MICHAEL PETROLEUM CORP, S-4/A, 1998-06-26

MICHAEL PETROLEUM CORP
S-4/A, 1998-06-26
CRUDE PETROLEUM & NATURAL GAS

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<PAGE> 1

AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JUNE 26, 1998

REGISTRATION NO. 333-52263

================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

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

AMENDMENT NO. 1

FORM S-4

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

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

MICHAEL PETROLEUM CORPORATION
(Exact name of registrant as specified in its charter)

TEXAS 1311 76-0510239
(State or other (Primary Standard (I.R.S. Employer
jurisdiction of Industrial Identification
incorporation or organization) Classification Code Number) Number)

13101 NORTHWEST FREEWAY
SUITE 320
HOUSTON, TEXAS 77040
(713) 895-0909
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)

MR. GLENN D. HART
CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER
13101 NORTHWEST FREEWAY, SUITE 320
HOUSTON, TEXAS 77040
(713) 895-0909
(Name, address, including zip code, and telephone number, including
area code, of agent for service)

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Copies to:
MARC H. FOLLADORI
HAYNES AND BOONE, L.L.P.
1000 LOUISIANA ST., SUITE 4300
HOUSTON, TEXAS 77002

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Approximate date of commencement of proposed sale of
the securities to the public: As soon as practicable
after the Registration Statement becomes effective

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

If the securities being registered on this Form are to be offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box: [ ]

If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]

If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]

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

THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID
SECTION 8(a), MAY DETERMINE.

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<PAGE> 2
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.

SUBJECT TO COMPLETION, DATED JUNE 26, 1998

PROSPECTUS

OFFER TO EXCHANGE

11 1/2% SENIOR NOTES DUE 2005, SERIES B
FOR ALL OUTSTANDING
11 1/2% SENIOR NOTES DUE 2005, SERIES A
OF
MICHAEL PETROLEUM CORPORATION

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

THE EXCHANGE OFFER WILL EXPIRE AT 5:00 P.M., NEW YORK CITY TIME, ON
MONDAY, AUGUST 31, 1998, UNLESS EXTENDED.

Michael Petroleum Corporation (the "Company") is offering upon the terms and
subject to the conditions set forth in this Prospectus and the accompanying
letter of transmittal (the "Letter of Transmittal") (which together constitute
the "Exchange Offer") to exchange $1,000 principal amount of its new 11 1/2%
Senior Notes due 2005, Series B (the "New Notes") for each $1,000 principal
amount of its outstanding 11 1/2% Senior Notes due 2005, Series A (the "Old
Notes") in the aggregate principal amount of $135,000,000. The form and terms
of the New Notes are identical to the form and terms of the Old Notes, except
that the Old Notes were offered and sold in reliance upon certain exemptions
from registration under the Securities Act of 1933, as amended (the "Securities
Act"), while the offering and sale of the New Notes in exchange for the Old
Notes have been registered under the Securities Act, with the result that the
New Notes will not bear any legends restricting their transfer. The New Notes
will evidence the same debt as the Old Notes and will be issued pursuant to, and
entitled to the benefits of, the indenture governing the Old Notes (the
"Indenture"). The Exchange Offer is being made in order to satisfy certain
contractual obligations of the Company. See "The Exchange Offer" and
"Description of Notes." The New Notes and the Old Notes are sometimes
collectively referred to herein as the "Notes."

The New Notes will mature on April 1, 2005. The Notes will be redeemable at
the option of the Company, in whole or in part, at any time on or after April 1,
2003, at the redemption prices set forth herein, plus accrued and unpaid
interest and Liquidated Damages, if any, to the redemption date. The Company may
also redeem at its option at any time prior to April 1, 2001, up to 30% of the
aggregate principal amount of the Notes originally issued at a redemption price
of 111.5% of the principal amount thereof, plus accrued and unpaid interest and
Liquidated Damages, if any, to the date of redemption, with the proceeds of one
or more offerings of the Company's equity securities, provided that at least 65%
of the aggregate principal amount of the Notes originally issued remains
outstanding following each redemption and each such redemption occurs within 90
days after the date of the closing of each such Equity Offering. Upon a Change
of Control, the Company will be required to offer to purchase all outstanding
Notes at 101% of the principal amount thereof, plus accrued and unpaid interest
and Liquidated Damages, if any, to the date of purchase. However, there can be
no assurance that the Company would have or be able to acquire sufficient funds
to repurchase the Notes in such an event. See "Description of Notes." The Notes
will be transferable, subject to compliance with applicable federal and state
securities laws.

The New Notes will be senior unsecured obligations of the Company and will
rank in parity with all existing and future senior indebtedness and other senior
obligations of the Company in right of payment, and senior in right of payment
to all future subordinated indebtedness of the Company. Borrowings under the
Company's reducing revolving credit facility (the "Credit Facility") are secured
by substantially all of the oil and natural gas properties of the Company. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Financing Arrangements." Because any indebtedness under the
Company's Credit Facility will be secured, the indebtedness under the Notes is
effectively subordinated to the Credit Facility. See "Risk Factors -- Effective
Subordination of the Notes." The maximum amount of borrowings under the Credit
Facility is limited by the terms of the Notes. At May 31, 1998, the Company had
outstanding indebtedness for borrowed money of $135.0 million.

Each broker-dealer that receives New Notes for its own account in exchange
for Old Notes, where the Old Notes were acquired by that broker-dealer as a
result of market-making activities or other trading activities, must
acknowledge that it will deliver a prospectus in connection with any resale of
such New Notes. This Prospectus, as it may be amended or supplemented from
time to time, may be used by a broker-dealer in connection with resales of New
Notes received in exchange for Old Notes where such Old Notes were acquired as
a result of market-making activities or other trading activities. See "The
Exchange Offer" and "Plan of Distribution."

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<PAGE> 3

The Company will accept for exchange any and all validly tendered Old Notes
on or before 5:00 p.m., New York City time, on Monday, August 31, 1998, unless
extended (the "Expiration Date"). Prior to the Expiration Date, the Company
will continue to update the Prospectus. Tenders of Old Notes may be withdrawn at
any time before 5:00 p.m., New York City time, on the Expiration Date, but after
that time are irrevocable. State Street Bank and Trust Company will be acting
as Exchange Agent in connection with the Exchange Offer. The Exchange Offer is
not conditioned on any minimum principal amount of Old Notes being tendered for
exchange, but is otherwise subject to certain customary conditions.

The New Notes will bear interest from the most recent date to which
interest has been paid on the Old Notes or, if no interest has been paid, from
the date of issuance of the Old Notes at a rate per annum of 11 1/2%. Interest
on the New Notes will be payable semiannually on October 1 and April 1 of each
year commencing on the first such date following the date of issuance of the
New Notes. Old Notes that are accepted for exchange will cease to accrue
interest on and after the date on which interest on the New Notes begins to
accrue. Accrued and unpaid interest on the Old Notes that are tendered in
exchange for the New Notes will be payable on the first October 1 or April 1
following the date of issuance of the New Notes.

The Old Notes were issued and sold by the Company on April 2, 1998, to
Bear, Stearns & Co. Inc., Jefferies & Company, Inc. and Raymond James &
Associates, Inc. (the "Initial Purchasers") in transactions not registered
under the Securities Act in reliance on the exemption provided in Section 4(2)
of the Securities Act. The Initial Purchasers subsequently placed the Old
Notes with qualified institutional buyers in reliance on Rule 144A under the
Securities Act or outside the United States within the meaning of Regulation S
under the Securities Act, the purchasers of which agreed to comply with certain
transfer and other restrictions. Accordingly, the Old Notes may not be
reoffered, resold or otherwise transferred in the United States unless so
registered or unless an applicable exemption from the registration requirements
of the Securities Act is available. The New Notes are being offered hereunder
in order to satisfy the obligations of the Company under a Registration Rights
Agreement entered into between the Company and the Initial Purchasers (the
"Registration Rights Agreement"). See "The Exchange Offer."

Based on an interpretation by the staff of the Securities and Exchange
Commission (the "Commission" or the "SEC") set forth in no-action letters
issued to third parties, the Company believes that New Notes issued pursuant to
this Exchange Offer may be offered for resale, resold and otherwise transferred
by a holder who is not an affiliate of the Company without compliance with the
registration and prospectus delivery provisions of the Securities Act, provided
that the holder is acquiring the New Notes in its ordinary course of business
and is not participating in and has no arrangement or understanding with any
person to participate in the distribution (within the meaning of the Securities
Act) of the New Notes. Persons wishing to exchange Old Notes in the Exchange
Offer must represent to the Company that these conditions have been met.

The Company does not intend to list the New Notes on any national
securities exchange or to seek the admission thereof to trading in the National
Association of Securities Dealers Automated Quotation System. The Initial
Purchasers have advised the Company that they intend to make a market in the
New Notes; however, they are not obligated to do so and any market-making may
be discontinued at any time without notice. Accordingly, no assurance can be
given that an active public or other market will develop for the New Notes or
as to the liquidity of or the trading market for the New Notes.

Any Old Notes not tendered and accepted in the Exchange Offer will remain
outstanding. To the extent that any Old Notes are tendered and accepted in the
Exchange Offer, a holder's ability to sell untendered Old Notes could be
adversely affected. Following consummation of the Exchange Offer, the holders
of Old Notes will continue to be subject to the existing restrictions on
transfer thereof.

The Company expects that the New Notes issued pursuant to this Exchange
Offer will be issued in the form of a Global New Note which will be deposited
with, or on behalf of, The Depository Trust Company ("DTC") and registered in
its name or in the name of Cede & Co., its nominee. Beneficial interests in the
Global New Note representing the New Notes will be shown on, and transfers
thereof to qualified institutional buyers will be effected through, records
maintained by DTC and its participants. After the initial issuance of the
Global New Note, New Notes in certificated form will be issued in exchange for
the Global New Note on the terms set forth in the Indenture. See "Description of
Notes--Book Entry; Delivery and Form."

FOR A DISCUSSION OF CERTAIN FACTORS TO BE CONSIDERED IN CONNECTION WITH AN
INVESTMENT IN THE NEW NOTES, SEE "RISK FACTORS" BEGINNING ON PAGE 11.

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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.

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

THE DATE OF THIS PROSPECTUS IS JUNE , 1998.

ii
<PAGE> 4
TABLE OF CONTENTS

<TABLE>
<S> <C>
SUMMARY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

CAUTIONARY STATEMENTS REGARDING
FORWARD-LOOKING INFORMATION . . . . . . . . . . . . . . . . . . . . . . . 10

RISK FACTORS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

THE EXCHANGE OFFER . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19

USE OF PROCEEDS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25

CAPITALIZATION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26

SELECTED HISTORICAL AND PRO FORMA
FINANCIAL, OPERATING AND OIL AND
NATURAL GAS RESERVE INFORMATION . . . . . . . . . . . . . . . . . . . . . 27

MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS . . . . . . . . . . . . . . . . . . . . . . . . 30

BUSINESS AND PROPERTIES . . . . . . . . . . . . . . . . . . . . . . . . . . 36

MANAGEMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46

CERTAIN TRANSACTIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . 50

PRINCIPAL SHAREHOLDERS . . . . . . . . . . . . . . . . . . . . . . . . . . 51

DESCRIPTION OF NOTES . . . . . . . . . . . . . . . . . . . . . . . . . . . 52

UNITED STATES FEDERAL INCOME
TAX CONSIDERATIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . 77

DESCRIPTION OF CAPITAL STOCK . . . . . . . . . . . . . . . . . . . . . . . 80

PLAN OF DISTRIBUTION . . . . . . . . . . . . . . . . . . . . . . . . . . . 83

TRANSFER RESTRICTIONS ON OLD NOTES . . . . . . . . . . . . . . . . . . . . 83

LEGAL MATTERS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85

EXPERTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85

AVAILABLE INFORMATION . . . . . . . . . . . . . . . . . . . . . . . . . . . 86

GLOSSARY OF CERTAIN INDUSTRY TERMS . . . . . . . . . . . . . . . . . . . . 87

INDEX TO FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . . . . . . .F-1

</TABLE>

Until ____ __, 1998 (90 days after the date of this Prospectus), all
dealers offering transactions in the New Notes, whether or not participating in
the Exchange Offer, may be required to deliver a prospectus in connection
therewith. This is in addition to the obligation of dealers to deliver a
prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.

No dealer, salesperson or other person has been authorized to give
information or to make any representations not contained in this Prospectus,
and, if given or made, such information or representations must not be relied
on as having been authorized by the Company. This Prospectus does not
constitute an offer to sell or the solicitation of an offer to buy any security
other than the New Notes offered hereby.

The Exchange Offer is not being made to, nor will the Company accept
surrenders for exchange from, holders of Old Notes in any jurisdiction in which
the Exchange Offer or the acceptance thereof would not be in compliance with
the securities or blue sky laws of such jurisdiction.

THIS PROSPECTUS (THIS "PROSPECTUS") DOES NOT CONSTITUTE AN OFFER TO SELL,
OR A SOLICITATION OF AN OFFER TO BUY, ANY NOTE OFFERED HEREBY BY ANY PERSON IN
ANY JURISDICTION IN WHICH IT IS UNLAWFUL FOR SUCH PERSON TO MAKE SUCH AN OFFER
OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE
HEREUNDER SHALL UNDER ANY CIRCUMSTANCES IMPLY THAT THERE HAS BEEN NO CHANGE IN
THE AFFAIRS OF THE COMPANY OR ITS SUBSIDIARIES OR THAT THE INFORMATION SET
FORTH HEREIN IS CORRECT AS OF ANY DATE SUBSEQUENT TO THE DATE HEREOF.

NOTICE TO NEW HAMPSHIRE RESIDENTS

NEITHER THE FACT THAT A REGISTRATION STATEMENT OR AN APPLICATION FOR A
LICENSE HAS BEEN FILED WITH THE STATE OF NEW HAMPSHIRE NOR THE FACT THAT A
SECURITY IS EFFECTIVELY REGISTERED OR A PERSON IS LICENSED IN THE STATE OF NEW
HAMPSHIRE CONSTITUTES A FINDING BY THE SECRETARY OF STATE THAT ANY DOCUMENT
FILED UNDER THE RSA 421-B IS TRUE, COMPLETE AND NOT MISLEADING. NEITHER ANY
SUCH FACT NOR THE FACT THAT AN EXEMPTION OR EXCEPTION IS AVAILABLE FOR A
SECURITY OR A TRANSACTION MEANS THAT THE SECRETARY OF STATE HAS PASSED IN ANY
WAY UPON THE MERITS OF QUALIFICATIONS OF, OR RECOMMENDED OR GIVEN APPROVAL TO,
ANY PERSON, SECURITY, OR TRANSACTION. IT IS UNLAWFUL TO MAKE, OR CAUSE TO BE
MADE, TO ANY PROSPECTIVE PURCHASER, CUSTOMER, OR CLIENT ANY REPRESENTATION
INCONSISTENT WITH THE PROVISIONS OF THIS PARAGRAPH.

