users.

Competition
-----------

The oil and gas industry is a highly competitive and speculative business. The
Company encounters strong competition from major and independent oil companies
in all phases of its operations, particularly in the acquisition of economically
desirable producing properties and drilling prospects. Competition is intense
with respect to the acquisition of large producing properties, or large packages
of producing properties. These multiple well packages are particularly
competitive if they include partially developed properties or properties with
natural gas attributes. In this arena, Basic must compete with many companies
having financial resources and technical staffs significantly larger than its
own. However, management believes that the competition for smaller properties,
especially distressed properties, is less intense. Because of the limited
capital resources available to the Company, management has focused on these
smaller and/or marginal properties in its acquisition efforts.

Regulations
-----------

GENERAL. The operations of the Company are affected in varying degrees by
federal, state, regional and local laws and regulations, including, but not
limited to, laws governing allowable rates of production, well spacing, air
emissions, water discharges, reporting requirements, endangered species,
marketing, prices, and taxes. The Company is further affected by changes in such
laws and by constantly changing administrative regulations. To the best of its
knowledge, the Company is in compliance with all such regulations and is not
aware of any claims that could have a material impact upon the Company's
financial condition, results of operations, or cash flows.

FEDERAL TAXATION. During fiscal 1993, The Comprehensive National Energy Policy
Act (Act) was signed into law. The Act provides for various incentives and
revenue-raising provisions. Perhaps most significant to independent oil and gas
companies are the provisions repealing certain intangible drilling cost and
statutory depletion tax preferences for the purposes of calculating the
alternative minimum tax.

NATURAL GAS PRICING. During fiscal 1992, the Federal Energy Regulatory
Commission (FERC) issued FERC Order 636 (the Order) which is intended to ensure
that pipelines provide transportation service that is equal in quality for all

<PAGE>

gas suppliers, whether the customer purchases gas from the pipeline or from a
different supplier. While the Company views this Order as favorable to natural
gas producers, it does not have a material impact on Basic in that the vast
majority of the Company's production is crude oil rather than natural gas.

ENVIRONMENTAL MATTERS. The Company is subject to various federal, state,
regional and local laws and regulations relating to the discharge of materials
into, and the protection of, the environment. These laws and regulations, among
other things, may impose liability on the owner or the lessee for the cost of
pollution cleanup resulting from operations, subject the owner or lessee to
liability for pollution damages, require the suspension or cessation of
operations in affected areas and impose restrictions on injection into
subsurface aquifers that may contaminate ground water. Although environmental
requirements do have a substantial impact upon the energy industry, these
requirements do not appear to affect Basic any differently than other companies
in this industry who operate in a given geographic area. The Company is not
aware of any environmental claims which could have a material impact upon the
Company's financial condition, results of operations, or cash flows.

Such regulation has increased the resources required and costs associated with
planning, designing, drilling, operating and both installing and abandoning oil
and natural gas wells and facilities. As yet, Basic has not had to hire any new
employees to comply with these regulations. The Company will continue to make
expenditures in its efforts to comply with these requirements, which are
unavoidable business costs in the oil and gas industry.

Although the Company is not fully insured against all environmental and other
risks, it maintains insurance coverage that it believes
is customary in the industry.

Certain Risks
-------------

VOLATILITY OF OIL & GAS PRICES. The Company's revenues, operating results,
profitability, future rate of growth and the carrying value of its oil and gas
properties are substantially dependent upon prevailing market prices for oil and
gas. Historically, the markets for oil and gas have been volatile and in certain
periods have been depressed by excess domestic and imported supplies. Such
volatility is expected to reoccur in the future. Various factors beyond the
control of the Company will affect prices of oil and gas, including worldwide
and domestic supplies of oil and gas, the ability of the members of the
Organization of Petroleum Exporting Countries to agree to maintain oil price and
production controls, political instability or armed conflict in oil and gas
producing regions, the price and level of foreign imports, the level of consumer
demand, the price, availability and acceptance of alternative fuels and weather
conditions. In addition to market factors, actions of state and local agencies
and the United States and foreign governments affect oil and gas prices. These
external factors and the volatile nature of the energy markets make it difficult
to estimate future prices of oil and gas. Any substantial or extended decline in
the price of oil would have a material adverse effect on the Company's financial

<PAGE>

condition and results of operations. Such decline could reduce the Company's
cash flow and borrowing capacity and both the value and the amount of the
Company's oil and gas reserves.

UNCERTAINTY OF RESERVE INFORMATION AND FUTURE NET REVENUE ESTIMATES. There are
numerous uncertainties inherent in estimating quantities of proved oil and gas
reserves and their values, including many factors beyond the Company's control.
The reserve information set forth in this Form 10-KSB (see Note 13 to the
Consolidated Financial Statements) represents estimates only. Reserve estimates
are imprecise and may materially change as additional information becomes
available. More importantly, reserve estimates may materially change as oil and
gas prices fluctuate in their normal course and may materially change as a
result of the price on a single day; the last day of the Company's fiscal year.

Estimates of oil and natural gas reserves, by necessity, are projections based
on geologic and engineering data, and there are uncertainties in the
interpretation of such data as well as the projection of future rates of
production and the timing of development expenditures. Reserve engineering is a
subjective process of estimating underground accumulations of oil and natural
gas that are difficult to measure. The accuracy of any estimate is a function of
the quality of available data, engineering, and geological interpretation and
judgement. Estimates of economically recoverable oil and gas reserves and future
net cash flows necessarily depend upon a number of variable factors and
assumptions, such as future operating costs, severance and excise taxes,
development costs, workover costs, remedial costs and the assumed effects of
regulations by governmental agencies, all of which may in fact vary considerably
from actual results. Other variables, specifically oil and gas prices, are fixed
at the prices existing on the last day of the fiscal year whether such prices
are reasonable; and which may vary considerably from actual results. For these
reasons, estimates of the economically recoverable quantities of oil and gas
attributable to any property or any group of properties, classifications of such
reserves based upon risk of recovery, and estimates of the future net cash flows
expected therefrom may vary substantially. Any significant variance in the
assumptions could materially affect the estimated quantity and value of the
reserves. Actual production, revenues and expenditures with respect to the
Company's reserves will likely vary from estimates, and such variances may be
material.

Reserves, as calculated by SEC regulations, as referred to in this Form 10-KSB,
should not be construed as the current market value of the estimated oil and gas
attributable to the Company's properties. The timing of actual future net cash
flows from proved reserves, and thus their actual present value, will be
affected by the timing of both the production and incidence of expenses in
connection with both extraction costs and development costs. In addition, the
10% discount factor, which is required to be used for reporting purposes, is not
necessarily the most appropriate discount factor based on interest rates in
effect at the time of calculation.

OPERATING HAZARDS. The oil and gas business involves certain operating hazards
such as well blowouts, craterings, explosions, uncontrollable flows of oil,
natural gas or well fluids, fires, formations with abnormal pressures, pipeline
ruptures or spills, pollution, releases of toxic gas and other environmental
hazards and risks, any of which could result in substantial losses to the
Company. In addition, the Company may be liable for environmental damage caused
by previous owners of properties purchased or leased by the Company. As a
result, substantial liabilities to third parties or governmental agencies may be
incurred, the payment of which could reduce or eliminate the funds available for
acquisitions, development, and exploration, or result in losses to the Company.

<PAGE>

Although Basic is not fully insured against all environmental and other risks,
it maintains insurance coverage which it believes is customary in the industry.

Forward-Looking Statements
--------------------------

This Form 10-KSB includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. All statements other than
statements of historical fact included in this Form 10-KSB including, without
limitation, the statements under Item 1. "Description of Business", Item 6.
"Management's Discussion and Analysis and Plan of Operation", and Note 2 to the
Consolidated Financial Statements located elsewhere herein regarding the
Company's financial position and liquidity, the amount of and its ability to
make debt service payments, its strategies, financial instruments, and other
matters, are forward-looking statements. Although the Company believes that the
expectations reflected in such forward-looking statements are reasonable, it can
give no assurance that such expectations will prove to have been correct.
Important factors that could cause actual results to differ materially from the
Company's expectations are disclosed in this Form 10-KSB in conjunction with the
forward-looking statements included in this Form 10-KSB.

The Company's intentions and expectations described in this Form 10-KSB with
respect to possible development activities concerning properties in which it
holds interests may be deemed to be forward-looking statements. These statements
are made based on management's current assessment of the development merits of
the particular property in light of the geological information available at the
time and based on the Company's relative interest in the property and its
estimate of its share of the development cost. Subsequently obtained information
concerning the merits of any property, as well as changes in estimated
development costs and ownership interest, may result in revisions to
management's expectations and intentions and, thus, the Company may alter its
plans regarding these development activities. Furthermore, circumstances beyond
the Company's control may cause such prospects to be eliminated from further
consideration as development prospects.

Other
-----

The oil and gas business is not generally seasonal in nature, although unusual
weather extremes for extended periods may increase or decrease demand for oil
and natural gas products temporarily. Additionally, catastrophic events, such as
hurricanes or other supply disruptions, may also temporarily increase the demand
for oil and gas supplies. Such events and their impacts on oil and gas commodity
prices may cause fluctuations in quarterly or even annual revenues and earnings.