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SUMMARY

The following summary is qualified in its entirety by and should be read in
conjunction with the more detailed information, financial statements, including
notes thereto, and other data appearing elsewhere in this Prospectus. Unless
the context indicates otherwise, references to "Michael" or the "Company" are to
Michael Petroleum Corporation. References to "MHI" are to Michael Holdings,
Inc., which directly owns all of the outstanding capital stock of the Company.
References to the "Notes" refer to both the Old Notes and the New Notes. Unless
otherwise indicated, all financial and quantitative information provided in this
Prospectus on a "pro forma" basis gives effect, on the date and for the periods
indicated, to the issuance of the Old Notes and the exchange of the Old Notes
for New Notes, the application of the net proceeds from the sale of the Old
Notes and the completion of the Transactions and the execution and delivery of
the Lobo Lease as if such events had already occurred. Investors should
carefully consider the information set forth under "Risk Factors" herein.
Certain oil and natural gas terms used in this Prospectus are defined in the
"Glossary of Certain Industry Terms" appearing elsewhere in this Prospectus.

THE COMPANY

The Company is engaged in the acquisition, exploitation and development of
oil and natural gas properties, principally in the Lobo Trend of South Texas
(the "Lobo Trend"). The Company has significantly expanded its production and
reserve base in recent years through development drilling and exploitation
activities and by acquiring producing and undeveloped properties. On March 31
and April 2, 1998, the Company closed separate acquisitions of Lobo Trend
properties with Enron Oil and Gas Company ("Enron") (the "Enron Acquisition")
and Conoco Inc. ("Conoco") (the "Conoco Acquisition") (collectively, the
"Transactions"), pursuant to which the Company acquired interests in 170 gross
(98 net) wells covering approximately 46,900 gross acres and proved reserves of
96 Bcfe as of December 31, 1997. On April 20, 1998, the Company entered into
agreements with Mobil Producing Texas and New Mexico Inc. ("Mobil"), pursuant to
which the Company acquired leasehold interests in undeveloped acreage from Mobil
(the "Lobo Lease"), covering approximately 39,636 gross acres in the Lobo Trend,
adding 43 Bcfe of net proved undeveloped reserves as of December 31, 1997. The
interests in properties acquired included acreage that is geographically close
and geologically similar to the Company's other properties. The Company believes
that these acquired properties together with its previously existing properties
have substantial development drilling and exploitation potential. The Company
has initially identified approximately 160 drilling locations that are expected
to be drilled over the next several years. The Company used approximately $68.3
million of the net proceeds from the sale of the Old Notes in connection with
the closing of the Transactions, including the repayment of short-term
acquisition indebtedness incurred in connection with the closing of the Enron
Acquisition. At December 31, 1997, on a pro forma basis, the Company owned
interests in 280 gross (159 net) wells, approximately 95% of which were operated
by the Company, and had proved reserves totaling 191 Bcfe, with a PV-10 Value of
$203 million.

The Lobo Trend, which is located in Webb and Zapata counties in South
Texas, covers in excess of one million gross acres and contains multi-pay
reservoirs of oil and natural gas. Since 1991, Webb and Zapata counties
collectively have constituted one of the largest onshore natural gas producing
regions in the United States. Although over 3,500 wells have been drilled and
cumulative production from the Lobo Trend since its discovery in 1973 exceeds
6.3 trillion cubic feet of natural gas equivalents, the Lobo Trend is believed
to be only partially exploited, with existing wells producing from only
approximately 125,000 acres. The primary geologic target in the Lobo Trend is
the Lobo sand series of the lower Wilcox formation, which contains three
primary objectives. Two secondary objectives also exist, one above the three
Lobo sands and one below. The Company believes that the existence of these
multi-pay reservoirs reduces drilling risk and enhances the profitability of
invested capital.

The Company began its operations in 1983 and focused on developing
prospects in South Texas. Since the early 1990s, the Company has become an
increasingly active participant in lower risk development drilling in the Lobo
Trend, and in 1996 the Company acquired interests in approximately 21,000
developed and undeveloped gross acres in the Lobo Trend. The Company uses 3-D
seismic imaging and other advanced exploration technologies in the development
and exploitation of its properties. As of December 31, 1997, on a pro forma
basis, 3-D seismic data had been obtained over approximately 90% of the
Company's properties. Based upon the Company's interpretation of 3-D seismic
data and wells drilled in the area, the Company has initially identified, on a
pro forma basis, approximately 160 drilling locations on its properties, 90 of
which are in the Company's proved undeveloped reserve base. During 1998, the
Company intends to drill approximately 29 gross (25 net) wells and has
allocated approximately $23.3 million of its capital expenditure budget for
this purpose. All of the Company's drilling prospects for 1998, on a pro forma
basis, were identified through the use of 3-D seismic data.

The principal executive offices of the Company are located at 13101
Northwest Freeway, Suite 320, Houston, Texas 77040, and its telephone number is
(713) 895-0909.

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<PAGE> 6
BUSINESS STRATEGY

Key elements of the Company's business strategy include the following:

TECHNICAL EXPERTISE. Each member of senior management has over 18 years
of industry experience, and two of the three members of senior management have
worked together for over ten years. The Company believes that its drilling
success is a direct result of the technical knowledge and experience of its
geoscience staff in effective interpretation of well log data and mapping of the
subsurface geology.

OPERATIONAL CONTROL. The Company seeks to operate the wells in which it
owns an interest whenever possible. The Company believes that control over
operations allows it to more effectively control the costs, scope and timing of
drilling and other field operations. Alternatively, when this is not possible,
the Company attempts to only own interests in wells where it has a high degree
of confidence in the operator and because of its percentage ownership can
assert substantial influence with the operator.

CAPITALIZE ON LOCAL RELATIONSHIPS. The Company's 15-year presence in South
Texas has resulted in numerous favorable relationships with local landowners and
their representatives. The Company believes that its favorable relationships
with these local landowners is a key advantage in its ability to access
additional undeveloped acreage acquisition opportunities.

RISKS ASSOCIATED WITH COMPANY OPERATIONS
AND THE EXCHANGE OFFER

The Company is substantially leveraged, has generated losses since 1994 and
historically has not generated sufficient earnings to cover fixed charges. In
addition, the Company's strategy envisions the continued acquisition of
properties in the Lobo Trend, further concentrating the Company's holdings in
one geological area. The Company's operations and financial condition are also
highly dependent upon the prices of, and demand for, natural gas, and to a
lesser extent, the price of oil, in addition to the other risks specific to the
oil and gas industry. See "Risk Factors" for a discussion of certain risks to
be considered in connection with the Company, the Exchange Offer and an
investment in the New Notes.

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<PAGE> 7
THE NOTE OFFERING

The Old Notes . . . . . . . . The Old Notes were sold by the Company on
April 2, 1998, to the Initial Purchasers
pursuant to a Purchase Agreement. The
Initial Purchasers resold the Old Notes to
qualified institutional buyers pursuant to
Rule 144A under the Securities Act or outside
the United States within the meaning of
Regulation S under the Securities Act.

Registration Rights
Agreement. . . . . . . . . . The Registration Rights Agreement granted the
holders of the Old Notes certain exchange and
registration rights. The Exchange Offer is
intended to satisfy those exchange rights,
which terminate upon consummation of the
Exchange Offer. If applicable law or
applicable interpretations of the staff of
the Commission do not permit the Company to
effect the Exchange Offer, or under certain
other circumstances, the Company has agreed
to file a shelf registration covering resales
of Notes subject to transfer restrictions
under the Registration Rights Agreement.

Use of Proceeds . . . . . . . The net proceeds from the sale of the Old
Notes were used to (i) fund the cash portion
of, and repay short-term acquisition
indebtedness incurred to close, the
Transactions, (ii) repay certain indebtedness,
(iii) acquire a net profits interest (the "Net
Profits Interest") and (iv) provide additional
working capital for general corporate
purposes, including development, drilling and
exploitation activities and future property
acquisitions. See "Use of Proceeds."

THE EXCHANGE OFFER

The Exchange Offer applies to $135,000,000 aggregate principal amount of
the Old Notes. The form and terms of the New Notes are identical to the form
and terms of the Old Notes except that the Old Notes were offered and sold in
reliance upon certain exemptions from registration under the Securities Act,
while the offering and sale of the New Notes in exchange for the Old Notes has
been registered under the Securities Act, with the result that the New Notes
will not bear any legends restricting their transfer. See "Description of
Notes."

The Exchange Offer . . . . . $1,000 principal amount of New Notes for each
$1,000 principal amount of Old Notes. As of
the date hereof, Old Notes representing
$135,000,000 aggregate principal amount were
outstanding. The terms of the New Notes and
the Old Notes are substantially identical.
Based on an interpretation by the Commission's
staff set forth in no-action letters issued to
third parties unrelated to the Company, the
Company believes that, with the exceptions
discussed herein, New Notes issued pursuant to
the Exchange Offer in exchange for Old Notes
may be offered for resale, resold and
otherwise transferred by any person receiving
the New Notes, whether or not that person is
the holder (other than any such holder or such
other person that is an "affiliate" of the
Company within the meaning of Rule 405 under
the Securities Act), without compliance with
the registration and prospectus delivery
provisions of the Securities Act, provided
that (i) the New Notes are acquired in the
ordinary course of business of that holder or
such other person, (ii) neither the holder nor
such other person is engaging in or intends to
engage in a distribution of the New Notes, and
(iii) neither the holder nor such other person
has an arrangement or understanding with any
person to participate in the distribution of
the New Notes. However, the Company has not
sought, and does not intend to seek, its own
no-action letter, and there can be no
assurance that the Commission's staff would
make a similar determination with respect to
the Exchange Offer. Each broker-dealer that
receives New Notes for its own account in
exchange for Old Notes, where those Old Notes
were acquired by the broker-dealer as a result
of its market-making activities or other
trading activities, must acknowledge that it
will deliver a prospectus in connection with
any resale of those New Notes. See "The
Exchange Offer-- Purpose and Effect" and "Plan
of Distribution."

Expiration Date . . . . . . The Exchange Offer will expire at 5:00 p.m.,
New York City time, Monday, August 31,
1998, or such later date and time to which it
is extended.

Withdrawal Rights . . . . . . The tender of Old Notes pursuant to the
Exchange Offer may be withdrawn at any time
prior to 5:00 p.m., New York City time, on
the Expiration Date. Any Old Notes not
accepted for exchange for any reason will be
returned without expense to the tendering
holder thereof as promptly as practicable
after the expiration or termination of the
Exchange Offer.

-3-

<PAGE> 8
Interest on the New Notes
and Old Notes . . . . . . Interest on each New Note will accrue from
the date of issuance of the Old Note for
which the New Note is exchanged or from the
date of the last periodic payment of interest
on such Old Note, whichever is later. No
interest will be paid on Old Notes which are
exchanged for New Notes, and holders of such
Old Notes will be deemed to have waived the
right to receive interest accrued thereon to
the date of exchange.

Conditions to the Exchange
Offer . . . . . . . . The Exchange Offer is subject to certain
customary conditions, certain of which may be
waived by the Company. See "The Exchange
Offer -- Conditions."

Procedures for Tendering
Old Notes . . . . . . . . . Each holder of Old Notes wishing to accept
the Exchange Offer must complete, sign and
date the Letter of Transmittal, or a copy
thereof, in accordance with the instructions
contained herein and therein, and mail or
otherwise deliver the Letter of Transmittal,
or the copy, together with the Old Notes and
any other required documentation, to the
Exchange Agent at the address set forth
herein. Persons holding Old Notes through
the DTC and wishing to accept the Exchange
Offer must do so pursuant to the DTC's
Automated Tender Offer Program, by which each
tendering Participant will agree to be bound
by the Letter of Transmittal. By executing or
agreeing to be bound by the Letter
Transmittal, each holder will represent to the
Company that, among other things, (i) any New
Notes to be received by it will be acquired in
the ordinary course of its business and (ii)
it is not an "affiliate," as defined in Rule
405 of the Securities Act, of the Company, or
if it is an affiliate, it will comply with the
registration and prospectus delivery
requirements of the Securities Act to the
extent applicable. If the holder is not a
broker-dealer, it will be required to
represent that it is not engaged in, and does
not intend to engage in, the distribution of
the New Notes and has no arrangement with any
person to participate in the distribution of
the New Notes. If the holder is a
broker-dealer that will receive New Notes for
its own account in exchange for Old Notes that
were acquired as a result of market-making
activities or other trading activities, it
will be required to acknowledge that it will
deliver a prospectus in connection with any
resale of such New Notes.

Pursuant to the Registration Rights
Agreement, the Company is required to file a
registration statement for a continuous
offering pursuant to Rule 415 under the
Securities Act in respect of the Old Notes if
existing Commission interpretations are
changed such that the New Notes received by
holders in the Exchange Offer are not or
would not be, upon receipt, transferable by
each such holder (other than an affiliate of
the Company) without restriction under the
Securities Act. See "The Exchange
Offer--Purpose and Effect."

Acceptance of Old Notes and
Delivery of New Notes . . . The Company will accept for exchange any and
all Old Notes which are properly tendered in
the Exchange Offer prior to 5:00 p.m., New
York City time, on the Expiration Date. The
New Notes issued pursuant to the Exchange
Offer will be delivered promptly following
the Expiration Date. See "The Exchange
Offer-- Terms of the Exchange Offer."

Exchange Agent . . . . . . . State Street Bank and Trust Company is
serving as Exchange Agent in connection with
the Exchange Offer and is also serving as
Trustee under the Indenture.

Federal Income Tax
Considerations . . . . . . The exchange pursuant to the Exchange Offer
will not be a taxable event for federal
income tax purposes. See "Certain U.S.
Federal Income Tax Considerations."

Effect of Not Tendering . . . Old Notes that are eligible for exchange in
the Exchange Offer, but are not tendered or
are tendered but not accepted will, following
the completion of the

-4-
<PAGE> 9
Exchange Offer, continue to be subject to the
existing restrictions upon transfer thereof.
The Company will have no further obligation
to provide for the registration under the
Securities Act of such Old Notes.

Global Note . . . . . . . . . The New Notes will be issued in fully
registered form and are expected to initially
be represented by one Global Note, registered
in the name of DTC or its nominee and
deposited with DTC. Holders of beneficial
interests in the Global Note will not be
considered the owners or holders of any New
Notes under the Global Note or the Indenture
for any purpose. Holders of beneficial
interests in the Global Note may be unable to
transfer or pledge their interest in the
Global Notes if physical delivery is required.
Payments by the DTC's Participants and the
DTC's Indirect Participants to the beneficial
owners of New Notes will be governed by
standing instructions and customary practice
and will be the responsibility of the DTC's
Participants or DTC's Indirect Participants
and not the Company or the Trustee. See
"Exchange Offer--Book Entry; Delivery and
Form."

TERMS OF THE NEW NOTES

Issuer . . . . . . . . . . . . . . . . . . . Michael Petroleum Corporation, a
wholly-owned subsidiary of
Michael Holdings, Inc.

Securities Offered . . . . . . . . . . . . $135,000,000 aggregate principal
amount of 11 1/2% Senior Notes
due 2005.

Maturity Date . . . . . . . . . . . . . . . April 1, 2005.

Interest Rate and Payment Dates . . . . . . The New Notes will bear interest
at a rate of 11 1/2% per annum,
payable semiannually in arrears
on October 1 and April 1 of each
year, commencing October 1, 1998.

Ranking . . . . . . . . . . . . . . . . . . The New Notes will be senior
unsecured obligations of the
Company ranking in parity with all
existing and future Senior
Indebtedness of the Company, and
senior in right of payment to all
future Subordinated Indebtedness
of the Company. Currently, the
Company has no Subordinated
Indebtedness outstanding. The
Company has entered into the
Credit Facility which is secured
by substantially all of the
Company's oil and natural gas
properties. Because the Notes are
unsecured, the New Notes will be
effectively subordinated to
indebtedness under the Credit
Facility. See "Risk
Factors--Effective Subordination
of the Notes." Subject to certain
limitations set forth in the
Indenture and the Credit Facility,
the Company may incur additional
Senior Indebtedness and other
Indebtedness. See "Description of
Notes--Ranking."

Subsidiary Guarantees . . . . . . . . . . . The Company does not have any
subsidiaries. The New Notes will
be guaranteed in the future by all
Restricted Subsidiaries in
accordance with the Indenture (the
"Subsidiary Guarantors"). See
"Description of
Notes--Guarantees."

-5-
<PAGE> 10
Optional Redemption . . . . . . . . . . . . The New Notes will be redeemable
at the option of the Company, in
whole or in part, at any time
on or after April 1, 2003 at
the redemption prices set
forth herein, plus accrued
and unpaid interest and
Liquidated Damages, if any,
to the date of redemption. In
addition, the Company may, at
its option, redeem prior to
April 1, 2001 up to 30% of
the aggregate principal amount of
the New Notes originally issued
at a redemption price of 111.5% of
the principal amount thereof,
plus accrued and unpaid interest
and Liquidated Damages, if any,
to the date of redemption, from
the net proceeds of one or more
Equity Offerings, provided that at
least 65% of the aggregate
principal amount of the New Notes
originally issued remains
outstanding following each such
redemption, and each such
redemption occurs within 90 days
after the date of the closing of
each such Equity Offering. See
"Description of Notes --Optional
Redemption."

Change of Control . . . . . . . . . . . . . Upon a Change of Control, the
Company will be required, subject
to certain conditions, to offer to
repurchase all outstanding New
Notes at 101% of the principal
amount thereof, plus accrued and
unpaid interest and Liquidated
Damages, if any, to the date of
purchase. See "Description
of Notes--Change of Control."

Certain Covenants . . . . . . . . . . . . . The Indenture contains certain
covenants that, among other
things, limit the ability of the
Company and the Restricted
Subsidiaries to incur additional
Indebtedness, pay dividends,
repurchase equity interests or
make other Restricted Payments,
create Liens, enter into
transactions with Affiliates, sell
assets or enter into certain
mergers and consolidations. In the
event of certain asset
dispositions, the Company is
required under certain
circumstances to use the Excess
Proceeds to offer to repurchase
the New Notes (and other Senior
Indebtedness for which an offer to
repurchase is required to be
concurrently made) having an
aggregate principal amount equal
to the Excess Proceeds at a
purchase price equal to 100% of
the principal amount of the New
Notes, together with accrued and
unpaid interest and Liquidated
Damages, if any, to the date of
repurchase (a "Net Proceeds
Offer"). See "Description of
Notes--Certain Covenants."

RISK FACTORS

An investment in the New Notes involves certain risks, including risks
associated with the Company's incurrence of substantial indebtedness, the
effective subordination of the Notes to the debt under the Credit Facility, the
restrictions imposed by lenders, the increase in scope of the Company's
operations, the Company's future need for and availability of capital, the
possible limitations on enforceability of the Subsidiary Guarantees, limitations
on repurchases of the Notes upon a Change of Control or certain other events,
the volatility of natural gas and oil prices, the Company's dependence on
distribution and processing systems, the concentration of the Company's
producing and undeveloped properties, the risks of hedging activities, drilling
risks, the ability and need to replace the Company's reserves, the inherent
uncertainty of estimates of reserves and future net revenues, shortages of
drilling rigs, equipment, supplies and personnel, risks associated with
acquisitions, operational hazards and uninsured risks, competition in the oil
and natural gas industry, property impairment charges, dependence on key
personnel, control by certain shareholders, regulatory and environmental risks,
lack of a public market, the adverse consequences of a failure to participate in
the Exchange Offer, risks associated with the Exchange Offer procedure and Year
2000 risks applicable to the Company. See "Risk Factors" at page 11 of this
Prospectus for a more detailed description of these and certain other risks
associated with an investment in the New Notes.

-6-
<PAGE> 11
SUMMARY HISTORICAL AND PRO FORMA FINANCIAL,
OPERATING AND OIL AND NATURAL GAS RESERVE DATA

The following tables set forth summary financial data (i) on an historical
basis for each of the years in the three-year period ended December 31, 1997,
and on a pro forma basis for the year ended December 31, 1997, and (ii) on an
historical basis for the three month periods ended, and as of, March 31, 1997
and 1998, and on a pro forma basis for the three months ended, and as of, March
31, 1998. The historical financial data for the year ended, December 31, 1997,
have been derived from the audited Financial Statements of the Company. The
historical financial data for the three-month periods ended March 31, 1997 and
1998 are derived from unaudited Financial Statements of the Company but include
all adjustments, consisting of normal recurring adjustments, that the Company
considers necessary for a fair presentation of its results of operations for
these periods. The results for the three months ended March 31, 1998 are not
necessarily indicative of the results for the full year. The pro forma
financial, operating and oil and natural gas reserve data are not necessarily
indicative of the operating results or financial position that would have been
achieved had the transactions to which they give pro forma effect been effective
at the date or during the period presented or of the results that may be
obtained in the future. This information should be read in conjunction with
"Selected Historical and Pro Forma Financial, Operating and Oil and Natural Gas
Reserve Information," "Management's Discussion and Analysis of Financial
Condition and Results of Operations," the Financial Statements of the Company
and the Notes thereto, the Statements of Revenues and Direct Operating Expenses
and the Notes thereto for the Enron Properties, the Conoco Properties and the
Lobo Properties, and the Company's Unaudited Pro Forma Financial Statements and
the Notes thereto included elsewhere in this Prospectus.

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31
------------------------ -----------------------------
PRO FORMA PRO FORMA
1995 1996 1997 1997(1) 1997 1998 1998(2)
---- ---- ---- ------- ---- ---- -------
(IN THOUSANDS, EXCEPT FOR RATIOS)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Oil and natural gas sales . . . . . . . . . . . . $ 2,109 $ 3,594 $ 9,139 $ 31,209 1,850 3,260 7,155
Gain on sale of oil and natural gas properties . 828 182 -- -- -- -- --
-- -- -- -- -- -- --
2,937 3,776 9,139 31,209 1,850 3,260 7,155
------- ------- -------- ------- ----- ----- -----
Operating expenses:
Production costs . . . . . . . . . . . . . . . . 1,228 1,931 1,870 5,115 426 475 1,204
Depreciation, depletion and amortization . . . . 1,272 1,180 3,889 10,597 986 1,349 2,255
Exploration . . . . . . . . . . . . . . . . . . . 850 46 333 333 28 -- --
General and administrative . . . . . . . . . . . 763 424 980 980 159 261 261
------- ------- -------- ------- ----- ----- -----
4,113 3,581 7,072 17,025 1,599 2,085 3,720
------- ------- -------- ------- ----- ----- -----
Operating (loss) income . . . . . . . . . . . . . . (1,176) 195 2,067 14,184 251 1,175 3,435
Interest expense and other, net . . . . . . . . . . (1,017) (894) (2,063) (16,438) (356) (874) (4,155)
(Loss) income from continuing operations before
income taxes . . . . . . . . . . . . . . . . . . (2,193) (699) 4 (2,254) (105) 301 (720)
(Benefit) provision for income taxes (10) . . . . . (79) 1,780 11 (789) (37) 105 (252)
Loss from continuing operations . . . . . . . . . . (2,114) (2,479) (7) (1,465) (68) 196 (468)
------- ------- -------- ------- ----- ----- -----
Discontinued operations . . . . . . . . . . . . . . 2,087 -- -- -- -- -- --
------- ------- -------- ------- ----- ----- -----
Net (loss) income . . . . . . . . . . . . $ (27) $(2,479) $ (7) $ (1,465) (68) 196 (468)
======= ======= ======== ======== ===== ===== =====
OTHER FINANCIAL DATA:
EBITDA(3) . . . . . . . . . . . . . . . . . . . . . $ 118 $ 1,239 $ 6,289 $ 25,114 $ 1,265 $2,524 $5,690
Cash (used in) provided by operating activities . . (2,339) 848 3,466 -- (66) 3,387 --
Cash provided by (used in) investing activities . . 1,291 (14,753) (14,963) -- (801) (2,093) --
Cash provided by (used in) financing activities . . 1,365 14,750 11,098 -- 329 (1,419) --
Ratio of earnings to fixed charges . . . . . . . . (4) (4) (4) (4) (4) 1.2X (4)
Pro Forma Ratios:
Ratio of EBITDA to interest expense . . . . . . . 0.1x 1.4x 3.1x 1.5x 3.6x 2.9x 1.4x
Ratio of total debt to EBITDA . . . . . . . . . . 58.4x 13.5x 4.4x 5.3x 14.0x 28.9x 23.3x
</TABLE>

-7-
<PAGE> 12

<TABLE>
<CAPTION>
AS OF MARCH 31, 1998
-------------------------
ACTUAL PROFORMA(5)
--------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
BALANCE SHEET DATA:
Current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 4,338 $ 25,318
Oil and gas properties, net . . . . . . . . . . . . . . . . . . . . . . . . . . 74,596 118,096
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79,710 148,677
Long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19,769 132,636
Shareholder's deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,719) (3,384)
ACNTA(6) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- --
Ratio of ACNTA to total debt . . . . . . . . . . . . . . . . . . . . . . . . . -- --
</TABLE>

<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------
PRO FORMA
1995 1996 1997 1997(5)
---- ---- ---- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
RESERVE DATA:(7)
Proved reserves:
Oil (MBbls) . . . . . . . . . . . . . . . . . . . . . . . . 2,260 239 265 5,445
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . . 5,909 49,246 51,165 158,698
Total proved reserves (Mmcfe) . . . . . . . . . . . . . . . 19,469 50,678 52,754 191,368
% Natural gas . . . . . . . . . . . . . . . . . . . . . . . 30.4% 97.2% 97.0% 82.9%
Proved developed reserves (Mmcfe) . . . . . . . . . . . . . 6,761 17,398 23,585 56,682
% Proved developed . . . . . . . . . . . . . . . . . . . . 34.7% 34.3% 44.7% 29.6%
Estimated future net cash flows before income taxes . . . . . $27,808 $94,199 $78,245 $318,132
PV-10 Value(8) . . . . . . . . . . . . . . . . . . . . . . . 18,511 60,727 51,487 203,204
</TABLE>

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
----------------------- --------------------------------
PRO FORMA PRO FORMA
1995 1996 1997 1997(1) 1997 1998 1998(2)
---- ---- ---- ------- ---- ---- -------
<S> <C> <C> <C> <C> <C> <C> <C>
OPERATING DATA:(7)
Production:
Oil (MBbls) . . . . . . . . . . . . . . . . 79 37 21 209 4 12 53
Natural gas (Mmcf) . . . . . . . . . . . . 430 1,324 3,685 11,676 725 1,487 3,106
Natural gas equivalent (Mmcfe) . . . . . . 904 1,546 3,811 12,930 749 1,561 3,422
Average sales prices:(9)
Oil, condensate and natural gas
liquids (per Bbl) . . . . . . . . . . . . $17.65 $ 20.05 $ 18.95 $ 13.42 $21.16 $14.23 $10.91
Natural gas (per Mcf) . . . . . . . . . . . 1.67 2.15 2.33 2.42 2.44 2.07 2.12
Natural gas equivalent (per Mcfe) . . . . . 2.33 2.32 2.35 2.41 2.47 2.09 2.09
Unit economics (per Mcfe):
Average sales price . . . . . . . . . . . . $ 2.33 $ 2.32 $ 2.35 $ 2.41 $ 2.47 $ 2.09 $ 2.09
Production expenses . . . . . . . . . . . . (1.36) (1.25) (0.49) (0.40) (0.57) (0.30) (0.35)
General and administrative expenses . . . . (0.84) (0.27) (0.26) (0.08) (0.21) (0.17) (0.08)
------ ------- ------- -------- ---- ---- ----
Gross margin . . . . . . . . . . . $ 0.13 $ 0.80 $ 1.60 $ 1.93 1.69 1.62 1.66
====== ======= ======= ======== ==== ==== ====
</TABLE>

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

(1) Pro forma to reflect the sale of the Old Notes, the application of the
net proceeds therefrom, the exchange of the Old Notes for New Notes,
the Transactions and the Lobo Lease, as if such transactions had
occurred on January 1, 1997.