At fiscal 2000 year end, the Company had eight full-time employees: three at its
main office in Denver and five field laborers at its subsidiary's field office
in Bruni, Texas, located forty-five miles east, southeast of Laredo, Texas. In
addition to seven contract field workers the Company has on retainer, Basic
hires up to five contract, technical/professional personnel in its main office
on a project by project basis.

<PAGE>

ITEM 2
DESCRIPTION OF PROPERTY

PRODUCING PROPERTIES: LOCATIONS AND IMPACT. As of March 31, 2000, Basic owned a
working interest in 55 oil wells and 6 gas wells. The Company currently operates
50 wells in five states: North Dakota, Montana, Colorado, Texas and Wyoming.
These operated wells contributed approximately 85 percent of Basic's total
liquid hydrocarbon sales and approximately 65 percent of total gas sales in the
year ended March 31, 2000. The majority of Basic's operated liquid reserves are
located in the Williston basin of North Dakota and Montana and in south Texas,
while the majority of Basic's operated gas reserves are located in Colorado's
Denver-Julesburg basin. Substantially all producing properties are encumbered
and used to secure bank debt.

Producing Property
------------------

Gross Wells Net Wells
----------- ---------
Oil Gas Oil Gas
--- --- --- ---
Colorado -- 4 -- 2.40
Louisiana 1 -- 0.01 --
Montana 15 -- 8.76 --
North Dakota 16 -- 8.97 --
Oklahoma -- 1 -- 0.31
Texas 22 1 19.84 0.23
Wyoming 1 -- 0.35 --
----- ----- ----- -----
Total 55 6 37.93 2.94
===== ===== ===== =====

PRODUCTION. Specfic production data relative to the Company's oil and gas
producing properties can be found in the Selected Financial Information table in
Item 6. "Management's Discussion and Analysis and Plan of Operation."

RESERVES. At March 31, 2000, the discounted present value of Basic's estimated
proved reserves was approximately $4,551,000 reflecting a 176% increase from the
previous year's estimated reserves of $1,650,000. This increase was primarily
the result of two factors. First, higher oil prices extended the economic life
of the Company's oil properties. Second, the production realized in the year
ended March 31 2000 provided additional data that allowed for a revised estimate
of remaining reserves. The analysis of Basic's estimated oil and gas reserves
can be found in Note 13 to the Consolidated Financial Statements.

LEASEHOLD ACREAGE. The Company leases the rights to explore for and produce oil
and gas from mineral owners. Leases (quantified in acres) expire after their
primary term unless oil or gas production is established. Prior to establishing
production, leases are considered undeveloped. After production is established,
leases are considered developed or "held-by-production." Basic's acreage is
comprised of developed and undeveloped acreage. Typically, undeveloped acreage
is considered an indication of the Company's "raw material" and, therefore, its
potential to replace reserves in the future. Basic's strategy is the acquisition
of producing properties. Given this strategy, there is no need for Basic to

<PAGE>

amass undeveloped acreage blocks. As a result, Basic has a minimal amount of
undeveloped acreage relative to exploration companies. Management believes this
is a reflection of the Company's strategy rather than its ability to replace
reserves.

Developed Acreage Undeveloped Acreage
----------------- -------------------

Gross Net Gross Net
----- --- ----- ---
Colorado 640 384 -- --
Louisiana 525 4 -- --
Montana 5,359 2,946 2,600 826
North Dakota 5,452 3,083 1,391 425
Oklahoma 80 25 --
Texas 3,086 2,311 80 65
Wyoming 634 242 1,000 481
------ ----- ----- -----

Total 15,776 8,995 5,071 1,797
====== ===== ===== =====

FIELD SERVICE EQUIPMENT. At March 31, 2000, the Company's subsidiary, Basic
Petroleum Services, Inc., owned a trailer house/field office, a shallow pulling
rig, a large winch truck, a skid-mounted cementing unit, four pickup trucks and
six ancillary service vehicles. None of the vehicles are encumbered.

OFFICE LEASE. At March 31, 1999, the Company leased approximately 3,000 square
feet of office space in downtown Denver for its corporate headquarters. The
lease term expired April 30, 1999. At that time the Company moved to a new
office location in a Denver suburb. For a discussion of Basic's new lease
arrangement, see Note 6 to the Consolidated Financial Statements.

ITEM 3
LEGAL PROCEEDINGS

None.

ITEM 4
SUBMISSION OF MATTERS TO A VOTE
OF SECURITY HOLDERS

No matter was submitted to a vote of Basic's shareholders during the fourth
quarter ended March 31, 2000.

<PAGE>

Part II

ITEM 5
MARKET FOR COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS

Basic's common stock is traded in the over-the-counter market. The following
table sets forth the range of high and low closing bid prices for each quarter
of the last two fiscal years. Prices are obtained from National Quotation
Bureau, LLC.

High Low
---- ---
Year Ended March 31, 1999
-------------------------

First Quarter................................ $ .070 $ .030
Second Quarter............................... .030 .025
Third Quarter................................ .025 .018
Fourth Quarter............................... .021 .020

Year Ended March 31, 2000
-------------------------

First Quarter................................ $ .035 $ .021
Second Quarter............................... .045 .035
Third Quarter................................ .045 .040
Fourth Quarter............................... .335 .045

The closing bid price on June 22, 2000 was $0.11. Transactions on the
over-the-counter market reflect inter-dealer quotations, without adjustments for
retail mark-ups, mark-downs or commissions to the broker-dealer and may not
necessarily represent actual transactions.

As of March 31, 2000, Basic had approximately 3,441 shareholders of record.
Management estimates there are over 5,000 beneficial owners. Basic has never
paid a cash dividend on its common stock. Any future dividend on common stock
will be at the discretion of the Board of Directors and will be dependent upon
the Company's earnings, financial condition, and other factors. The Company's
Board of Directors presently has no plans to pay any dividends in the
foreseeable future.

<PAGE>

ITEM 6
MANAGEMENT'S DISCUSSION AND ANALYSIS
AND PLAN OF OPERATION

Liquidity Outlook
-----------------

At year end March 31, 1999 the Company's financial statements were presented on
a going concern basis, which contemplated the realization of assets and the
satisfaction of liabilities in the normal course of business. A major concern at
fiscal year end 1999 was a balloon payment due to the Company's bank on April 1,
2000. At that time oil prices were at the $14-$15 level and it was management's
belief that Basic would not be able to generate sufficient cash flow from
operations to have available on April 1 the necessary funds to pay the
anticipated remaining balance. However, as oil prices made a strong recovery
during the year ended March 31, 2000, Basic was able to show a dramatic increase
in cash flow from operations in fiscal 2000 relative to fiscal 1999. In
addition, the Company generated a sizeable profit in fiscal 2000 after two
consecutive years of losses and narrowed a working capital deficit of $195,000
at fiscal year end 1999 to $32,000 at fiscal year end 2000. These improvements
in Basic's financial condition prompted the Company's bank to amend the existing
loan agreement and extend the term of the note from April 1, 2000 to December
31, 2001. As such, Basic is no longer subject to a going concern qualification
at March 31, 2000.

The Company's primary source of funding is the net cash flow from the sale of
its oil and gas production. The profitability and cash flow generated by the
Company's operations in any particular accounting period will be directly
related to: (a) the volume of oil and gas produced and then sold, (b) the
average realized prices for oil and gas sold, and (c) lifting costs. Assuming
that oil prices do not decline significantly from current levels, management
believes the cash generated from operations will enable the Company to meet its
existing and normal recurring obligations as they become due in fiscal 2001.

Capital Structure and Liquidity
-------------------------------

FINANCING. The Company recognizes the importance of developing its capital
resource base in order to pursue its objectives. However, subsequent to its last
public offering in 1980, debt financing has been the sole source of external
funding.

BANK DEBT. At March 31, 1999, the Company had a Declining Balance, Revolving
Line of Credit (DBRLOC) with Norwest Bank of Colorado, N.A. ("the Bank") (now
known as Wells Fargo Bank West, N.A.). At that time, the DBRLOC had a borrowing
base of $570,000. Under the terms of the agreement in effect at March 31, 1999,
Basic was obligated to make monthly principal payments of $20,000 through March
31, 2000. On the maturity date of April 1, 2000 any remaining balance due was
required to be paid in full.

On March 3, 2000, Basic executed an amended loan agreement with the Bank. Under
the terms of the amended agreement, which was made effective February 16, 2000,
the expiration of the loan was extended from April 1, 2000 until December 31,
2001. As before, the Company is scheduled to make monthly principal payments of
$20,000 until maturity and any remaining balance at maturity would then be due
and payable.

<PAGE>

Effectively, Basic does not have any remaining borrowing capacity; however, the
Bank has made additional funds available to the Company for acquisitions on a
project-by-project basis. In August 1999 and March 2000, the Bank extended the
borrowing base and loaned Basic an additional $50,000 and $41,000, respectively.
These funds were used exclusively for the purchase of various working interests
in seven oil properties located in and around the Company's current production
in the Williston basin.

At March 31, 2000, the DBRLOC had a borrowing base of $461,000. Additional
information concerning the Company's debt appears in Note 5 to the Consolidated
Financial Statements.

HEDGING. Hedging techniques are traditionally used to limit exposure to price
fluctuations. Given the financial leverage created by its bank debt and the
magnitude of principal payments due in fiscal 1999 and 2000, management
recognized that fluctuations in crude oil prices could have a negative impact on
the Company's financial affairs. Accordingly, the Company entered futures and/or
options contracts in order to hedge this exposure. Basic did not hedge any gas
production during the past year. Information concerning the Company's hedging
activities appears in Note 1 to the Consolidated Financial Statements.