(2) Pro forma to reflect the sale of the Old Notes, the application of the
net proceeds therefrom, the exchange of the Old Notes for New Notes,
the Transactions and the Lobo Lease, as if such transactions had
occurred on January 1, 1998.

(3) EBITDA is defined as earnings (excluding gain on sale of oil and
natural gas properties) before interest expense, income taxes,
depreciation, depletion and amortization and exploration expense.
EBITDA is not a measure of cash flow as determined by generally
accepted accounting principles ("GAAP"). EBITDA should not be
considered as an alternative to, or more meaningful than, net income
or cash flow as determined in accordance with GAAP or as an indicator
of a company's operating performance or liquidity. Certain items
excluded from EBITDA are significant components in understanding and
assessing a company's financial performance, such as a company's cost
of capital and tax structure, as well as historic costs of depreciable
assets, none of which are components of EBITDA. The Company's
computation of EBITDA may not be comparable to other similarly titled
measures of other companies. The Company believes that EBITDA is a
widely followed measure of operating performance and may also be used
by investors to measure the Company's ability to meet future debt
service requirements, if any. This

-8-
<PAGE> 13
information should be read in conjunction with the Statement of Cash
Flows contained in the Financial Statements of the Company and the
Notes thereto included elsewhere in this Prospectus.

(4) Earnings were insufficient to cover fixed charges by (i) $2,193,000,
$916,000 and $570,000 for the historical years ended December 31, 1995,
December 31, 1996 and December 31, 1997, respectively, and $2,828,000
for the pro forma year ended December 31, 1997 and (ii) $235,000 for
the historical three month period ended March 31, 1997 and $802,000 for
the pro forma three month period ended March 31, 1998. For purposes of
computing the ratio of earnings to fixed charges, earnings consist of
earnings before income taxes plus fixed charges. Fixed charges consist
of interest and related expenses and an estimated portion of rentals
representing interest costs.

(5) Pro forma to reflect the sale of the Old Notes, the application of the
net proceeds therefrom, the exchange of the Old Notes for New Notes,
the Transactions and the Lobo Lease, as if such transactions had
occurred on March 31, 1998, except for Reserve Data which is as of
December 31, 1997.

(6) ACNTA means Adjusted Consolidated Net Tangible Assets as defined in
the Indenture. See "Description of Notes -- Certain Definitions."

(7) The reserve and present value data as of December 31, 1996 and 1997
(historical and pro forma) have been prepared by Huddleston & Co.,
Inc., independent petroleum engineers to the Company. The reserve and
present value data as of December 31, 1995 was prepared by Mohajir &
Associates, Inc., independent petroleum engineers to the Company. See
"Risk Factors -- Uncertainty of Estimates of Reserves and Future Net
Reserves," and "Supplemental Information about Oil and Natural Gas
Producing Activities (Unaudited)" following the Notes to the Financial
Statements of the Company.

(8) PV-10 Value represents the present value of estimated future net
revenues before income tax discounted at 10% using prices in effect at
the end of the respective periods presented and including the effects
of hedging activities. In accordance with applicable requirements of
the SEC, estimates of the Company's proved reserves and future net
revenues are made using oil and natural gas sales prices estimated to
be in effect as of the date of such reserve estimates and are held
constant throughout the life of the properties (except to the extent a
contract specifically provides for escalation). The average prices used
in calculating historical PV-10 Value as of December 31, 1997 were
$15.91 per Bbl of oil and $2.42 per Mcf of natural gas, compared to
average prices used as of December 31, 1996 of $23.86 per Bbl of oil
and $2.76 per Mcf of natural gas. The average prices used in
calculating the pro forma PV-10 Value as of December 31, 1997 were
$13.71 per Bbl of oil and $2.46 per Mcf of natural gas. Average prices
at April 30, 1998 were $12.34 per Bbl of oil and $2.38 per Mcf of
natural gas.

(9) Reflects the actual realized prices received by the Company, including
the results of the Company's hedging activities. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations."

(10) Through June 30, 1996, the Company was taxed under the provisions of
"Subchapter S" of the Internal Revenue Code. Accordingly, no provision
for federal income taxes was recorded for periods ending prior to
June 30, 1996.

-9-
<PAGE> 14
CAUTIONARY STATEMENTS REGARDING
FORWARD-LOOKING INFORMATION

This Prospectus contains certain forward-looking statements which can
be identified by the use of forward-looking terminology such as "believes,"
"expects," "may," "will," "should" or "anticipates" or the negative thereof or
comparable terminology, or by discussions of strategy that involve risks and
uncertainties. In addition, all statements other than statements of historical
facts included in this Prospectus, including, without limitation, statements
regarding the Company's business strategy, future governmental regulation, oil
and natural gas reserves, future drilling and development opportunities and
operations, future acquisitions, future production of oil and natural gas (and
the prices thereof and costs therefor), anticipated results of hedging
activities, future capital expenditures and future net cash flows, are
forward-looking statements and may contain information concerning financial
results, economic conditions, trends and known uncertainties. Such statements
reflect the Company's current views with respect to future events and financial
performance, and involve risks and uncertainties. Actual results could differ
materially from those projected in the forward-looking statements as a result of
these various risks and uncertainties, including, without limitation, (i)
factors discussed under "Risk Factors" such as natural gas price fluctuations
and markets, uncertainties of estimates of reserves and future net revenues,
competition in the oil and natural gas industry, operating risks, risks
associated with acquisitions, future need for and availability of capital, and
regulatory and environmental risks, (ii) adverse changes to the properties
acquired in the Transactions and the interests subject to the Lobo Lease or the
failure of the Company to achieve the anticipated benefits of the Transactions
and the interests subject to the Lobo Lease, (iii) adverse changes in the market
for the Company's oil and natural gas production and (iv) those additional
factors discussed under "Management's Discussion and Analysis of Financial
Condition and Results of Operations," "Business and Properties" and elsewhere in
this Prospectus. Investors are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date hereof.

-10-
<PAGE> 15
RISK FACTORS

In addition to the other information contained in this Prospectus,
prospective investors should carefully consider the following risk factors
relating to the Company and the Notes before making an investment in the Notes
offered hereby.

INCURRENCE OF SUBSTANTIAL INDEBTEDNESS

At March 31, 1998, on a pro forma basis, the Company would have had $135.0
million of Indebtedness outstanding (including current maturities of long-term
Indebtedness) as compared to shareholders' deficit of $3.4 million. See "Use of
Proceeds" and "Capitalization." The Indenture limits the amounts of borrowings
under bank facilities, including borrowings under the Company's Credit Facility
pursuant to the terms of that certain Credit Agreement dated as of May 15, 1998.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources" and "Description of Notes--Certain
Covenants--Limitation on Incurrence of Additional Indebtedness."

This level of Indebtedness may pose substantial risks to holders of Notes,
including, but not limited to, the following: (i) the Company's ability to
obtain additional financing in the future, whether for working capital, capital
expenditures, acquisitions or other purposes, may be impaired; (ii) a portion
of the Company's cash flow from operations is required to be dedicated to the
payment of interest on its debt, thereby reducing funds available to the
Company for other purposes; (iii) the Company may not generate sufficient cash
flow to pay the principal of and interest on the Notes; (iv) the Company's
flexibility in planning for or reacting to changes in market conditions may be
limited; and (v) the Company may be more vulnerable in the event of a downturn
in its business. In addition, the Company's earnings have been insufficient to
meet its fixed charges.

The ability of the Company to meet its debt service obligations, including
with respect to the Notes, will depend on the future operating performance and
financial results of the Company, which will be subject in part to factors
beyond the control of the Company. Further, if the Company is unsuccessful in
increasing its proved reserves, the future net revenues from existing proved
reserves may not be sufficient to pay the principal of and interest on the Notes
in accordance with their terms. There can be no assurance that the Company will
continue to generate earnings in the future sufficient to cover its fixed
charges. If the Company is unable to generate earnings in the future sufficient
to cover its fixed charges and is unable to borrow sufficient funds to cover
such charges, it may be required to refinance all or a portion of its debt or to
sell all or a portion of its assets. There can be no assurance that a
refinancing would be possible, nor can there be any assurance as to the timing
of any asset sales or the proceeds that the Company could realize therefrom. In
addition, the Credit Agreement contains certain covenants by the Company,
including (i) limitations on additional indebtedness and on guaranties by the
Company except as permitted under the Credit Agreement, (ii) limitations on
additional investments except those permitted under the Credit Agreement and
(iii) restrictions on dividends or distributions on or repurchases or
redemptions of capital stock by the Company, except for those involving
repurchases of MHI capital stock which may not exceed $500,000 in any fiscal
year. In addition, the Credit Agreement requires the Company to maintain and
comply with certain financial covenants and ratios, including a minimum interest
coverage ratio, a minimum current ratio and a covenant requiring that the
Company's general and administrative expenses may not exceed 12.5% of the
Company's gross revenues in any calendar year. See "--Restrictions Imposed by
Lenders," "--Future Need for and Availability of Capital" and "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Financing Arrangements."

EFFECTIVE SUBORDINATION OF THE NOTES

The Notes are senior unsecured obligations of the Company and rank in parity
with all existing and future Senior Indebtedness of the Company, including any
indebtedness incurred under the Credit Facility, and senior in right of payment
to all future Subordinated Indebtedness of the Company. Holders of secured
Indebtedness of the Company and its Subsidiaries, including under the Credit
Facility, will have claims with respect to assets constituting collateral for
such Indebtedness that are prior to the claims of the Holders of the Notes. In
the event of a default on the Notes, or a bankruptcy, liquidation or
reorganization of the Company and its Subsidiaries, such assets will be
available to satisfy obligations with respect to the indebtedness secured
thereby before any payment therefrom could be made on the Notes. Accordingly,
the Notes will be effectively subordinated to claims of secured creditors of the
Company and its Subsidiaries to the extent of such pledged collateral. As of
December 31, 1997, on a pro forma basis, the Company would have had no secured
Indebtedness and no other Indebtedness other than the Notes. There is currently
no Indebtedness of the Company which would constitute Subordinated Indebtedness.
See "Description of Notes--Ranking."

RESTRICTIONS IMPOSED BY LENDERS

The Indenture and the Credit Agreement governing the terms of the Credit
Facility impose significant operating and financial restrictions on the Company.
Such restrictions will affect, and in many respects significantly limit or
prohibit, among other things, the ability of the Company to incur additional
indebtedness, make certain capital expenditures, pay dividends, repay or
repurchase indebtedness prior to its stated maturity or engage in mergers or
acquisitions. These restrictions could also limit the ability of the Company to
effect future financings, make needed capital expenditures, withstand a future
downturn in the Company's business or the economy in general, or otherwise
conduct necessary corporate activities. A failure by the Company to comply with
these restrictions could lead to a default under the terms of such indebtedness
and the Notes. In the event of default, the holders of such indebtedness could
elect to

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<PAGE> 16

declare all of the funds borrowed pursuant thereto to be due and payable
together with accrued and unpaid interest. In such event, there can be no
assurance that the Company would be able to make such payments or borrow
sufficient funds from alternative sources to make any such payment. Even if
additional financing could be obtained, there can be no assurance that it would
be on terms that are favorable or acceptable to the Company. In addition, the
Company's indebtedness under the Credit Facility is secured by a substantial
portion of the assets and properties of the Company. The pledge of such
collateral to the Company's secured lenders could impair the Company's ability
to obtain additional financing on favorable terms. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Liquidity and
Capital Resources" and "--Financing Arrangements."

RISKS ASSOCIATED WITH INCREASE IN SCOPE OF OPERATIONS

The increased scope of operations of the Company resulting from the
Transactions and the Lobo Lease presents challenges to the Company due to the
additional time and resources required to manage these newly acquired properties
and interests. Neither the members of management nor the Board of Directors
individually have had experience in integrating acquisitions or lease
transactions of the size and scope of the Transactions and the Lobo Lease.
Accordingly, there can be no assurance that the process of absorbing and
integrating the interests in the properties acquired in the Transactions and
subject to the Lobo Lease can be effectively managed. In addition, the continued
growth and expansion of the Company will depend, among other factors, on the
ability to recruit and retain skilled and experienced management and technical
personnel. There can be no assurance that the Company will be successful in such
efforts.

The development of the Company's business and its participation in an
increasingly larger number of projects have required and will continue to
require substantial expenditures. The Company's future financial results will
depend primarily on its ability to economically locate and produce hydrocarbons
in commercial quantities and on the market prices of oil and natural gas. There
can be no assurance that the Company will achieve or sustain profitability or
positive cash flows from operating activities in the future. See "--Future Need
for and Availability of Capital," "Selected Historical and Pro Forma Financial,
Operating and Oil and Natural Gas Reserve Information," "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
"Business and Properties--Oil and Natural Gas Reserves."

FUTURE NEED FOR AND AVAILABILITY OF CAPITAL

Although the Company has an initial borrowing capacity of up to $30 million
under the Credit Facility, the Company anticipates that it will require
additional financing to effect future property acquisitions and continue its
exploration and development programs. The Company or MHI may seek funds through
the sale of debt or equity securities, which could significantly dilute the
ownership of the Company's or MHI's existing shareholders. In addition, if
necessary (and permitted under the terms of the Indenture), the Company or MHI
may seek funds from project financing, strategic alliances or other sources, all
of which may dilute the interest of the Company in the specific project
financed. The Company's ability to access additional capital is dependent upon,
in part, the financial strength of the capital markets at such time. There can
be no assurance that such additional financing can be obtained or, if so,
obtained on terms acceptable to the Company.

Future cash flows and the availability of credit are subject to a number of
variables, such as the level of production from existing wells, prices of oil
and natural gas and the Company's success in locating and producing new
reserves. If revenues were to decrease as a result of lower oil and natural gas
prices, decreased production or otherwise, the Company could have limited
ability to replace its reserves or to maintain production at current levels,
resulting in a decrease in production and revenues over time. The Company has
budgeted approximately $24.9 million for capital expenditures in 1998,
exclusive of acquisitions. The Company expects to use cash flow from
operations, cash balances and borrowings under the Credit Facility to fund
these expenditures. If the Company's cash flow from operations and availability
under the Credit Facility are not sufficient to satisfy its capital expenditure
requirements, there can be no assurance that additional debt or equity
financing will be available. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital
Resources."

POSSIBLE LIMITATIONS ON ENFORCEABILITY OF SUBSIDIARY GUARANTEES

Pursuant to the provisions of the Indenture, the Company's obligations
under the Notes will be guaranteed on a senior unsecured basis by any future
Subsidiary Guarantors. The Company currently has no subsidiaries. The
obligations of any Subsidiary Guarantor under its Subsidiary Guarantee may be
subject to review under applicable fraudulent conveyance statutes in the event
of the bankruptcy or other financial difficulty of any such Subsidiary
Guarantor. Under such laws, if a court in a lawsuit by an unpaid creditor or
representative of creditors of any such person, such as a trustee in bankruptcy
of any such person as debtor in possession, were to find that at the time such
person incurred its obligations under its guarantee, it (i) received less than
fair consideration or reasonably equivalent

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<PAGE> 17
value therefor, and (ii) either (a) was insolvent, (b) was rendered insolvent
by such guarantee, (c) was engaged in a business or transaction for which its
remaining assets constituted unreasonably small capital or (d) intended to
incur or believed that it would incur debts beyond its ability to pay such
debts as they matured, such court could void such obligations under its
guarantee and direct the return of any amounts paid with respect thereto.
Moreover, regardless of the factors identified in the foregoing clauses (i) and
(ii), a court could take such action if it found that the guarantee was entered
into with actual intent to hinder, delay or defraud creditors. The measure of
insolvency for purposes of the foregoing will vary depending on the law of the
jurisdiction being applied. Generally, however, an entity would be considered
insolvent if the sum of its debts (including contingent or unliquidated debts)
is greater than all of its property at a fair valuation or if the present fair
salable value of its assets is less than the amount that would be required to
pay its probable liability on its existing debts as they become absolute and
mature. There can be no assurance that, after providing for all prior claims,
if any, there would be sufficient assets to satisfy the claims of the holders
of the Notes relating to any voided portion of such Subsidiary Guarantees.

LIMITATIONS ON REPURCHASES OF NOTES UPON A CHANGE OF CONTROL AND CERTAIN OTHER
EVENTS

Upon the occurrence of a Change of Control, the Company will be required to
offer to repurchase all Notes then outstanding at a purchase price equal to
101% of the principal amount of the Notes, together with accrued and unpaid
interest and Liquidated Damages, if any, to the date of repurchase. In the
event of certain asset dispositions, the Company will be required under certain
circumstances to use the Excess Proceeds to offer to repurchase the Notes (and
other Senior Indebtedness for which an offer to repurchase is required to be
concurrently made) having an aggregate principal amount equal to the Excess
Proceeds at a purchase price equal to 100% of the principal amount of the
Notes, together with accrued and unpaid interest and Liquidated Damages, if
any, to the date of repurchase (a "Net Proceeds Offer"). If a Change of Control
were to occur, the Company may not have the financial resources to repay all of
the Notes and the other indebtedness that might become payable upon the
occurrence of such Change of Control.

The events that constitute a Change of Control or require a Net Proceeds
Offer under the Indenture may also be events of default under other
indebtedness of the Company (including the Credit Facility). Such events may
permit the lenders under such debt instruments to accelerate the debt and, if
the debt is not paid, to enforce security interests on, or commence litigation
that could ultimately result in a sale of, substantially all of the assets of
the Company, thereby limiting the Company's ability to raise cash to repurchase
the Notes and reducing the practical benefits of the offer to repurchase
provisions to the holders of the Notes. If the Company fails timely to make an
offer to repurchase or to consummate the repurchase of the Notes, such failure
will constitute an Event of Default under the Indenture. There can be no
assurance that the Company will have sufficient funds available at the time of
any Change of Control or Net Proceeds Offer to make any debt payment (including
repurchases of Notes) as described above. See "Description of Notes--Change of
Control" and "Description of Notes--Certain Covenants--Limitation on Sale of
Assets."

VOLATILITY OF NATURAL GAS AND OIL PRICES

The revenues generated by the Company's operations are highly dependent
upon the prices of, and demand for, natural gas and, to a lesser extent, the
price of oil. Historically, the prices of oil and natural gas have been
volatile and are likely to continue to be volatile in the future and are
dependent upon numerous factors such as weather, domestic and foreign political
and economic conditions, the overall level of international and domestic demand
for oil and natural gas, domestic and international regulatory developments,
domestic and international severance and excise taxes, competition from other
sources of energy and the availability of pipeline capacity. The Company is
affected more by fluctuations in natural gas prices than oil prices, because
the majority of its production is natural gas. The volatile nature of the
energy markets and the unpredictability of actions of OPEC members make it
impossible to predict future prices of natural gas and oil with any certainty.
Prices of natural gas and oil are subject to wide fluctuations in response to
relatively minor changes in circumstances, and there can be no assurance that
future prolonged decreases in such prices will not occur. All of these factors
are beyond the control of the Company. Any significant decline in natural gas
and oil prices would have a material adverse effect on the Company's results of
operations and financial condition, its ability to fund operations and capital
expenditures, the book value of its natural gas and oil properties and its
ability to meet its debt service requirements. Although the Company may enter
into hedging arrangements from time to time to reduce its exposure to price
risks in the sale of its natural gas and oil, substantially all of the
Company's production will remain subject to natural gas and oil price
fluctuations. See "--Risk of Hedging Activities."

DEPENDENCE ON DISTRIBUTION AND PROCESSING SYSTEMS

The marketability of the Company's natural gas and oil production depends
upon the availability and capacity of natural gas gathering systems, pipelines
and processing facilities which are not owned by the Company. The

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<PAGE> 18
unavailability or lack of capacity thereof could result in the shut-in of
producing wells or the delay or discontinuance of development plans for
properties. Moreover, substantially all of the Company's properties rely on the
same gathering systems, transportation lines and processing plants. In
addition, federal and state regulation of oil and natural gas production and
transportation, general economic conditions and changes in supply and demand
could adversely affect the Company's ability to produce and market its natural
gas and oil on a profitable basis. Any significant change in the Company's
ability to market its production could have a material adverse effect on the
Company's financial condition and results of operations.

CONCENTRATION OF PRODUCING PROPERTIES

The Company's production of natural gas and oil is concentrated within an
approximate 120 square mile area in the Lobo Trend. Any impairment or material
reduction in the expected size of the reserves attributable to the Company's
wells, any material harm to the producing reservoirs from which these wells
produce or any significant governmental regulation with respect to any of these
wells, including curtailment of production or interruption of transportation of
production, could have a material adverse effect on the Company's financial
condition and results of operations.

RISK OF HEDGING ACTIVITIES

The Company's use of energy swap arrangements and forward sale arrangements
to reduce its sensitivity to oil and natural gas price volatility is subject to
a number of risks. If the Company's reserves are not produced at the rates
estimated by the Company due to inaccuracies in the reserve estimation process,
operational difficulties or regulatory limitations, or otherwise, the Company
would be required to satisfy its obligations under potentially unfavorable
terms. If the Company enters into financial instrument contracts for the
purpose of hedging prices and the estimated production volumes are less than
the amount covered by these contracts, the Company would be required to
mark-to-market these contracts and recognize any and all losses within the
determination period. Further, under financial instrument contracts the Company
may be at risk for basis differential, which is the difference in the quoted
financial price for contract settlement and the actual physical point of
delivery price. Substantial variations between the assumptions and estimates
used by the Company in its hedging activities and actual results experienced
could materially adversely affect the Company's financial condition and its
ability to manage risk associated with fluctuations in oil and natural gas
prices. Furthermore, the fixed price sales and hedging contracts limit the
benefits the Company will realize if actual prices rise above the contract
prices.

Although the Company's former hedging contracts in effect were terminated
at the closing of the sale of the Old Notes, the Company has since entered into
additional hedging contracts. Historically, 86% and 36% of the Company's
natural gas production was hedged in 1997 and 1996, respectively. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Hedging Activities."

DRILLING RISKS

The Company's revenues, operating results and future rate of growth will be
dependent upon the success of its drilling program, which will be funded in
part with the proceeds from the sale of the Old Notes. Oil and natural gas
drilling involves numerous risks, including the risk that no commercially
productive oil or natural gas reservoirs will be encountered. The timing and
cost of drilling, completing and operating wells is often uncertain, and
drilling operations may be curtailed, delayed or canceled as a result of a
variety of factors, including unexpected drilling conditions, pressure or
irregularities in formations, equipment failures or accidents, adverse weather
conditions, compliance with governmental requirements and shortages or delays
in the availability of drilling rigs and the delivery of equipment. Oil and
natural gas drilling remains a speculative activity notwithstanding the
Company's use of 3-D seismic data. Even when fully utilized and properly
interpreted, 3-D seismic data and other advanced technologies only assist
geoscientists in identifying subsurface structures and do not enable the
interpreter to know whether hydrocarbons are in fact present in such
structures. In addition, the use of 3-D seismic data and other advanced
technologies requires greater predrilling expenditures than traditional
drilling strategies and the Company could incur losses as a result of such
expenditures. Furthermore, completion of a well does not assure a profit on the
investment or a recovery of any portion of drilling, completion or operating
costs.

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<PAGE> 19
Unsuccessful drilling activities could have a material adverse effect on
the Company's results of operations and financial condition. There can be no
assurance that the Company's overall drilling success rate or its drilling
success rate within a particular project area will not decline. The Company may
choose not to acquire option and lease rights prior to acquiring seismic data
and, in many cases, the Company may identify a prospect or drilling location
before seeking option or lease rights in the prospect or location. Although the
Company has identified or budgeted for numerous drilling prospects, there can
be no assurance that such prospects will ever be leased or drilled (or drilled
within the scheduled or budgeted time frame) or that oil or natural gas will be
produced from any such prospects or any other prospects. In addition, prospects
may initially be identified through a number of methods, some of which do not
include interpretation of 3-D or other seismic data. Actual drilling and
results are likely to vary from such statistical results and such variance may
be material. Similarly, the Company's drilling schedule may vary from its
capital budget because of future uncertainties, including those described
above. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."

ABILITY AND NEED TO REPLACE RESERVES

The Company's future success depends upon its ability to find, develop or
acquire additional oil and natural gas reserves that are economically
recoverable. Unless the Company successfully replaces the reserves that it
produces through successful development, exploration or acquisition, the
Company's proved reserves will decline. Further, substantially all of the
Company's estimated proved reserves at December 31, 1997 were located in the
Lobo Trend, where wells are characterized by high initial production followed
by rapid initial decline rates and a relative flattening of production
thereafter. Additionally, approximately 49% of the PV-10 Value of the Company's
total estimated proved reserves at December 31, 1997 was attributable to
undeveloped reserves (63% on a pro forma basis). Recovery of such reserves will
require significant capital expenditures and successful drilling operations,
and there can be no certainty regarding the results of developing these
reserves. The Company's business strategy is to add reserves by pursuing an
active development drilling program on its properties (including the properties
acquired in the Transactions) and on additional properties that it may acquire
in the future. There can be no assurance that the Company will drill the number
of wells currently projected or that the production from these new wells will
be sufficient to replace production from existing wells during such period. To
the extent the Company is unsuccessful in replacing or expanding its estimated
proved reserves, the Company may be unable to pay the principal of and interest
on the Notes in accordance with their terms, or otherwise to satisfy certain of
its covenants contained in the Indenture. See "Description of Notes--Certain
Covenants."

UNCERTAINTY OF ESTIMATES OF RESERVES AND FUTURE NET REVENUES

The proved developed and undeveloped oil and natural gas reserve data
presented in this Prospectus are estimates based on reserve reports prepared by
independent petroleum engineers, as well as internally generated reports by the
Company. The estimation of reserves requires substantial judgment on the part
of the petroleum engineers, resulting in imprecise determinations, particularly
with respect to new discoveries. Estimates of economically recoverable oil and
natural gas reserves and of future net revenues necessarily depend upon a
number of variable factors and assumptions, such as assumed production, which
is based in part on an assessment of historical production from the area
compared with production from other producing areas, the assumed effects of
regulations by governmental agencies and assumptions concerning future oil and
natural gas prices, future operating costs, severance and excise taxes, capital
expenditures and workover and remedial costs, all of which may in fact vary
considerably from actual results. Estimates of reserves and of future net
revenues prepared by different petroleum engineers may vary substantially,
depending, in part, on the assumptions made (including assumptions required by
the SEC), as to oil and natural gas prices, drilling, workover, remedial and
operating expenses, capital expenditures, severance and ad valorem taxes and
availability of funds, and may be subject to material adjustment. Estimates of
proved undeveloped reserve quantities, which comprise 55% of the Company's
reserves as of December 31, 1997 (71% on a pro forma basis), are, by their
nature, much less certain than proved developed reserves. The accuracy of any
reserve estimate depends on the quality of available data as well as
engineering and geological interpretation and judgment. Results of drilling,
testing and production or price changes subsequent to the date of the estimate
may result in changes to such estimates. Any significant variance in the
assumptions could materially affect estimates of economically recoverable
quantities of oil and natural gas attributable to any particular group of
properties, classifications of such reserves based on risk of recovery and
estimates of the future net revenues expected therefrom. The estimates of
future net revenues contained in this Prospectus reflect oil and natural gas
prices and production costs as of the date of estimation, without escalation,
except where changes in prices were fixed under existing contracts. There can
be no assurance that such prices will be realized, estimated production volumes
will be produced or proved undeveloped reserves will be developed during the
period specified in such reports. Either inaccuracies in estimates of proved
undeveloped reserves or the inability to fund development could result in
substantially reduced reserves. In addition, the timing of receipt of estimated
future net revenues from proved undeveloped reserves will be dependent upon the
timing and implementation of drilling and development activities estimated by
the Company for purposes of the reserve report. See "Business and
Properties--Oil and Natural Gas Reserves." The estimated reserves and future
net

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<PAGE> 20
revenues may be subject to material downward or upward revision based upon
production history, results of future development, prevailing oil and natural
gas prices and other factors. A material decrease in estimated reserves or
future net revenues could have a material adverse effect on the Company's
financial condition and results of operations.