LIQUIDITY. The Company's current ratio improved from 0.67:1 at March 31, 1999 to
0.97:1 at March 31, 2000. A specific bank covenant requires the maintenance of a
current ratio of at least 1:1, after adjustment for the removal of the current
portion of long-term debt. At March 31, 2000, the Company was in compliance with
all bank covenants and its current ratio was 1.28:1 as calculated per the
provisions of the covenants.

Current assets increased $560,000 (148%) from $378,000 at March 31, 1999 to
$938,000 at March 31, 2000. Oil and gas sales receivable increased $176,000
(136%) from $129,000 at March 31, 1999 to $305,000 at March 31, 2000. This
increase was primarily due to two factors. First, as a result of the drop in oil
prices throughout most of fiscal 1999, Basic was forced to shut in a number of
marginal wells that remained shut in at the end at March 31, 1999. The majority
of these wells were placed back on production during fiscal 2000 and contributed
to sales at the end of the year. The second factor was the significant increase
in the price of oil at March 31, 2000 relative to the price at March 31, 1999.

Joint interest and other receivables increased $160,000 (127%) from $126,000 at
fiscal year end 1999 to $286,000 at fiscal year end 2000. The primary reason for
this increase was a significant jump in the level of field operations activity
at or just prior to March 31, 2000 relative to March 31, 1999. This escalation
in field operations came from two sources. First, the acquisition of eight
properties during fiscal 2000, on all of which Basic took over operations.
Outside working interests on six of the eight properties range from 55 percent
to approximately 94 percent. The second source was the heightened level of
workover activity at March 31, 2000 relative to March 31, 1999. In particular
three significant workovers were performed in the fourth quarter ended March 31,
2000 on Company-operated properties that have outside working interests ranging
from approximately 26 percent to approximately 94 percent. See also Note 3 to
the Consolidated Financial Statements for a discussion of Other Current Assets.

Current liabilities increased $397,000 (69%) from $573,000 at March 31, 1999 to
$970,000 at March 31, 2000. Accounts payable increased $292,000 (152%) from
$192,000 at March 31, 1999 to $484,000 at March 31, 2000. And accrued

<PAGE>

liabilities increased $105,000 (74%) from $141,000 at March 31, 1999 to $246,000
at March 31, 2000. Both of these increases were once again a result of the
increase in field activities at fiscal year end 2000 relative to fiscal year end
of fiscal 1999. This increase in activity was again a function of the additional
number of wells that were on production at fiscal year end 2000 compared to
fiscal year end 1999.

Cash flows from operating activities increased 337% from $140,000 in fiscal 1999
to $612,000 in fiscal 2000. This increase in cash flows from operating
activities is a direct result of the upward trend in oil prices that began
towards the end of fiscal 1999 and continued throughout fiscal 2000.

Net cash used in investing activities increased 176% from $100,000 in fiscal
1999 to $276,000 in fiscal 2000. In 1999, with tight cash flow constraints due
to low oil prices, only one recompletion was attempted. That one was
unsuccessful. However, in fiscal 2000, the surge in oil prices provided Basic
the additional cash flow necessary to increase its capital expenditure activity
$167,000 (78%), from $213,000 in fiscal 1999 to $380,000 in fiscal 2000. Capital
expenditures in fiscal 2000 included $110,000 for acquisitions and $160,000 for
recompletion and lease equipment improvements. The Company attempted two
recompletions in fiscal 2000, both of which were successful. Basic also spent
$81,000 in fiscal 2000 to plug and abandon various properties. Pursuant to full
cost pool accounting guidelines, this amount is included in capital expenditures
for oil and gas properties on the Consolidated Statement of Cash Flows and in
the full cost pool on the Consolidated Balance Sheets.

With respect to its financing activities, the Company had a net reduction of its
outstanding bank debt of $109,000 in fiscal 2000
compared to a net reduction of $54,000 in 1999.

OTHER. The Company recorded a valuation allowance of $1,974,000 at March 31,
2000 equal to the excess of deferred tax assets over deferred tax liabilities.
This valuation allowance reflects management's belief that the benefits from the
deferred tax assets will more than likely not be realized.

IMPACT OF INFLATION. Inflation has not had a great impact on the Company in
recent years because of the relatively low rates of
inflation in the United States.

Capital Resources
-----------------

OVERVIEW. In addition to the Company's routine production-related costs, general
and administrative expenses and debt repayment requirements, the Company
requires capital to fund the development and enhancement of recently acquired
properties and capital to fund the acquisition of additional properties. Given
the current price of the Company's stock, management believes it would be
difficult to raise additional equity capital. Furthermore, the existing bank
debt is effectively at its borrowing base ceiling, although the Company's bank
has recently been willing to lend Basic additional funds for certain
acquisitions evaluated on a case-by-case basis. As such, the Company has only a
very limited available debt capacity. Therefore, should management identify
attractive acquisition opportunities, there can be no assurance that the

<PAGE>

necessary funds will be available. With respect to required workovers and
repairs on its oil and gas properties, management intends to fund these
immediate needs with its internally-generated cash flow from operations.

OTHER COMMITMENTS. As of June 13, 2000, the Company has no obligations to
purchase or sell any of its oil and gas properties nor any other commitments
beyond its office lease.

Results of Operations
---------------------

Fiscal 2000 Compared with Fiscal 1999

OVERVIEW. Operations in the year ended March 31, 2000 (2000) resulted in net
income of $353,000 compared to a net loss of $54,000 in
the year ended March 31, 1999 (1999).

REVENUES. Oil and gas sales revenue increased $760,000 (53%) in 2000 over 1999.
Oil sales revenue alone increased $776,000 (64%). The effect of higher oil
prices accounted for an increase of $802,000; however lower oil sales volume
reduced this amount by $26,000. Gas sales revenue alone decreased $16,000 (7%)
in 2000 from 1999. Higher gas prices resulted in an increase of $41,000;
however, this was more than offset by a $57,000 decrease resulting from lower
gas sales volume.

VOLUMES AND PRICES. Total liquid sales decreased 2%, from 101,000 barrels in
1999 to 98,000 barrels in 2000, while the average price per barrel increased 68%
from $11.96 in 1999 to $20.11 in 2000. Total gas sales decreased 26%, from
137,000 Mcf in 1999 to 102,000 Mcf in 2000, while the average price per Mcf
increased 25%, from $1.61 in 1999 to $2.02 in 2000. Along with normal production
decline, liquid and gas sales volumes were down in 2000 from 1999 due to the
loss of sales from non-operated, marginal properties that contributed to
production in 1999, were subsequently sold, and thus did not contribute to sales
volumes in 2000. The sale of non-operated, marginal properties is in line with
the Company's previously stated strategy to divest and/or abandon marginal wells
in an effort to generate additional cash from sale proceeds and improve overall
profitability.

EXPENSES. Oil and gas production expense increased $395,000 (42%) in 2000 over
1999 primarily as a result of an increase in field activities fueled by the oil
price recovery in 2000. During 1999, wells with very high lifting costs were
shut in when oil prices declined below the cost to produce those wells. In
addition, the Company deferred workovers and repairs when the payout of these
expenses was unacceptably long or adversely impacted the Company's cash position
or liquidity ratios. As oil prices began to recover at the end of 1999 and
continued throughout 2000, Basic was able to return a number of wells to
production and perform the workovers and repairs necessary to establish peak
production on other wells. The additional expenditures in 2000 resulting from
this increase in field activity more than offset a decrease in operating
expenses resulting from the sale of non-operated, marginal properties.

Production taxes increased $61,000 (62%) primarily as a result of two factors.
First, because production taxes are a function of sales, the increase in oil and
gas sales revenue directly resulted in a rise in production taxes. Second, Basic
received the benefit of some severance tax refunds from two states in 1999.

<PAGE>

As a result of the increases in both oil and gas production expense and
production taxes, the overall lifting cost per equivalent barrel increased 54%,
from $8.43 in 1999 to $12.97 in 2000.

Depreciation, depletion and amortization expense decreased $73,000 (27%) in 2000
from 1999. This decrease was primarily due to two factors. First, the decline in
equivalent barrel production in 2000 relative to 1999; and second, the increase
in the estimated oil and gas reserves at March 31, 2000 (see Note 13 to the
Consolidated Financial Statements). As a result, the depletion rate (the ratio
of production for the year divided by the estimated reserves at the beginning of
the year) dropped from 18.1% in 1999 to 13.2% in 2000. Likewise, the depletion
expense per equivalent barrel declined 21% from $2.13 in 1999 to $1.69 in 2000.

Gross general and administrative (G&A) expense decreased $21,000 (7%) while net
G&A expense decreased $19,000 (17%) in 2000 from 1999. Gross G&A expense differs
from net G&A expense in that the Company is allowed to recover an overhead fee
on wells that it operates. This fee is applied against, and serves to reduce,
gross G&A expense. The decrease in gross G&A expense is a reflection of
management's continued efforts in 2000 to reduce expenses in light of the
volatility of oil prices the past couple of years and the uncertainty of future
oil prices. The decrease in G&A expense was achieved primarily through a
reduction in office lease expense (see Note 6 to the Consolidated Financial
Statements), personnel, salaries and related benefits. The percentage of gross
general and administrative expense that the Company was able to charge out to
operated wells was 67% in 2000 compared to 57% in 1999. This increase in 2000 is
a reflection of the previously shut-in wells that Basic was able to put back on
production and the acquisition of new wells. Net general and administrative
expense per equivalent barrel decreased 11% from $0.91 in 1999 to $0.81 in 2000.