In addition, the PV-10 Value of the Company's proved oil and natural gas
reserves does not necessarily represent the current or fair market value of
such proved reserves, and the 10% discount rate required by the SEC may not
reflect current interest rates, the Company's cost of capital or any risks
associated with the development and production of the Company's proved oil and
natural gas reserves. In accordance with applicable SEC requirements, proved
reserves and the future net revenues from which PV-10 Value is derived are
estimated using prices and costs at the date of the estimate held constant
throughout the life of the properties (except to the extent a contract
specifically provides otherwise). The Company emphasizes with respect to such
estimates that the discounted future net cash flows should not be construed as
representative of the fair market value of the proved oil and natural gas
properties belonging to the Company, because discounted future net cash flows
are based upon projected cash flows that do not provide for changes in oil and
natural gas prices or for escalation of expenses and capital costs. The
meaningfulness of such estimates is highly dependent upon the accuracy of the
assumptions upon which they were based. Actual results may differ materially
from the results estimated. Holders and prospective purchasers of the Notes are
cautioned not to place undue reliance on the reserve data included in this
Prospectus. The estimated future net revenues attributable to the Company's
proved oil and natural gas reserves, on a pro forma basis, are based on prices
in effect at December 31, 1997 ($2.46 per Mcf of natural gas and $13.71 per Bbl
of oil), which have decreased since December 31, 1997 and may be materially
different than actual future prices. See "Business and Properties--Oil and
Natural Gas Reserves."

SHORTAGES OF DRILLING RIGS, EQUIPMENT, SUPPLIES AND PERSONNEL

In the past, there have been periods where general shortages of drilling
rigs, equipment and supplies have occurred. Shortages of drilling rigs,
equipment or supplies could delay and adversely affect the Company's
exploration and development operations, which could have a material adverse
effect on its business, financial condition and results of operations.

The demand for, and wage rates of, qualified rig crews have begun to rise
in the drilling industry in response to the increasing number of active
drilling rigs in service. Shortages of qualified rig crews have in the past
occurred in the industry in times of increasing demand for drilling services.
If the number of active drilling rigs continues to increase, the oil and
natural gas industry may experience shortages of qualified personnel to operate
drilling rigs, which could delay the Company's drilling operations and
adversely affect the Company's business, financial condition and results of
operations.

RISKS ASSOCIATED WITH ACQUISITIONS

The successful acquisition of producing properties requires an assessment
of recoverable reserves, future oil and natural gas prices, operating costs,
potential environmental and other liabilities and other factors. Such
assessments are necessarily inexact. In connection with its assessment of a
potential acquisition, the Company performs a review of the subject properties
that it believes to be generally consistent with industry practices, including
examination of contingencies associated with the properties. Such a review,
however, will not reveal all existing or potential problems nor will it permit
a buyer to become sufficiently familiar with the properties to fully assess the
deficiencies and capabilities of such properties. Inspections may not always be
performed on every well, and structural and environmental problems are not
necessarily observable even when an inspection is undertaken. Even when
problems are identified, the seller may be unwilling or unable to provide
effective contractual protection against all or part of such problems. There
can be no assurance that the Company will be able to identify attractive
acquisition opportunities, obtain financing for acquisitions on satisfactory
terms or successfully acquire identified targets. Furthermore, there can be no
assurance that competition for acquisition opportunities in these industries
will not escalate, thereby increasing the cost to the Company of making further
acquisitions or causing the Company to refrain from making further
acquisitions. In addition, there can be no assurance that any acquisition of
property interests by the Company will be successful and, if unsuccessful, that
such failure will not have a material adverse effect on the Company's future
results of operations and financial condition.

OPERATIONAL HAZARDS AND UNINSURED RISKS

Oil and natural gas drilling activities are subject to numerous risks, many
of which are beyond the Company's control, including the risk that no
commercially productive oil or natural gas reservoirs will be encountered. The
cost of drilling, completing and operating wells is often uncertain, and
drilling operations may be curtailed, delayed or canceled as a result of a
variety of factors, including unexpected drilling conditions, pressure
irregularities in

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<PAGE> 21
formations, equipment failures or accidents, adverse weather conditions, title
problems and shortages or delays in the delivery of equipment. The Company's
future drilling activities may not be successful and, if unsuccessful, such
failure will have an adverse effect on future results of operations and
financial condition.

In addition, oil and natural gas operations involve hazards such as fire,
explosion, blowout, pipe failure, casing collapse, unusual or unexpected
formation pressures and environmental hazards such as oil spills, gas leaks,
ruptures and discharges of toxic gases, the occurrence of any one of which
could result in substantial losses to the Company due to injury or loss of
life, severe damage to or destruction of property, natural resources and
equipment, pollution or other environmental damage, cleanup responsibilities,
regulatory investigation and penalties and suspension of operations. Although
the Company maintains insurance against certain risks that it believes are
customarily insured against by companies in the industry of comparable size and
scope of operations, such insurance does not cover all of the risks and hazards
involved in oil and natural gas exploration, drilling and production because
insurance is unavailable at economic rates, there are limitations in the
Company's insurance policies or for other reasons. Even if coverage does exist,
it may not be sufficient to pay the full amount of liabilities incurred, and
there can be no assurance that such insurance will continue to be available on
terms acceptable to the Company. Any uninsured loss could have a material
adverse effect on the Company's financial condition and results of operations.
See "--Regulatory and Environmental Risks."

COMPETITION IN THE OIL AND NATURAL GAS INDUSTRY

The Company encounters competition from other oil and natural gas companies
in all areas of its operations, including the acquisition of exploratory
prospects and proven properties. Properties within the Lobo Trend are
characterized by large tracts (typically 5,000 to 50,000 acres) that have been
owned by the same families for generations. Securing leases or necessary
permits and approvals for 3-D seismic shoots depends heavily on developing and
maintaining favorable relationships with the surface owners. The Company's
competitors, particularly in the Lobo Trend, include major integrated oil and
natural gas companies and independent oil and natural gas companies,
individuals and drilling and income programs. Most of its competitors are
large, well-established companies with substantially larger operating staffs
and significantly greater capital resources than those of the Company and
which, in many instances, have been engaged in the oil and natural gas business
for a much longer time than the Company. Such companies may be able to pay more
for exploratory prospects and productive oil and natural gas properties and may
be able to define, evaluate, bid for and purchase a greater number of
properties and prospects than could the Company, given its limited financial
and human resources. There can be no assurance that the Company will be able to
secure the necessary financing or industry partners or evaluate and select
suitable properties and consummate transactions in this highly competitive
environment. See "Business and Properties--Competition."

PROPERTY IMPAIRMENT CHARGES

Effective January 1, 1996, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," which requires
that long-lived assets held and used by an entity be reviewed for impairment
whenever events or changes indicate that the net book value of an asset may not
be recoverable. The net book value of an asset is reduced to fair value if the
sum of expected undiscounted future net cash flows from the use of the asset is
less than the net book value of the asset. Under SFAS No. 121 the Company
evaluates impairment of oil and natural gas properties on a field basis.
Applying SFAS No. 121, the Company recognized non-cash property impairment
charges of $238,000 in 1997 and $156,000 in 1996. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Results of
Operations." Significant declines in oil or natural gas prices or downward
revisions of reserve estimates could adversely impact the Company's estimates
of future net revenues from its proved reserves and consequently could result
in future non-cash impairment charges against the Company's income.

DEPENDENCE ON KEY PERSONNEL

The Company is dependent upon the efforts and skills of key executives of
the Company, including Glenn D. Hart, Chairman of the Board and Chief Executive
Officer, Michael G. Farmar, President and Chief Operating Officer, and Jerry F.
Holditch, Vice President-Exploration. The loss of any of these officers or
other key personnel could have a material adverse effect on the Company.
Further, as the Company grows its asset base and scope of operations as a
result of the Transactions and other future acquisitions, its future
profitability will depend upon the Company's ability to attract and retain
additional qualified personnel. See "Management."

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CONTROL BY CERTAIN SHAREHOLDERS

The Company is a wholly-owned subsidiary of MHI, which in turn is
principally owned by the management of the Company and MHI. As of the date of
this Prospectus, four of the Company's directors, three of whom are also
executive officers of the Company, beneficially owned 702,050 shares of common
stock of MHI (the "Common Stock") representing, in the aggregate, approximately
91% of the outstanding Common Stock. Such owners, should they act together,
would have sufficient voting power to (i) elect the entire Boards of Directors
of the Company and MHI, (ii) exercise control over the business, policies and
affairs of the Company and MHI and (iii) in general, determine the outcome of
any corporate transaction or other matters submitted to the stockholders for
approval such as (a) any amendment to the Company's Articles of Incorporation,
(b) the authorization of additional shares of capital stock and (c) any merger,
consolidation or sale of all or substantially all of the assets of the Company
which could prevent or cause a change of control of the Company. See "Principal
Shareholders."

REGULATORY AND ENVIRONMENTAL RISKS

Oil and natural gas operations are subject to various federal, state and
local governmental regulations which may be changed from time to time in
response to economic or political conditions. From time to time, regulatory
agencies have imposed price controls and limitations on production in order to
conserve supplies of oil and natural gas. In addition, the production,
handling, storage, transportation and disposal of oil and natural gas,
byproducts thereof and other substances and materials produced or used in
connection with oil and natural gas operations are subject to regulation under
federal, state and local laws and regulations. See "Business and
Properties--Governmental Regulation."

The Company's operations currently are located primarily in Texas. Thus, the
Company's business is subject to environmental regulation on the state level
primarily by the Railroad Commission of Texas and the Texas Natural Resource
Conservation Commission. The Railroad Commission of Texas regulations may
require on the Company to obtain permits and drilling bonds for the drilling of
wells. Additionally, the Railroad Commission of Texas regulates the spacing of
wells, plugging and abandonment of such wells and the remediation of
contamination caused by most types of exploration and production wastes. The
Railroad Commission requirements for remediation of contamination are, for the
most part, administered on a case-by-case basis. The Company expects that such
regulations will be formalized in the future and will in all likelihood become
more stringent.

Currently, federal regulations provide that drilling fluids, produced waters
and other wastes associated with the exploration, development or production of
oil and natural gas are exempt from regulation as "hazardous waste." To the
extent that the Company's operations produce wastes that do not fall within this
exemption, the storage, handling and disposal of those wastes are regulated on
the state level by the Texas Natural Resource Conservation Commission. From time
to time, legislation has been proposed to eliminate or modify this exemption.
Should the exemption be modified or eliminated, wastes associated with oil and
natural gas exploration and production would be subject to more stringent
regulation. On the federal level, the Company's operations may be subject to
various federal statutes, including the Natural Gas Act, the Comprehensive
Environmental Response, Compensation the Liability Act, the Solid Waste Disposal
Act, as amended by the Resource Conservation and Recovery Act, the Clean Air
Act, the Federal Water Pollution Control Act and the Oil Pollution Act, as well
as by regulations promulgated pursuant to these actions.

These regulations subject the Company to increased operating costs and
potential liability associated with the use and disposal of hazardous materials.
Although these laws and regulations have not had a material adverse effect on
the Company's financial condition or results of operations, there can be no
assurance that the Company will not be required to make material expenditures in
the future. Moreover, the Company anticipates that such laws and regulations
will become increasingly stringent in the future, which could lead to material
costs for environmental compliance and remediation by the Company. See
"Business and Properties--Governmental Regulation."

Any failure by the Company to obtain required permits for, control the use
of, or adequately restrict the discharge of hazardous substances under present
or future regulations could subject the Company to substantial liability or
could cause its operations to be suspended. Such liability or suspension of
operations could have a material adverse effect on the Company's business,
financial condition and results of operations.

LACK OF PUBLIC MARKET

The Old Notes are designated for trading in the PORTAL market. There is no
established trading market for the New Notes. The Company does not currently
intend to list the New Notes on any securities exchange or to seek approval for
quotation through any automated quotation system. Accordingly, there can be no
assurance as to the development of any market or the liquidity of any market
that may develop for the New Notes. If such a market were to exist, no
assurance can be given as to the trading prices of the New Notes, which will
depend on many factors, including, among other things, prevailing interest
rates, the Company's operating results and the market for similar securities.
The liquidity of, and trading market for, the New Notes may be adversely
affected by general declines in the market for similar securities. Such a
decline may adversely affect such liquidity and trading markets independent of
the financial performance of, and prospects for, the Company.

ADVERSE CONSEQUENCES OF FAILURE TO EXCHANGE

The Old Notes were sold pursuant to an exemption from the registration
requirements of the Securities Act and their transfer is subject to certain
restrictions under the Securities Act. In general, Old Notes may not be
offered or sold unless registered under the Securities Act, except pursuant to
an exemption from, or in a transaction not subject to, the Securities Act and
applicable state securities laws. Holders of Old Notes who do not exchange
their Notes for New Notes pursuant to the Exchange Offer will continue to be
subject to such restrictions on transfer of the Old Notes. The Company
currently does not anticipate that it will register the Old Notes under the
Securities Act. To the extent that Old Notes are tendered and accepted in the
Exchange Offer, the trading market for untendered and tendered but unaccepted
Old Notes could be adversely affected. See "The Exchange Offer -- Consequences
of Failure to Exchange."

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<PAGE> 23
RISKS ASSOCIATED WITH EXCHANGE OFFER PROCEDURES

The New Notes will be issued in exchange for Old Notes only after timely
receipt by the Exchange Agent of such Old Notes, a properly completed and duly
executed Letter of Transmittal and all other required documents. Therefore,
holders of Old Notes desiring to tender such Old Notes in exchange for New
Notes should allow sufficient time to ensure timely delivery. Neither the
Exchange Agent nor the Company is under any duty to give notification of
defects or irregularities with respect to tenders of Old Notes for exchange.
Old Notes that are not tendered or are tendered but not accepted will,
following consummation of the Exchange Offer, continue to be subject to the
existing restrictions upon transfer thereof. In addition, any holder of Old
Notes who tenders in the Exchange Offer for the purpose of participating in a
distribution of the New Notes will be required to comply with the registration
and prospectus delivery requirements of the Securities Act in connection with
any resale transaction. Each broker-dealer that receives New Notes for its own
account in exchange for Old Notes, where the Old Notes were acquired by the
broker-dealer as a result of market-making or any other trading activities,
must acknowledge that it will deliver a prospectus in connection with any
resale of such New Notes. See "Plan of Distribution."

YEAR 2000 RISKS

The Company has reviewed its computer systems and hardware to locate
potential operational problems associated with the year 2000 issue. The Company
believes that all year 2000 problems in its internal information processing
computer systems have been resolved and have not caused and will not cause
disruption of its operations, or have a material adverse effect on its financial
condition or results of operations. The Company is in the process of contacting
and receiving verification of year 2000 issue compliance from its vendors,
purchasers, suppliers, transporters of its production and its financial service
providers. At this time, the Company does not anticipate any material disruption
in its operations as a result of any year 2000 compliance issues, but will
continue to monitor the situation with third parties.

THE EXCHANGE OFFER

PURPOSE AND EFFECT

The Old Notes were sold by the Company on April 2, 1998, in a private
placement pursuant to an exemption from registration under the Securities Act.
In connection with that private placement, the Company entered into the
Registration Rights Agreement which requires that the Company file the
registration statement of which this Prospectus is a part (the "Registration
Statement") under the Securities Act with respect to the New Notes on or prior
to 45 days after the date of issuance of the Old Notes (the "Issue Date"). The
Registration Rights Agreement further requires that, upon the effectiveness of
the Registration Statement, the Company offer to the holders of the Old Notes
the opportunity to exchange their Old Notes for a like principal amount of New
Notes, which will be issued without a restrictive legend and may be reoffered
and resold by the holder without further registration under the Securities Act.
The Company has agreed to use its reasonable best efforts to cause the
Registration Statement to be declared effective within 120 days following the
Issue Date and to consummate the Exchange Offer within 30 days after the
Registration Statement is declared effective by the Commission. If the Company
has not caused a Registration Statement to become effective by July 31, 1998 (a
"Registration Default"), the Company must pay Liquidated Damages of 0.5% per
annum of the principal amount held by each holder of the Old Notes, accruing
from the first day of the Registration Default and continuing for 180 days
thereafter. Such Liquidated Damages increase by an additional 0.5% per annum of
principal amount of the Old Notes during each subsequent 180-day period, up to
a maximum Liquidated Damages amount of 2.0% per annum of the Old Notes. A copy
of the Registration Rights Agreement has been filed as an exhibit to the
Registration Statement.

In order to participate in the Exchange Offer, a holder must represent to
the Company, among other things, that (i) any New Notes to be received by it
will be acquired in the ordinary course of its business, (ii) if the holder is
not a broker-dealer, that it is not engaged in, and does not intend to engage
in, the distribution of the New Notes and it has no arrangement with any person
to participate in the distribution of the New Notes and (iii) it is not an
"affiliate" (as defined in Rule 405 under the Securities Act) of the Company,
or if it is an affiliate, it will comply with the registration and prospectus
delivery requirements of the Securities Act to the extent applicable. Each
broker-dealer that receives New Notes for its own account pursuant to the
Exchange Offer should acknowledge that it acquired the Old Notes for its own
account as the result of market making activities or other trading activities.
Any holder who is unable to make the appropriate representations to the Company
will not be permitted to tender the Old Notes in the Exchange Offer and will be
required to comply with the registration and prospectus delivery requirements
of the Securities Act (or an appropriate exemption therefrom) in connection
with any sale or transfer of the Old Notes.

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<PAGE> 24
Notes, and (iii) neither the holder nor such other person has an arrangement or
understanding with any person to participate in the distribution of the New
Notes. See "Plan of Distribution."

CONSEQUENCES OF FAILURE TO EXCHANGE

The Old Notes are designated for trading in the PORTAL market. To the
extent Old Notes are tendered and accepted in the Exchange Offer, the principal
amount of outstanding Old Notes will decrease with a resulting decrease in the
liquidity in the market therefor. Following the consummation of the Exchange
Offer, holders of Old Notes who were eligible to participate in the Exchange
Offer but who did not tender their Old Notes will not be entitled to certain
rights under the Registration Rights Agreement, and such Old Notes will
continue to be subject to certain restrictions on transfer. In general, the
Old Notes may not be offered or sold, unless registered under the Securities
Act and applicable state securities laws, except pursuant to an exemption from,
or in a transaction not subject to, the Securities Act and applicable state
securities laws. The Company does not intend to register the Old Notes under
the Securities Act and, after consummation of the Exchange Offer, will not be
obligated to do so.

TERMS OF THE EXCHANGE OFFER

Upon the terms and subject to the conditions set forth in this Prospectus
and in the Letter of Transmittal, the Company will accept any and all Old Notes
validly tendered and not withdrawn prior to 5:00 p.m., New York City time, on
the Expiration Date. As soon as practicable after the Expiration Date, the
Company will issue $1,000 principal amount of New Notes in exchange for each
$1,000 principal amount of outstanding Old Notes accepted in the Exchange
Offer. Holders may tender some or all of their Old Notes pursuant to the
Exchange Offer. However, Old Notes may be tendered only in integral multiples
of $1,000 in principal amount.

The form and terms of the New Notes are identical to the form and terms of
the Old Notes except that the Old Notes were offered and sold in reliance upon
certain exemptions from registration under the Securities Act, while the
offering and sale of the New Notes in exchange for the Old Notes have been
registered under the Securities Act, with the result that the New Notes will
not bear any legends restricting their transfer. Also, holders of the New Notes
will not be entitled to certain rights under the Registration Rights Agreement.
The New Notes will evidence the same debt as the Old Notes and will be issued
pursuant to, and entitled to the benefits of, the Indenture.

As of the date of this Prospectus, $135,000,000 aggregate principal amount
of the Old Notes was outstanding and registered in the name of Cede & Co., as
nominee for the DTC. The Company has fixed the close of business on _______,
1998, as the record date for the Exchange Offer for purposes of determining the
persons to whom this Prospectus, together with the Letter of Transmittal, will
initially be sent. Holders of Old Notes do not have any appraisal or
dissenters' rights under the Texas Business Corporation Act or the Indenture in
connection with the Exchange Offer. The Company intends to conduct the Exchange
Offer in accordance with the applicable requirements of the Exchange Act and
the rules and regulations of the Commission promulgated thereunder, including
Rule 14e-1 thereunder.

The Company shall be deemed to have accepted validly tendered Old Notes
when, as, and if the Company has given oral or written notice thereof to the
Exchange Agent. The Exchange Agent will act as agent for the tendering holders
for the purpose of receiving the New Notes from the Company. If any tendered
Old Notes are not accepted for exchange because of an invalid tender, the
occurrence of certain other events set forth herein or otherwise, the
certificates for such unaccepted Old Notes will be returned, without expense,
to the tendering holder thereof as promptly as practicable after the Expiration
Date.

Holders who tender Old Notes in the Exchange Offer will not be required to
pay brokerage commissions or fees or, subject to the instructions in the Letter
of Transmittal, transfer taxes with respect to the exchange of Old Notes
pursuant to the Exchange Offer. The Company will pay all charges and expenses,
other than transfer taxes, in connection with the Exchange Offer. See "The
Exchange Offer--Solicitation of Tenders; Fees and Expenses."

EXPIRATION DATE; EXTENSIONS; AMENDMENTS

The term "Expiration Date" shall mean 5:00 p.m., New York City time, on
Monday, August 31, 1998, unless the Company, in its sole discretion, extends
the Exchange Offer, in which case the term "Expiration Date" shall mean the
latest date and time to which the Exchange Offer is extended. In order to
extend the Exchange Offer, the Company will notify the Exchange Agent of any
extension by oral or written notice prior to 9:00 a.m., New York City time, on
the next business day after the previously scheduled Expiration Date. The
Company reserves the right, in its sole discretion, (i) to delay accepting any
Old Notes, to extend the Exchange Offer or, if any of the conditions set forth
under "The Exchange Offer--Conditions" shall not have been satisfied, to
terminate the Exchange Offer, by giving oral or written notice of such delay,
extension or termination to the Exchange Agent, or (ii) to amend the

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<PAGE> 25
terms of the Exchange Offer in any manner. If the Exchange Offer is amended in
a manner determined by the Company to constitute a material change, the Company
will promptly disclose such amendment in a manner reasonably calculated to
inform the holders of the Old Notes of such amendment. Without limiting the
manner in which the Company may choose to make public announcements of any
delay in acceptance, extension, termination or amendment of the Exchange Offer,
the Company shall have no obligation to publish, advertise, or otherwise
communicate any such public announcement, other than by making a timely release
to the Dow Jones News Service.

INTEREST ON THE NEW NOTES

The New Notes will bear interest from April 2, 1998, the date of issuance
of the Old Notes that are tendered for exchange of the New Notes (or the most
recent interest payment date to which interest on such Old Notes has been
paid). Accordingly, holders of Old Notes accepted for exchange will not
receive interest that is accrued but unpaid on the Old Notes at the time of
tender, but such interest will be payable on the first interest payment date
after the consummation of the Exchange Offer. Holders of Old Notes accepted
for exchange in the Exchange Offer will be deemed to have waived the right to
receive interest accrued but unpaid thereon as of the date of exchange.
Interest on the New Notes will be payable semi-annually on April 1 and October
1 of each year, commencing October 1, 1998.

PROCEDURES FOR TENDERING

Only a registered holder of Old Notes may tender the Old Notes in the
Exchange Offer. Except as set forth under "The Exchange Offer--Book Entry
Transfer," to tender in the Exchange Offer a holder must complete, sign and
date the Letter of Transmittal, or a copy thereof, have the signatures thereon
guaranteed if required by the Letter of Transmittal, and mail or otherwise
deliver the Letter of Transmittal or copy to the Exchange Agent for receipt
prior to 5:00 p.m. on the Expiration Date. In addition, either (i) certificates
for such Old Notes must be received by the Exchange Agent along with the Letter
of Transmittal, (ii) a timely confirmation of a book-entry transfer (a
"Book-Entry Confirmation") of such Old Notes, if that procedure is available,
into the Exchange Agent's account at DTC (the "Book-Entry Transfer Facility")
pursuant to the procedure for book-entry transfer described below, must be
received by the Exchange Agent prior to the Expiration Date, or (iii) the
holder must comply with the guaranteed delivery procedures described below. To
be tendered effectively, the Old Notes, Letter of Transmittal and other
required documents must be received by the Exchange Agent at the address set
forth under "The Exchange Offer --Exchange Agent" prior to 5:00 p.m. on the
Expiration Date.

The tender by a holder that is not withdrawn before the Expiration Date
will constitute an agreement between that holder and the Company in accordance
with the terms and subject to the conditions set forth herein and in the Letter
of Transmittal.

THE METHOD OF DELIVERY OF OLD NOTES AND THE LETTER OF TRANSMITTAL AND ALL
OTHER REQUIRED DOCUMENTS TO THE EXCHANGE AGENT IS AT THE ELECTION AND RISK OF
THE HOLDER. INSTEAD OF DELIVERY BY MAIL, IT IS RECOMMENDED THAT HOLDERS USE AN
OVERNIGHT OR HAND DELIVERY SERVICE. IN ALL CASES, SUFFICIENT TIME SHOULD BE
ALLOWED TO ASSURE DELIVERY TO THE EXCHANGE AGENT BEFORE 5:00 P.M. ON THE
EXPIRATION DATE AND PROPER INSURANCE SHOULD BE OBTAINED. NO LETTER OF
TRANSMITTAL OR OLD NOTES SHOULD BE SENT TO THE COMPANY. HOLDERS MAY REQUEST
THEIR RESPECTIVE BROKERS, DEALERS, COMMERCIAL BANKS, TRUST COMPANIES, OR
NOMINEES TO EFFECT THESE TRANSACTIONS FOR SUCH HOLDERS.

Any beneficial owner whose Old Notes are registered in the name of a
broker, dealer, commercial bank, trust company, or other nominee and who wishes
to tender should contact the registered holder promptly and instruct the
registered holder to tender on the beneficial owner's behalf. If the
beneficial owner wishes to tender on its own behalf, such owner must, prior to
completing and executing the Letter of Transmittal and delivering the owner's
Old Notes, either make appropriate arrangements to register ownership of the
Old Notes in the beneficial owner's name or obtain a properly completed bond
power from the registered holder. The transfer of registered ownership may take
considerable time.

Signatures on a Letter of Transmittal or a notice of withdrawal, as the
case may be, must be guaranteed by an Eligible Institution (as defined herein)
unless the Old Notes tendered pursuant thereto are tendered (i) by a registered
holder who has not completed the box titled "Special Registration Instructions"
or "Special Delivery Instructions" on the Letter of Transmittal or (ii) for the
account of an Eligible Institution. If signatures on a Letter of Transmittal or
a notice of withdrawal, as the case may be, are required to be guaranteed, the
guarantee must be by any eligible guarantor institution that is a member of or
participant in the Securities Transfer Agents Medallion Program, the New

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<PAGE> 26
York Stock Exchange Medallion Signature Program or the Stock Exchange Medallion
Program (an "Eligible Institution").

If the Letter of Transmittal is signed by a person other than the
registered holder of any Old Notes listed therein, such Old Notes must be
endorsed or accompanied by a properly completed bond power, signed by the
registered holder as that registered holder's name appears on the Old Notes
with the signature thereon guaranteed by an Eligible Institution.

If the Letter of Transmittal or any Old Notes or bond powers are signed by
trustees, executors, administrators, guardians, attorneys-in-fact, officers of
corporations, or others acting in a fiduciary or representative capacity, such
persons should so indicate when signing, and evidence satisfactory to the
Company of their authority to so act must be submitted with the Letter of
Transmittal unless waived by the Company.

All questions as to the validity, form, eligibility (including time of
receipt), acceptance and withdrawal of tendered Old Notes will be determined by
the Company in its sole discretion, which determination will be final and
binding. The Company reserves the absolute right to reject any and all Old
Notes not properly tendered or any Old Notes the Company's acceptance of which
would, in the opinion of counsel for the Company, be unlawful. The Company also
reserves the right to waive any defects, irregularities or conditions of tender
as to particular Old Notes. The Company's interpretation of the terms and
conditions of the Exchange Offer (including the instructions in the Letter of
Transmittal) will be final and binding on all parties. Unless waived, any
defects or irregularities in connection with tenders of Old Notes must be cured
within such time as the Company shall determine. Although the Company intends
to notify holders of defects or irregularities with respect to tenders of Old
Notes, neither the Company, the Exchange Agent nor any other person shall incur
any liability for failure to give such notification. Tenders of Old Notes will
not be deemed to have been made until such defects or irregularities have been
cured or waived. Any Old Notes received by the Exchange Agent that the Company
determines are not properly tendered and as to which the defects or
irregularities have not been cured or waived will be returned by the Exchange
Agent to the tendering holders, unless otherwise provided in the Letter of
Transmittal, as soon as practicable following the Expiration Date.

In addition, the Company reserves the right in its sole discretion to
purchase or make offers for any Old Notes that remain outstanding after the
Expiration Date or, as set forth under "The Exchange Offer--Conditions," to
terminate the Exchange Offer and, to the extent permitted by applicable law,
purchase Old Notes in the open market, in privately negotiated transactions or
otherwise. The terms of any such purchases or offers could differ from the
terms of the Exchange Offer.