OTHER INCOME/(EXPENSE). Other income/(expense) decreased $10,000 (18%) from a
net expense of $56,000 in 1999 to a $46,000 net expense in 2000. This decrease
was primarily the result of lower interest expense due to a lower average
outstanding balance due on the Company's bank debt.

(Intentionally left blank)

<PAGE>

Selected Financial Information
------------------------------

The following table shows selected financial information and averages for each
of the three prior years in the period ended March 31.
<TABLE>
<CAPTION>

2000 1999 1998
---- ---- ----
Production:
<S> <C> <C> <C>
Oil (barrels)............................... 98,000 101,000 125,000
Gas (Mcf)................................... 102,000 137,000 166,000
Revenue: (in thousands)
Oil ................................... $ 1,980 $ 1,204 $ 2,113
Gas ................................... 205 221 309
--------- --------- ---------

Total ................................... 2,185 1,425 2,422
Less: Total production expense (in thousands)1....... 1,497 1,041 1,891
--------- --------- ---------

Gross profit (in thousands).......................... $ 688 $ 384 $ 531
========= ========= =========
Write-down of oil and gas properties
(in thousands).............................. $ -- $ -- $ 870
Depletion expense (in thousands)..................... $ 195 $ 263 $ 534
General and administrative expense
(in thousands).............................. $ 94 $ 113 $ 177

Average sales price2
Oil (per barrel)............................ $ 20.11 $ 11.96 $ 16.91
Gas (per Mcf)............................... 2.02 1.61 1.86
Average production expense1,2,3...................... 12.97 8.43 12.40
Average gross profit2,3.............................. 5.96 3.11 3.47
Average depletion expense2,3......................... 1.69 2.13 3.50
Average general & administrative expense2,3.......... 0.81 0.91 1.16

--------------------------

1 Operating expenses, including production tax
2 Averages calculated based upon non-rounded figures
3 Per equivalent barrel (6 Mcf of gas is equivalent to 1 barrel of
oil)
</TABLE>

Year 2000
---------

The much anticipated "Year 2000" problem is the result of computer programs
being written using two digits rather than four to define the applicable year.
Any computer programs, or embedded computer chips, that have time sensitive
software may recognize a date using "00" as the year 1900 rather than the year
2000.

The Company did not experience any Year 2000 difficulties that were not
immediately resolved. The software provider has assured the Company that its
software is now fully Year 2000 compliant. Any necessary Year 2000 modifications

<PAGE>

to Basic's software accounting system were included in the ongoing software
support contract and the Company did not expend any additional funds to resolve
Year 2000 issues.

With respect to the Company's operational activity, Basic did not experience any
delays, shortage of supplies or equipment, curtailments, or any other Year 2000
problems with respect to any of its vendors or purchasers.

Recent Accounting Pronouncements
--------------------------------

In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities" which requires companies to record
derivatives on the balance sheet as assets or liabilities, measured at fair
market value. Gains or losses resulting from changes in the values of those
derivatives would be accounted for depending on the use of the derivative and
whether it qualifies for hedge accounting. The key criterion for hedge
accounting is that the hedging relationship must be highly effective in
achieving offsetting changes in fair value or cash flows. SFAS No. 133 is
effective for fiscal periods beginning after June 15, 1999. During the past year
the FASB adopted SFAS No. 137 that extended the effective date of SFAS No. 133
from fiscal periods beginning after June 15, 1999 to fiscal periods beginning
after June 15, 2000. Management believes the adoption of SFAS No. 133 will have
no material impact on the Company's financial statements.

(Intentionally left blank)

18
<PAGE>

Basic Earth Science Systems, Inc.

Table of Contents

Consolidated Financial Statements
and Accompanying Notes

March 31, 2000 and 1999

Page
----

Independent Auditor's Report - Hein + Associates LLP.................... 20

Report of Independent Certified Public Accountants - BDO Seidman, LLP.. 21

Consolidated Balance Sheets............................................. 22 - 23

Consolidated Statements of Operations................................... 24

Consolidated Statements of Shareholders' Equity......................... 25

Consolidated Statements of Cash Flows................................... 26

Notes to Consolidated Financial Statements.............................. 27 - 41

19
<PAGE>

ITEM 7
FINANCIAL STATEMENTS

INDEPENDENT AUDITOR'S REPORT

To the Board of Directors
Basic Earth Science Systems, Inc.
Greenwood Village, Colorado

We have audited the accompanying consolidated balance sheet of Basic Earth
Science Systems, Inc. and subsidiary as of March 31, 2000, and the related
consolidated statements of operations, shareholders' equity, and cash flows for
the year then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.

We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Basic Earth Science
Systems, Inc. and subsidiary as of March 31, 2000, and the results of their
operations and their cash flows for the year then ended, in conformity with
generally accepted accounting principles.

Hein + Associates LLP

Denver, Colorado
June 13, 2000

<PAGE>

REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

To the Stockholders and Board of Directors
Basic Earth Science Systems, Inc.
Denver, Colorado

We have audited the accompanying consolidated balance sheet of Basic Earth
Science Systems, Inc. and subsidiaries as of March 31, 1999, and the related
consolidated statements of operations, shareholders' equity, and cash flows for
the year ended March 31, 1999. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audit.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Basic Earth Science
Systems, Inc. and subsidiaries as of March 31, 1999, and the results of their
operations and their cash flows for the year ended March 31, 1999, in conformity
with generally accepted accounting principles.

The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 2 to the March
31, 1999 consolidated financial statements, the Company has incurred a net loss
for the year ended March 31, 1999, is in a negative working capital position,
and has its debt facility maturing in April 2000. These conditions raise
substantial doubt about its ability to continue as a going concern. Management's
plans in regard to these matters are also described in Note 2 to the March 31,
1999 consolidated financial statements. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.

BDO SEIDMAN, LLP

Denver, Colorado
June 30, 1999

21
<PAGE>
<TABLE>
<CAPTION>

Basic Earth Science Systems, Inc.

Consolidated Balance Sheets

At March 31,
Assets
------
2000 1999
------------ ------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 265,000 $ 38,000
Accounts receivable:
Oil and gas sales 305,000 129,000
Joint interest and other receivables 286,000 126,000
Allowance for doubtful accounts (50,000) (54,000)
Other current assets 132,000 139,000
------------ ------------

Total current assets 938,000 378,000
------------ ------------

Property and equipment:
Oil and gas properties (full cost method) 32,914,000 32,619,000
Furniture, fixtures and equipment 303,000 424,000
------------ ------------

33,217,000 33,043,000
Accumulated depreciation (262,000) (369,000)
Accumulated depletion - FCP (includes cumulative ceiling
limitation charges of $14,961,000) (31,674,000) (31,479,000)
------------ ------------

Net property and equipment 1,281,000 1,195,000
Other non-current assets 163,000 168,000
------------ ------------

Total non-current assets 1,444,000 1,363,000
------------ ------------

Total assets $ 2,382,000 $ 1,741,000
============ ============

See accompanying notes to consolidated
financial statements.

<PAGE>

Basic Earth Science Systems, Inc.

Consolidated Balance Sheets

At March 31,
Liabilities and Shareholders' Equity
------------------------------------
2000 1999
------------ ------------
Current liabilities:
Accounts payable $ 484,000 $ 192,000
Accrued liabilities 246,000 141,000
Current portion of long-term debt 240,000 240,000
------------ ------------

Total current liabilities 970,000 573,000
------------ ------------

Long-term debt 221,000 330,000
------------ ------------

Commitments (Note 6)

Shareholders' equity:
Preferred stock, $.001 par value
Authorized - 3,000,000 shares
Issued - 0 shares -- --
Common stock, $.001 par value
Authorized - 32,000,000 shares
Issued - 16,879,752 shares at
March 31, 2000 and 1999 17,000 17,000
Additional paid-in capital 22,692,000 22,692,000
Treasury stock (349,265 shares at March
31, 2000 and 1999); at cost (23,000) (23,000)
Accumulated deficit (21,495,000) (21,848,000)
------------ ------------

Total shareholders' equity 1,191,000 838,000
------------ ------------

Total liabilities and shareholders' equity $ 2,382,000 $ 1,741,000
============ ============

See accompanying notes to consolidated
financial statements.

23
<PAGE>

Basic Earth Science Systems, Inc.

Consolidated Statements of Operations

Years Ended March 31,

2000 1999
------------ ------------
Revenues:
Oil and gas sales $ 2,185,000 $ 1,425,000
Well service revenue 34,000 24,000
------------ ------------

Total revenues 2,219,000 1,449,000
------------ ------------

Expenses:
Oil and gas production 1,337,000 942,000
Production tax 160,000 99,000
Well servicing expenses 30,000 21,000
Depreciation, depletion and amortization 199,000 272,000
General and administrative 94,000 113,000
------------ ------------

Total expenses 1,820,000 1,447,000
------------ ------------

Income from operations 399,000 2,000
------------ ------------

Other Income (Expense):
Interest and other income 8,000 16,000
Interest expense (54,000) (72,000)
------------ ------------

Total other expense (46,000) (56,000)
------------ ------------

Income (loss) before income taxes 353,000 (54,000)
Income taxes -- --
------------ ------------

Net income (loss) $ 353,000 $ (54,000)
============ ============

Basic weighted average common shares outstanding 16,530,487 16,530,487
============ ============

Basic and diluted income (loss) per share $ 0.021 $ (0.003)
============ ============

See accompanying notes to consolidated financial statements.

<PAGE>

Basic Earth Science Systems, Inc.

Consolidated Statements of Shareholders' Equity

Years Ended March 31, 2000 and 1999

Common stock Additional Treasury stock
------------------------------- paid-in ----------------------------- Accumulated
Shares Par value capital Shares Amount deficit
------------- -------------- --------------- ------------- ------------- -----------------

Balance, April 1, 1998 16,879,752 $ 17,000 $ 22,692,000 (349,265) $ (23,000) $ (21,794,000)

Net loss -- -- -- -- -- (54,000)
------------- -------------- --------------- ------------- ------------- -----------------

Balance, March 31, 1999 16,879,752 17,000 22,692,000 (349,265) (23,000) (21,848,000)

Net income -- -- -- -- -- 353,000
------------- -------------- --------------- ------------- ------------- -----------------

Balance, March 31, 2000 16,879,752 $ 17,000 $ 22,692,000 (349,265) $ (23,000) $ (21,495,000)
============= ============== =============== ============= ============= =================

See accompanying notes to consolidated financial statements.

<PAGE>

Basic Earth Science Systems, Inc.

Consolidated Statements of Cash Flows

Years Ended March 31,

2000 1999
--------- ---------
Increase (decrease) in cash and cash equivalents:

Cash flows from operating activities:
Net income (loss) $ 353,000 $ (54,000)
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation, depletion and amortization 199,000 272,000
Change in:
Accounts receivable (340,000) 2,000
Other assets (7,000) 37,000
Accounts payable and accrued liabilities 397,000 (133,000)
Other 10,000 16,000
--------- ---------

Net cash provided by operating activities 612,000 140,000
--------- ---------

Cash flows from investing activities:
Capital expenditures:
Oil and gas properties (380,000) (213,000)
Support equipment -- (5,000)
Proceeds from sale of lease and well equipment inventory 4,000 22,000
Proceeds from sale of oil and gas properties and equipment 100,000 96,000
--------- ---------

Net cash used in investing activities (276,000) (100,000)
--------- ---------

Cash flows from financing activities:
Principal payments on long-term debt (200,000) (121,000)
Proceeds from borrowing 91,000 67,000
--------- ---------

Net cash used in financing activities (109,000) (54,000)
--------- ---------

Cash and cash equivalents:
Increase (decrease) in cash and cash equivalents 227,000 (14,000)
Balance, beginning of year 38,000 52,000
--------- ---------

Balance, end of year $ 265,000 $ 38,000
========= =========

Supplemental disclosure of cash flow information:
Cash paid for interest $ 54,000 $ 66,000

See accompanying notes to consolidated financial statements.

</TABLE>

<PAGE>

Basic Earth Science Systems, Inc.

Notes to Consolidated Financial Statements

1. Summary of Significant Accounting Policies
------------------------------------------

ORGANIZATION AND NATURE OF OPERATIONS. Basic Earth Science Systems, Inc. (Basic
or the Company), was originally organized in July 1969 and became a public
company in 1980. The Company is principally engaged in the acquisition,
exploitation, development, operation and production of crude oil and natural
gas. The Company's primary areas of operation are the Williston basin in North
Dakota and Montana, south Texas and the Denver-Julesburg basin in Colorado.

PRINCIPLES OF CONSOLIDATION. The consolidated financial statements include the
accounts of Basic Earth Science Systems, Inc. (Basic or the Company) and its
wholly-owned subsidiary, Basic Petroleum Services, Inc. All significant
intercompany accounts and transactions have been eliminated.

OIL AND GAS PRODUCING ACTIVITY. Basic follows the full cost method of accounting
for its oil and gas activity. Accordingly, all costs associated with the
acquisition, exploration and development of oil and gas properties are
capitalized. Should net oil and gas property cost exceed an amount equal to the
present value (using a 10% discount factor) of estimated future net revenue from
proved reserves, considering related income tax effects, as prescribed by the
Securities and Exchange Commission's ceiling limitation, the excess is charged
to expense during the period in which the excess occurs. Basic did not incur a
ceiling limitation charge in either of the years ended March 31, 2000 or 1999.

If a significant portion of Basic's oil and gas reserves are sold, a gain or
loss would be recognized; otherwise, proceeds from sales are applied as a
reduction of oil and gas properties. In the years ended March 31, 2000 and 1999,
Basic reduced the carrying value of its oil and gas properties $100,000 and
$96,000, respectively, as a result of the sale of its interest in certain oil
and gas properties.

The majority of Basic's operated liquid reserves are located in the Williston
basin of North Dakota and Montana and in south Texas, and the majority of
Basic's operated gas reserves are located in Colorado's Denver-Julesburg basin.

All capitalized costs are depleted on a composite units-of-production method
based on estimated proved reserves attributable to the oil and gas properties
owned by Basic. Depletion per equivalent barrel of production was $1.69 and
$2.13 for the years ended March 31, 2000 and 1999, respectively.

USE OF ESTIMATES. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates. There are many factors, including global events, that may influence
the production, processing, marketing, and valuation of crude oil and natural
gas. A reduction in the valuation of oil and gas properties resulting from
declining prices or production could adversely impact depletion rates and
ceiling test limitations.

<PAGE>

SUPPORT EQUIPMENT AND OTHER. Support equipment and other equipment are stated at
cost. Depreciation of support equipment and other property is computed using
various methods over periods ranging from five to seven years.

INVENTORY. Inventory, consisting primarily of tubular goods and oil field
equipment, are stated at the lower of cost or market, cost being determined by
the FIFO method.

FAIR VALUE OF FINANCIAL INSTRUMENTS. Unless otherwise specified, the Company
believes the carrying value of financial instruments approximates their fair
value.

LONG-TERM ASSETS. The Company applies Statement of Financial Accounting
Standards (SFAS) No. 121, "Accounting for the Impairment of Long-Lived Assets"
in evaluating long-lived assets for possible impairment. Under SFAS No. 121,
long-lived assets and certain intangibles are reported at the lower of cost or
their estimated recoverable amounts.

EARNINGS (LOSS) PER SHARE. Basic earnings (loss) per share is computed by
dividing net income (loss) by the weighted average number of common shares
outstanding for the period. Diluted earnings per share reflects the potential
dilution of securities that could share in the earnings of an entity and is
calculated by dividing net income (loss) by the diluted weighted average number
of common shares. The diluted weighted average number of common shares is
computed using the treasury stock method for common stock issuable, in the case
of the Company, to outstanding stock options. The following is a reconciliation
of basic and diluted earnings per share for the year ended March 31, 2000:
<TABLE>
<CAPTION>

Income Shares Per Share
(Numerator) (Denominator) Amount
--------------- ------------------ -------------
<S> <C> <C> <C>
Basic earnings per share:
Income available to common shareholders $ 353,000 16,530,487 $ 0.021
=============
Effect of dilutive options -- 346,036
--------------- ------------------

Diluted earnings per share:
Income available to common shareholders
plus assumed conversions $ 353,000 16,876,523 $ 0.021
=============== ================== =============
</TABLE>

Options to purchase 490,000 shares of common stock were outstanding at March 31,
2000. All of these options had a dilutive effect on the fiscal 2000 earnings per
share. For purposes of calculating diluted earnings per share, those options
resulted in 346,036 incremental shares for fiscal 2000. See Note 7 below for
further discussion of these options.

In loss periods, dilutive common equivalent shares are excluded as the effect is
anti-dilutive. Thus the Company excluded options to purchase 440,000 shares of
common stock in the computation of diluted earnings per share for the year ended
March 31, 1999 because their effect was anti-dilutive.

STOCK OPTION PLANS. The Company applies Accounting Principles Board Opinion 25,
"Accounting for Stock Issued to Employees," (APB Opinion 25) and related
Interpretations in accounting for all stock option plans. Under APB Opinion 25,

<PAGE>

no compensation cost has been recognized for stock options granted to employees
as the option price equals or exceeds the market price of the underlying common
stock on the date of grant.

SFAS No. 123, "Accounting for Stock-Based Compensation," requires the Company to
provide pro forma information regarding net income as if compensation cost for
the Company's stock option plans had been determined in accordance with the fair
value based method prescribed in SFAS No. 123.

COMPREHENSIVE INCOME. The Company has adopted SFAS No. 130, "Reporting
Comprehensive Income." Comprehensive income is comprised of net income and all
changes to the statements of shareholders' equity, except those due to
investment by shareholders, changes in additional paid-in capital and
distributions to shareholders. The adoption of SFAS No. 130 did not impact the
Company's financial statements for 2000 or 1999.

CASH AND CASH EQUIVALENTS. For purposes of the Consolidated Balance Sheets and
Statements of Cash Flows, Basic considers all highly liquid investments with a
maturity of ninety days or less when purchased to be cash equivalents. The
carrying amount of cash equivalents approximates fair value because of the
short-term maturity of those instruments.

HEDGING. Hedging techniques are traditionally used to limit exposure to price
fluctuations. Under futures contracts, the Company would receive or make
payments to the New York Mercantile Exchange (NYMEX) via a trading account based
on the differential between the price at which any given contract was sold and
the price at which it was bought back (the closing price). Under put option
contracts, the Company receives payments from NYMEX if the closing price is less
than the floor price at which the put option was purchased.

The Company has favored options, rather than futures contracts, in order to
participate more fully if prices were to again escalate. Gains or losses
attributable to such contracts that hedge specific future deliveries are
deferred and recognized in income when the corresponding physical sale is
recorded.

At March 31, 2000, Basic had two open option contracts to hedge future
deliveries with a June 2000 maturity date for both contracts. The Company's cost
basis of approximately $1,000 is included in Other Current Assets. Basic had
unrealized losses of approximately $4,000 on these contracts at March 31, 2000.
At March 31, 1999, the Company had no open option contracts.

The Company is not exposed to credit risk in the event of nonperformance by a
counterparty in that such risk is borne by NYMEX. Since each seller of a put or
call option is required to furnish an initial cash margin and is subject to
margin calls, nonperformance by NYMEX is considered unlikely.

In addition to the option contracts, on August 31, 1999, Basic and its bank
entered into an agreement to hedge two thousand barrels per month (slightly less
than one-third of the Company's anticipated oil production) for a one-year
period from September 1999 through August 2000. The type of hedge used is a
"Zero-Cost Collar" whereby Basic is protected for the stated quantity against a
drop in oil prices below the NYMEX floor price of $18.00, but will forfeit any
additional revenue should oil prices exceed the NYMEX cap price of $22.12. There

<PAGE>

is no effect should oil prices remain between the floor and cap prices. For the
year ended March 31, 2000, Basic had forfeited approximately $57,000 under this
hedging agreement.

Cash flows from hedging activities are consolidated into oil and gas revenues on
the Statements of Operations and, as a result, are included in operating
activities in the Statements of Cash Flows. The Company realized losses of
approximately $73,000 during the year ended March 31, 2000 and gains of
approximately $69,000 on its hedging activities during the year ended March 31,
1999.

The Company recognizes the benefits of stabilizing volatile oil prices via
hedging instruments. Furthermore, the Company's bank also encourages this
activity and tends to demonstrate more favorable lending practices under these
circumstances. However, at the present time, following the expiration of the
"Zero Cost Collar" in August 2000 described above, the Company will have no
further hedging instruments in place. This event should not be construed as a
change in Company policy. Rather, it reflects the high level of backwardation in
the current futures market and, as a result, the high cost/inability to hedge
future sales at current prices. The Company intends to monitor the futures
market in an effort to identify, and participate in, hedging opportunities that
the Company views as favorable.

However, continuation of hedging activities, at this level of coverage or at
higher or lower levels of coverage, may vary or change, due to change of
circumstances, unforeseen opportunities, inability to fund margin requirements,
lending institution requirements and other events which the Company is not able
to anticipate.

INCOME TAXES. The Company accounts for income taxes in accordance with SFAS No.
109, "Accounting for Income Taxes" which requires the use of the "liability
method." Accordingly, deferred tax liabilities and assets are determined based
on the temporary differences between the financial statement and tax bases of
assets and liabilities, using enacted tax rates in effect for the year in which
the differences are expected to reverse.

NEW ACCOUNTING PRONOUNCEMENTS. In June 1998, the FASB issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" that requires
companies to record derivatives on the balance sheet as assets or liabilities,
measured at fair market value. Gains or losses resulting from changes in the
values of those derivatives would be accounted for depending on the use of the
derivative and whether it qualifies for hedge accounting. The key criterion for
hedge accounting is that the hedging relationship must be highly effective in
achieving offsetting changes in fair value or cash flows. SFAS No. 133 is
effective for fiscal periods beginning after June 15, 1999. During the past year
the FASB adopted SFAS No. 137 that extended the effective date of SFAS No. 133
from fiscal periods beginning after June 15, 1999 to fiscal periods beginning
after June 15, 2000. Management believes the adoption of SFAS No. 133 will have
no material impact on the Company's financial statements.

RECLASSIFICATIONS. Certain prior year amounts may have been reclassified to
conform to current year presentation. Such reclassifications had no effect on
the prior year net loss.

<PAGE>

2. Nature of the Oil and Gas Industry
----------------------------------

The profitability of the Company's oil and gas operations is highly dependent on
prevailing prices for oil and gas, which is beyond Basic's control. While
current prices are at relatively high levels and the Company has generated net
income and positive cash flow from operations in fiscal 2000, prices have been
historically volatile and Basic has incurred significant losses in the past. If
prices decline substantially in the future, it may be difficult for the Company
to maintain profitable operations and cash flow.

3. Other Current Assets
--------------------

Other current assets at March 31, 2000 and 1999 consisted of the following:

2000 1999
---------- -----------

Lease and well equipment inventory $ 117,000 $ 135,000
Note receivable 8,000 --
Other current assets 7,000 4,000
---------- -----------

Total other current assets $ 132,000 $ 139,000
========== ============

The lease and well equipment inventory represents well site production equipment
owned by the Company that has been transferred from wells that the Company
operates. This occurs when the Company plugs a well or replaces defective,
damaged or suspect equipment on a producing well. In this case, salvaged
equipment is valued at prevailing market prices, removed from the full cost pool
and made available for sale. This equipment is carried on the balance sheet at a
value not to exceed the original carrying value established at the time it was
placed in inventory. This equipment is intended for re-sale to third parties at
current fair market prices. Sale of this equipment is expected to occur in less
than one year. This policy does not preclude the Company from further
transferring serviceable equipment to other wells that Basic operates on an
as-needed basis.

4. Other Non-Current Assets
-------------------------

Other non-current assets at March 31, 2000 and 1999 consisted of the following:

2000 1999
-------- ---------

Lease and well equipment inventory $ 94,000 $ 86,000
Plugging bonds 69,000 69,000
Note receivable -- 13,000
-------- ---------

Total other non-current assets $163,000 $ 168,000
========= =========

The lease and well equipment inventory represents well site production equipment
owned by the Company that has either been purchased or has been transferred from
wells that the Company operates. When placed in inventory, new equipment is

<PAGE>

valued at cost and salvaged equipment is valued at prevailing market prices. The
inventory is carried at the lower of the original carrying value or fair market
value. This equipment is intended for use on leases that Basic operates rather
than held for re-sale.

Plugging bonds represents Certificates of Deposit furnished by the Company to
third parties who supply plugging bonds to federal and state agencies where the
Company operates wells.

See Note 10 below for discussion of the note receivable.

5. Long-Term Debt
--------------

Outstanding debt of the Company as of March 31, 2000 and 1999 is as follows:

2000 1999
---------- ----------
Bank note under loan
agreement (see below) $ 461,000 $ 570,000

Less current portion 240,000 240,000
---------- ----------

Total long-term debt $ 221,000 $ 330,000
========== ==========

In June 1999 the loan agreement was amended to allow for monthly principal
payments of $10,000 from June 1999 through September 1999. Beginning in October
1999, the monthly principal payments reverted back to $20,000 through March 31,
2000.

Effectively, Basic does not have any remaining borrowing capacity; however, the
Bank has made additional funds available to the Company for acquisitions on a
project-by-project basis. In August 1999 and March 2000, the Bank extended the
borrowing base and loaned Basic an additional $50,000 and $41,000, respectively.
These funds were to be used exclusively for the purchase of various working
interests in seven oil properties located in and around the Company's current
production in the Williston basin.

Under the DBRLOC loan agreement, the Company must maintain certain covenants
with regard to various financial ratios and net worth criteria. Failure to
maintain any covenant, after a curative period, creates a default under the loan
agreement and requires repayment of the entire outstanding balance. As of March
31, 2000, Basic is required to maintain a net worth of at least $750,000.

<PAGE>

Another specific bank covenant requires the maintenance of a current ratio of at
least 1:1 after adjustment for the removal of the current portion of long-term
debt. The Company was in compliance with both covenants at March 31, 2000 and
1999.

The DBRLOC is collateralized by mortgages on substantially all of the Company's
producing oil and gas properties. At March 31, 2000 and 1999, Basic's effective
annual interest rate was 10.75% and 9.75%, respectively.

Below is a schedule of the Company's required debt payments as of March 31,
2000:

Fiscal year Amount
----------- ------

2001 $ 240,000
2002 221,000
-------------

$ 461,000
=============

6. Commitments
-----------

During the year ended March 31, 1999, the Company leased its prior office space
for approximately $3,450 per month through the end of the lease term at April
30, 1999. Rent expense was approximately $41,000 for that year. Due to the
magnitude of a proposed rent increase (approximately 37%) and a required
three-year lease commitment, the Company, in April 1999, moved its office to a
new location. The new office space is in a building owned by Ray Singleton,
president of Basic (see Note 10 below). Under the terms of the new lease
agreement, the Company had a one-year lease term through March 31, 2000 with
monthly payments of $1,200. Rent expense for the year ended March 31, 2000 was
approximately $14,000. In April 2000, Basic signed a six-month lease extension
at a rate of $2,000 per month. The lease agreement is favorable in comparison to
other arrangements and options available to the Company in terms of available
office space, lease term and lease rates.

7. Shareholders' Equity
--------------------

STOCK OPTION PLAN .In both the years ended March 31, 2000 and 1999, the Company
granted options to purchase an aggregate of 50,000 shares of its common stock to
outside directors for services rendered. At March 31, 2000 and 1999, all options
were still outstanding. Option holders may exercise their options at prices
ranging from $0.0325 to $0.115 (which approximated the fair market value at the
date of grant) per share over a period not to exceed ten years beginning on the
grant date, provided they remain directors or employees of the Company.

<PAGE>

A summary of the status of the Company's stock option plan and outstanding
options as of March 31, 2000 and 1999 and changes during the years ending on
those dates is presented below:
<TABLE>
<CAPTION>

2000 1999
---------------------------- ----------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------------- ------------- ------------- -------------

<S> <C> <C> <C> <C>
Outstanding, beginning of year 440,000 $ 0.0774 440,000 $ 0.0811

Granted 50,000 0.0420 50,000 0.0325
Cancelled -- -- (50,000) 0.0650
Exercised -- -- -- --
------------- ------------- ------------- -------------

Outstanding, end of year 490,000 $ 0.0738 440,000 $ 0.0774
============= ============= ============= =============

Options exercisable, end of year 490,000 $ 0.0738 440,000 $ 0.0774
============= ============= ============= =============

Weighted average fair value of
options granted during the year $0.0420 $0.0325
======= =======
</TABLE>

SFAS No. 123, "Accounting for Stock-Based Compensation," requires the Company to
provide pro forma information regarding net income and net income per share as
if compensation costs for the Company's stock option plans and other stock
awards had been determined in accordance with the fair value based method
prescribed in SFAS No. 123. The Company estimated the fair value of each stock
award at the grant date by using the Black-Scholes option-pricing model with the
following weighted-average assumptions used for grants in the year ended March
31, 2000: dividend yield at 0 percent; expected volatility of approximately 127
percent; risk-free interest rate of 5.13 percent; and expected lives of ten
years for the options. The assumptions used for grants in the year ended March
31, 1999: dividend yield of 0 percent for all years; expected volatility of
approximately 82 percent; risk-free rate of 5.11 percent; and expected ten year
life for the options.

Under the accounting provisions for SFAS No. 123, the Company's net income and
net income per share would have been adjusted to the following pro forma
amounts:

Years Ended March 31,

2000 1999
------------ -------------
Net income (loss):
As reported $ 353,000 $ (54,000)
Pro forma $ 351,000 $ (54,000)
Net income (loss) per share
(basic and diluted):
As reported $ 0.021 $ (0.003)
Pro forma $ 0.021 $ (0.003)

The following table provides a summary of the stock options outstanding at March
31, 2000:

Options Outstanding Options Exercisable
--------------------------------------------------------------------------- -----------------------------------
Weighted
Average Weighted Weighted
Range of Number Remaining Average Number Average
Exercise Outstanding Contractual Exercise Exercisable Exercise
Prices at 3/31/00 Life Price at 3/31/00 Price
---------------- ---------------- --------------- --------------- --------------- ---------------

<S> <C> <C> <C> <C> <C>
$ 0.0325 50,000 8.33 years $ 0.0325 50,000 $ 0.0325
0.0420 50,000 9.33 0.0420 50,000 0.0420
0.0650 150,000 6.33 0.0650 150,000 0.0650
0.0781 100,000 5.33 0.0781 100,000 0.0781
0.0900 50,000 7.33 0.0900 50,000 0.0900
0.1150 90,000 7.67 0.1150 90,000 0.1150
---------------- ---------------- --------------- --------------- --------------- ----------------

$ .0325-0.115 490,000 6.98 years $ 0.0738 490,000 $ 0.0738
================ ================ =============== =============== =============== ================
</TABLE>

8. Major Customers
---------------

Purchasers of 10% or more of Basic's oil and gas production for the years ended
March 31, 2000 and 1999 are as follows:

2000 1999
---- ----

Murphy Oil USA, Inc. 43% 28%
Norco Crude Gathering, Inc. 22% 21%
Cenex Harvest States -- 11%

It is not expected that the loss of any of these customers would cause a
material adverse impact on operations since alternative markets for the
Company's products are readily available.

9. Income Tax
----------

Due primarily to the availability of net operating loss carryforwards and
favorable book to tax differences, the Company had no taxable income during the
years ended March 31, 2000 and 1999.

A reconciliation between the income tax provision at the statutory rate on
income taxes and the income tax provision at March 31, 2000 and 1999 is as
follows:

<PAGE>
<TABLE>
<CAPTION>
2000 1999
--------------- ----------------

<S> <C> <C>
Federal income tax provision at statutory rates $ 120,000 $ (18,000)
State income tax 12,000 (2,000)
Expired net operating loss carryforward 875,000 778,000
Change in valuation allowance (1,050,000) (782,000)
Expired investment tax credit carryforward 53,000 24,000
Other (10,000) --
--------------- ----------------

Income tax expense (benefit) $ -- $ --
=============== ================
</TABLE>

The Company recorded a valuation allowance of $1,974,000 and $3,024,000 at March
31, 2000 and 1999, respectively, equal to the excess of deferred tax assets over
deferred tax liabilities as it was unable to determine that these benefits are
more likely than not to be realized.

The components of the net deferred tax assets and liabilities are shown below:

For the Years Ended March 31,

2000 1999
------------ -------------

Net operating loss carryforward $ 865,000 $ 1,915,000
Statutory depletion carryforward 1,419,000 1,389,000
Other 3,000 56,000
------------ -------------

Total gross deferred tax assets 2,287,000 3,360,000
Valuation allowance (1,974,000) (3,024,000)
------------ -------------

Net deferred tax asset 313,000 336,000
Deferred tax liability - depreciation,
depletion and amortization (313,000) (336,000)
------------ -------------

Net deferred taxes $ -- $ --
============ =============

As of March 31, 2000, the Company has a net operating loss carryforward for tax
purposes of approximately $2,320,000 which expires as follows:

3/31/01 1,315,000
3/31/02 447,000
3/31/03 and beyond 558,000
---------------

$ 2,320,000
===============

<PAGE>

10. Related Party Transactions
--------------------------

It is the policy of Basic that officers or directors may assign to or receive
assignments from Basic in oil and gas prospects only on the same terms and
conditions as accepted by independent third parties. It is also the Company's
policy that officers or directors and Basic may participate together in oil and
gas prospects generated by independent third parties only on the same terms and
conditions as accepted by each other. During the year ended March 31, 2000, the
Company purchased from third parties five wells in Sheridan County, Montana in
which Ray Singleton, president of Basic, also participated. The Company acquired
working interests ranging from approximately 20% to 45% while Mr. Singleton's
interests range from approximately 2% to 10%. Basic's total cost of these
acquisitions was approximately $7,000 while Mr. Singleton's proportionate cost
was $1,000. During the year ended March 31, 1999 the Company purchased from a
third party an approximate 56% working interest in a well in McKenzie County,
North Dakota for approximately $5,000. As a part of the purchase, Mr. Singleton
bought a 20% working interest for a proportionate cost of approximately $2,000.
At March 31, 2000, with respect to his working interest in the aforementioned
wells, the Company has a $10,000 receivable from Mr. Singleton for his share of
operating expenses on these wells and a $4,000 payable to him for his share of
net revenue from the properties.

As mentioned in Note 6 above, the Company is currently leasing its office space
from Mr. Singleton. Total lease payments made to Mr. Singleton during the year
ended March 31, 2000 were approximately $14,000.

Included in Other Current Assets is the $8,000 balance due on a note receivable
from Mr. Singleton. This note receivable was included in Other Non-Current
Assets at March 31, 1999. Interest accrues quarterly at the same rate charged by
the Company's bank as discussed in Note 5 above. The entire outstanding
principal balance is due and payable on October 6, 2000.

In addition, since September 1998, an officer and director of the Company has
been providing consulting services at a per diem rate comparable to prevailing
market rates. The total amounts paid or accrued during the years ended March 31,
2000 and 1999 were $44,000 and $26,000, respectively.

11. 401(k) Plan
-----------

The Company has a savings plan (the Plan) which allows participants to make
contributions by salary reduction pursuant to Section 401(k) of the Internal
Revenue Code.

Employees are required to work for the Company one year before they become
eligible to participate in the Plan. The Company matches 100% of the employee's
contributions up to 3% of the employee's salary. Contributions are vested when
made. In both the years ended March 31, 2000 and 1999, Basic contributed
approximately $6,000 to the Plan.

<PAGE>

12. Fourth Quarter Adjustment
-------------------------

The Company recorded adjustments of $2,000 and $45,000 in the fourth quarters
ended March 31, 2000 and 1999, respectively, to reduce the depletion expense
that had been recorded in the prior three quarters in both fiscal years. The
adjustments were made due to a revisions in the estimated oil and gas reserves
at March 31, 2000 and 1999. See Note 13 to follow.

13. Unaudited Oil and Gas Reserve Information
-----------------------------------------

The oil and gas reserve estimates presented herein, for both the years ended
March 31, 2000 and 1999, were derived from reports prepared by the independent
petroleum engineering firm, Heinle & Associates, Inc. The Company cautions that
there are many inherent uncertainties in estimating proved reserve quantities
and in projecting future production rates and the timing of development
expenditures. Accordingly, these estimates are likely to change as future
information becomes available, and these changes could be material.

The properties included in the oil and gas reserve estimates presented below
comprise 75% of the Company's oil production and 91% of its gas production in
the year ended March 31, 2000. Other properties contributed only marginal
amounts to Basic's total production and management has elected not to incur the
additional expense of evaluating these properties for inclusion in its estimated
oil and gas reserves. During the years ended March 31, 2000 and 1999 there were
acquisitions and sales of certain properties that were not included in the
following reserve analyses.

Proved oil and gas reserves are the estimated quantities of crude oil,
condensate, natural gas and natural gas liquids which geological and engineering
data demonstrate with reasonable certainty to be recoverable in future years
from known reservoirs under existing economic and operating conditions.

Proved developed reserves are those reserves expected to be recovered through
existing wells with existing equipment and operating methods.

ANALYSIS OF CHANGES IN PROVED RESERVES. Estimated quantities of proved reserves
(all of which are located within the United States), as well as the changes in
proved reserves during the periods indicated, are presented in the following two
tables:

Proved Developed and Undeveloped Reserves
-----------------------------------------

Oil and
natural gas Natural
liquids gas
(bbls) (mcf)
-------------- -------------
<S> <C> <C>
Proved developed and undeveloped
reserves at March 31, 1998 317,000 772,000

Revisions of previous estimates 213,000 137,000
Production (101,000) (137,000)
-------------- --------------
Proved developed and undeveloped
reserves at March 31, 1999 429,000 772,000

Revisions of previous estimates 233,000 44,000
Extensions and discoveries 14,000 --
Improved recovery 56,000 --
Purchase of reserves 6,000 3,000
Production (98,000) (102,000)
-------------- -------------

Proved developed and undeveloped
reserves at March 31, 2000 640,000 717,000
============== =============

Proved Developed Reserves
-------------------------

Oil and
natural gas Natural
liquids gas
(bbls) (mcf)
-------------- -------------

March 31, 1999 425,000 734,000
March 31, 2000 636,000 680,000

Costs incurred in oil and gas property acquisition, exploration and development activities are
summarized as follows:

Costs Incurred
--------------

Years Ended March 31

2000 1999
-------------- -------------

Development costs $ 196,000 $ 143,000
Exploration costs 87,000 51,000
Acquisitions:
Proved 91,000 2,000
Unproved 37,000 17,000
-------------- -------------

Total $ 411,000 $ 213,000
============== =============

</TABLE>

<PAGE>

The table below sets forth a standardized measure of the estimated discounted
future net cash flows attributable to Basic's proved oil and gas reserves.
Estimated future cash inflows were computed by applying year end prices of oil
and gas (with consideration of price changes only to the extent provided by
contractual arrangements) to the estimated future production of proved oil and
gas reserves at March 31, 2000 and 1999. The future production and development
costs represent the estimated future expenditures to be incurred in developing
and producing the proved reserves, assuming continuation of existing economic
conditions. Discounting the annual net cash flows at 10% illustrates the impact
of timing on these future cash flows.

Standardized Measure of Estimated Discounted Future Net Cash Flows
------------------------------------------------------------------

At March 31,

2000 1999
----------- ------------

Future cash inflows $17,429,000 $ 7,268,000
Future cash outflows:
Production cost (9,178,000) (4,750,000)
Development cost (45,000) (45,000)
----------- ------------

Future net cash flows before
income taxes 8,206,000 2,473,000
Future income taxes (862,000) --
----------- ------------

Future net cash flows 7,344,000 2,473,000
Adjustment to discount future
annual net cash flows at 10% (2,793,000) (823,000)
----------- ------------
Standardized measure of discounted
future net cash flows $ 4,551,000 $ 1,650,000
=========== ============

The following table summarizes the principal factors comprising thanges in the
standardized measure of estimated discounted net cash flows for the years ended
March 31, 2000 and 1999.

<PAGE>

Changes in Standardized Measure of Estimated Discounted Net Cash Flows
----------------------------------------------------------------------

Years Ended March 31,

2000 1999
----------- ------------

Standardized measure, beginning
of period $ 1,650,000 $ 1,324,000

Sales of oil and gas, net of
production cost (688,000) (384,000)

Net change in sales prices, net of
production cost 2,027,000 5,000

Discoveries, extensions and improved
recoveries, net of future
development cost 653,000 --

Purchase of reserves 34,000 --

Sales of reserves -- --

Revisions of quantity estimates 1,712,000 764,000

Accretion of discount 165,000 132,000

Net change in income taxes (611,000) --

Changes in rates of production and other (391,000) (191,000)
----------- ------------

Standardized measure, end of period $ 4,551,000 $ 1,650,000
=========== ============

ITEM 8
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE

Effective May 17, 2000, Basic engaged Hein + Associates LLP as its new
independent auditors for the fiscal year ended March 31, 2000 thereby replacing
BDO Seidman, LLP. See Reports on Form 8-K in Item 13 below for further
discussion.

Part III
--------

ITEM 9
DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a)
OF THE EXCHANGE ACT

Information concerning this item will be in Basic's 2000 Proxy Statement, which
is incorporated herein by reference.

ITEM 10
EXECUTIVE COMPENSATION

Information concerning this item will be in Basic's 2000 Proxy Statement, which
is incorporated herein by reference.

<PAGE>

ITEM 11
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT

Information concerning this item will be in Basic's 2000 Proxy Statement, which
is incorporated herein by reference.

ITEM 12
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information concerning this item will be in Basic's 2000 Proxy Statement, which
is incorporated herein by reference.

Part IV
-------
ITEM 13
EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits

Exhibit
No. Document
--------- -----------------------------------------------------------------
3i1 Restated Certificate of Incorporation included in Basic's Form
10-K for the year ended March 31, 1981

3i1 By-laws included in Basic's Form S-1 filed October 24, 1980

3i1 Certificate of Amendment to Basic's Restated Certificate of
Incorporation dated March 31, 1996

10(i)a1 Loan Agreement between Norwest Denver, N.A. and Basic, dated
August 1, 1994

10(i)a1 Sales Agreement between Basic and TransTexas, dated March 3,
1995, pertaining to the sale of deep exploration rights

10(i)a1 Purchase & Sale Agreement between Basic and MCM, dated March 6,
1995, pertaining to Williston basin acquisition

10(i)a1 Amended Loan Agreement between Norwest Denver, N.A. and Basic,
dated March 30, 1995

<PAGE>

10(i)a1 Amended Loan Agreement between Norwest Denver, N.A. and Basic,
September 13, 1995

10(i)a1 Amended Loan Agreement between Norwest Denver, N.A. and Basic,
December 13, 1996

10(i)a1 Amended Loan Agreement between Norwest Denver, N.A. and Basic,
November 3, 1998

10(i)a Amended Loan Agreement between Norwest Denver, N.A. (now known as
Wells Fargo Bank West, N.A.) and Basic, February 16, 2000

10(ii)1 Oil and Gas Incentive Compensation Plan included in Basic's Form
10-K for the year ended March 31, 1985

221 Subsidiaries of Basic included in Basic's Form 10-K for the year
ended March 31, 1987

1 Previously filed and incorporated herein by reference

Other exhibits and schedules are omitted because they are not applicable, not
required or the information is included in the financial statements or notes
thereto.

(b) Reports on Form 8-K

On Form 8-K dated March 3, 2000, the Company reported that it had executed an
amended loan agreement with its bank. Under the tems of the amended agreement,
which was made effective February 16, 2000, the expiration of the loan was
extended from April 1, 2000 until December 31, 2001. Principal payments will
remain $20,000 per month until maturity and any remaining balance at maturity
will then be due and payable. In a concurrent action, the Company also reported
that the bank extended Basic's borrowing base and made an additional $41,000
available for the purchase of two wells located in Divide County, North Dakota.

On Form 8-K dated May 11, 2000, the Company reported that, effective May 9,
2000, BDO Seidman, LLP resigned as the Basic's independent public accountant and
auditor for the fiscal year ended March 31, 2000. It was noted that the
financial statements audited by BDO Seidman, LLP for the fiscal years ended
March 31, 1998 and March 31, 1999 contained an opinion each year that raised
substantial doubt about the Company's ability to continue as a going concern. It
was also noted that, during the period commencing with the fiscal year ended
March 31, 1997 and up to and including May 9, 2000, there were no disagreements
with BDO Seidman, LLP on any matter of accounting principle or practice,
financial statement disclosure, or auditing scope or procedure. The Company also
reported in this Form 8-K that, effective May 17, 2000, Basic had engaged Hein +
Associates LLP as its new independent public accountant and auditor for fiscal
2000. Prior to this appointment, the Company did not consult with Hein +
Associates LLP with regard to any matter concerning the application of
accounting principles or the type of audit opinion that might be rendered with
respect to the Company's financial statements.

<PAGE>

Signatures

In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.

BASIC EARTH SCIENCE SYSTEMS, INC.
Date
----

/s/ Ray Singleton June 28, 2000
----------------------------------------
Ray Singleton, President

/s/ Ray Singleton June 28, 2000
----------------------------------------
Ray Singleton, Acting Accounting Officer

In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.

Name and Capacity Date
----------------- ----

/s/ David J. Flake June 28, 2000
----------------------------------------
David J. Flake, Director

/s/ Edgar J. Huffman June 28, 2000
----------------------------------------
Edgar J. Huffman, Director

/s/ Ray Singleton June 28, 2000
----------------------------------------
Ray Singleton, Director