By tendering, each holder will represent to the Company that, among other
things, (i) the New Notes acquired pursuant to the Exchange Offer are being
acquired in the ordinary course of business of the person receiving such New
Notes, whether or not such person is the holder, (ii) if it is not a
broker-dealer, neither the holder nor any such other person is engaging in or
intends to engage in a distribution of such New Notes nor has an arrangement or
understanding with any person to participate in the distribution of such New
Notes, and (iii) neither the holder nor any such other person is an "affiliate"
(as defined under Rule 405 of the Securities Act) of the Company. Each
broker-dealer that receives New Notes for its own account in exchange for Old
Notes, where such Old Notes were acquired by such broker-dealer as a result of
market-making activities or other trading activities (other than Old Notes
acquired directly from the Company), may participate in the Exchange Offer but
may be deemed an "underwriter" under the Securities Act and, therefore, must
acknowledge in the Letter of Transmittal that it will deliver a prospectus in
connection with any resale of such New Notes. The Letter of Transmittal states
that, by so acknowledging and by delivering a prospectus, a broker-dealer will
not be deemed to admit that it is an "underwriter" within the meaning of the
Securities Act. See "Plan of Distribution."

In all cases, issuance of New Notes for Old Notes that are accepted for
exchange pursuant to the Exchange Offer will be made only after timely receipt
by the Exchange Agent of certificates for such Old Notes or a timely Book-Entry
Confirmation of such Old Notes into the Exchange Agent's account at the
Book-Entry Transfer Facility, a properly completed and duly executed Letter of
Transmittal (or, with respect to the DTC and its participants, electronic
instructions in which the tendering holder acknowledges its receipt of and
agreement to be bound by the Letter of Transmittal), and all other required
documents. If any tendered Old Notes are submitted for a greater principal
amount than the holder desires to exchange, such unaccepted or non-exchanged
Old Notes will be returned without expense to the tendering holder thereof (or,
in the case of Old Notes tendered by book-entry transfer into the Exchange
Agent's account at the Book-Entry Transfer Facility pursuant to the book-entry
transfer procedures described below, such non-exchanged Old Notes will be
credited to an account maintained with such Book-Entry Transfer Facility) as
promptly as practicable after the expiration of the Exchange Offer.

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BOOK-ENTRY TRANSFER

The Exchange Agent will make a request to establish an account with respect
to the Old Notes at the Book-Entry Transfer Facility for purposes of the
Exchange Offer within two business days after the date of this Prospectus, and
any financial institution that is a participant in the Book-Entry Transfer
Facility system may make book-entry delivery of Old Notes being tendered by
causing the Book-Entry Transfer Facility to transfer such Old Notes into the
Exchange Agent's account at the Book-Entry Transfer Facility in accordance with
such Book-Entry Transfer Facility's procedures for transfer. However, although
delivery of Old Notes may be effected through book-entry transfer at the
Book-Entry Transfer Facility, the Letter of Transmittal or copy thereof, with
any required signature guarantees and any other required documents, must, in
any case other than as set forth in the following paragraph, be transmitted to
and received by the Exchange Agent at the address set forth under "The Exchange
Offer--Exchange Agent" on or prior to the Expiration Date or the guaranteed
delivery procedures described below must be complied with.

The DTC's Automated Tender Offer Program ("ATOP") is the only method of
processing exchange offers through the DTC. To accept the Exchange Offer
through ATOP, participants in the DTC must send electronic instructions to the
DTC through the DTC's communication system in lieu of sending a signed, hard
copy Letter of Transmittal. The DTC is obligated to communicate those
electronic instructions to the Exchange Agent. To tender Old Notes through
ATOP, the electronic instructions sent to the DTC and transmitted by the DTC to
the Exchange Agent must contain the character by which the participant
acknowledges its receipt of and agrees to be bound by the Letter of
Transmittal.

GUARANTEED DELIVERY PROCEDURES

If a registered holder of the Old Notes desires to tender such Old Notes
and the Old Notes are not immediately available, or time will not permit such
holder's Old Notes or other required documents to reach the Exchange Agent
before the Expiration Date, or the procedure for book-entry transfer cannot be
completed on a timely basis, a tender may be effected if (i) the tender is made
through an Eligible Institution, (ii) prior to the Expiration Date, the
Exchange Agent received from such Eligible Institution a properly completed and
duly executed Letter of Transmittal (or a facsimile thereof) and Notice of
Guaranteed Delivery, substantially in the form provided by the Company (by
telegram, telex, facsimile transmission, mail or hand delivery), setting forth
the name and address of the holder of Old Notes and the amount of Old Notes
tendered, stating that the tender is being made thereby and guaranteeing that
within three New York Stock Exchange ("NYSE") trading days after the date of
execution of the Notice of Guaranteed Delivery, the certificates for all
physically tendered Old Notes, in proper form for transfer, or a Book-Entry
Confirmation, as the case may be, and any other documents required by the
Letter of Transmittal will be deposited by the Eligible Institution with the
Exchange Agent, and (iii) the certificates for all physically tendered Old
Notes, in proper form for transfer, or a Book-Entry Confirmation, as the case
may be, and all other documents required by the Letter of Transmittal, are
received by the Exchange Agent within three NYSE trading days after the date of
execution of the Notice of Guaranteed Delivery. Upon request to the Exchange
Agent, a Notice of Guaranteed Delivery will be sent to holders who wish to
tender their Old Notes according to the guaranteed delivery procedures set
forth above.

WITHDRAWAL RIGHTS

Tenders of Old Notes may be withdrawn at any time prior to 5:00 p.m., New
York City time, on the Expiration Date.

For a withdrawal of a tender of Old Notes to be effective, a written or
(for DTC participants only) electronic ATOP transmission notice of withdrawal
must be received by the Exchange Agent at its address set forth herein prior to
5:00 p.m., New York City time, on the Expiration Date. Any such notice of
withdrawal must (i) specify the name of the person having deposited the Old
Notes to be withdrawn (the "Depositor"), (ii) identify the Old Notes to be
withdrawn (including the certificate number or numbers and principal amount of
such Old Notes), (iii) be signed by the holder in the same manner as the
original signature on the Letter of Transmittal by which such Old Notes were
tendered (including any required signature guarantees) or be accompanied by
documents of transfer sufficient to have the Trustee with respect to the Old
Notes register the transfer of such Old Notes into the name of the person
withdrawing the tender, and (iv) specify the name in which any such Old Notes
are to be registered, if different from that of the Depositor. All questions as
to the validity, form and eligibility (including time of receipt) of such
notices will be determined by the Company, in its sole discretion, whose
determination shall be final and binding on all parties. Any Old Notes so
withdrawn will be deemed not to have been validly tendered for exchange for
purposes of the Exchange Offer. Any Old Notes which have been tendered for
exchange but which are not exchanged for any reason will be returned to the
holder thereof without cost to such holder as soon as practicable after
withdrawal, rejection of tender or termination of the Exchange Offer. Properly
withdrawn Old Notes may be retendered by

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<PAGE> 28
following one of the procedures described under "The Exchange Offer--Procedures
for Tendering" at any time on or prior to the Expiration Date.

CONDITIONS

Notwithstanding any other term of the Exchange Offer, the Company shall not
be required to accept for exchange, or exchange New Notes for, any Old Notes,
and may terminate the Exchange Offer as provided herein before the acceptance
of such Old Notes, if (i) the Exchange Offer shall violate applicable law or
any applicable interpretation of the staff of the Commission, (ii) any action
or proceeding is instituted or threatened in any court or by any governmental
agency that might materially impair the ability of the Company to proceed with
the Exchange Offer or any material adverse development has occurred in any
existing action or proceeding with respect to the Company, or (iii) any
governmental approval has not been obtained, which approval the Company shall
deem necessary for the consummation of the Exchange Offer. If the Company
determines in its sole discretion that any of the conditions are not satisfied,
the Company may (i) refuse to accept any Old Notes and return all tendered Old
Notes to the tendering holders (or, in the case of Old Notes tendered by
book-entry transfer into the Exchange Agent's account at the Book-Entry Transfer
Facility pursuant to the book-entry transfer procedures described above, such
Old Notes will be credited to an account maintained with such Book-Entry
Transfer Facility), (ii) extend the Exchange Offer and retain all Old Notes
tendered prior to the expiration of the Exchange Offer, subject, however, to the
rights of holders to withdraw such Old Notes (see "--Withdrawal Rights") or
(iii) waive such unsatisfied conditions with respect to the Exchange Offer and
accept all properly tendered Old Notes which have not been withdrawn. If such
waiver constitutes a material change to the Exchange Offer, the Company will
promptly disclose such waiver by means of a prospectus supplement that will be
distributed to the registered holders, and the Company will extend the Exchange
Offer for a period of five to ten business days, depending upon the significance
of the waiver and the manner of disclosure to the registered holders, if the
Exchange Offer would otherwise expire during such five-to-ten-business-day
period.

EXCHANGE AGENT

All executed Letters of Transmittal should be directed to the Exchange
Agent. State Street Bank and Trust Company has been appointed as Exchange
Agent for the Exchange Offer. Questions, requests for assistance and requests
for additional copies of this Prospectus or of the Letter of Transmittal should
be directed to the Exchange Agent addressed as follows:

By Registered or Certified Mail:

State Street Bank and Trust Company
Corporate Trust Administration
225 Asylum Street, 23rd Floor
Hartford, Connecticut 06103

By Overnight Courier:

State Street Bank and Trust Company
Corporate Trust Administration
225 Asylum Street, 23rd Floor
Hartford, Connecticut 06103

By Hand:

State Street Bank and Trust Company
Corporate Trust Administration
225 Asylum Street, 23rd Floor
Hartford, Connecticut 06103

By Facsimile:

State Street Bank and Trust Company
Corporate Trust Administration
(860) 244-1889
Confirm by Telephone: (860) 244-1820

-24-
<PAGE> 29
SOLICITATIONS OF TENDERS; FEES AND EXPENSES

The expenses of soliciting acceptances to the Exchange Offer will be borne
by the Company. The principal solicitation is being made by mail; however,
additional solicitations may be made in person or by telephone by officers and
employees of the Company. The Company has not retained any dealer-manager or
similar agent in connection with the Exchange Offer and will not make any
payments to brokers, dealers or others soliciting acceptances of the Exchange
Offer. The Company, however, will pay the Exchange Agent reasonable and
customary fees for its services and will reimburse it for its reasonable
out-of-pocket expenses in connection therewith. Other cash expenses to be
incurred in connection with the Exchange Offer and to be paid by the Company
include registration, accounting and legal fees and printing costs, among
others.

ACCOUNTING TREATMENT

For accounting purposes, the Company will recognize no gain or loss as a
result of the Exchange Offer. The expenses of the Exchange Offer will be
amortized over the term of the New Notes.

TRANSFER TAXES

Holders who tender their Old Notes for exchange will not be obligated to
pay any transfer taxes in connection therewith, except that holders who
instruct the Company to register New Notes in the name of, or request that Old
Notes not tendered or not accepted in the Exchange Offer be returned to, a
person other than the registered tendering holder will be responsible for the
payment of any applicable transfer tax thereon.

USE OF PROCEEDS

There will be no cash proceeds to the Company from the Exchange Offer.

The net proceeds to the Company from the sale of the Old Notes (after
deduction of discount, fees and other expenses associated with such sale) were
approximately $127.8 million. Approximately $45.8 million of the net proceeds
were used to repay short-term acquisition indebtedness incurred by the Company
to pay the cash portion of the purchase price of the Enron Acquisition. This
short-term indebtedness was repaid on April 2, 1998 and bore interest at the
rate of 8% per annum. (The cash portion of the purchase price for the Enron
Acquisition as provided in the purchase and sale agreement was $48.5 million,
but was reduced to $45.8 million as a result of certain closing adjustments,
including amounts of net production accrued to the seller's account since
January 1, 1998, the effective date of the Enron Acquisition.) Approximately
$22.5 million of the net proceeds were used to fund the Conoco Acquisition (the
purchase price of the Conoco Acquisition as provided in the purchase and sale
agreement was $23.3 million, but was reduced to $22.5 million as a result of
similar closing adjustments). Approximately $39.0 million of the net proceeds
were used to (i) repay indebtedness under a credit facility with Triassic Energy
Partners, L.P. (the "T.E.P. Financing") incurred in connection with the
acquisition by the Company in August 1996 of interests in approximately 21,000
developed and undeveloped acres in the Lobo Trend (the "Lobo Properties") for
approximately $15.3 million net to the Company (the "1996 Lobo Acquisition") and
(ii) acquire a Net Profits Interest from an affiliate of Triassic Energy
Partners, L.P. Interest on the borrowings under the T.E.P. Financing accrued at
a weighted average stated interest rate of approximately 12.8% per annum as of
March 27, 1998. On April 20, 1998, the Company entered into the Lobo Lease with
Mobil effective as of January 1, 1998 covering Mobil's interest in 39,636 acres
in the Lobo Trend. Partial consideration for the Lobo Lease is in the form of
future deliveries of 4 Bcf of gas, commencing May 1, 1998 and terminating
December 31, 1998. On April 23, 1998, the Company entered into a contract to
secure delivery of this volume of gas for consideration of $9.98 million. The
remainder of the net proceeds from the sale of the Old Notes will be used for
general corporate purposes, including development, drilling and exploitation
activities and property acquisitions. Although the Company is continually
evaluating and pursuing potential property acquisitions, the Company has no
material commitments, contracts, understandings or arrangements at the present
time with respect to any particular acquisition. The allocation of the Company's
net proceeds from the sale of the Old Notes, together with other available
capital, for general corporate purposes, including development, drilling and
exploitation activities and future property acquisitions, is discretionary and
will depend upon future events that cannot be predicted, including the actual
results and costs of future development and exploration drilling and other
activities, the availability and cost of oil and natural gas properties meeting
the Company's acquisition criteria and other matters beyond the control of the
Company. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources."

Until the net proceeds from the sale of the Old Notes are utilized for
purposes described above, they will be invested in interest-bearing bank
accounts, U.S. government securities, other investment grade debt securities
and other short-term, interest-bearing investments.

-25-
<PAGE> 30
CAPITALIZATION

The following table sets forth the Company's capitalization as of March 31,
1998 on an historical basis and on a pro forma basis. This information should be
read in conjunction with the Financial Statements of the Company and the Notes
thereto, the Unaudited Pro Forma Financial Statements of the Company and the
Notes thereto, and "Management's Discussion and Analysis of Financial Condition
and Results of Operations" included elsewhere in this Prospectus.

<TABLE>
<CAPTION>
AS OF MARCH 31, 1998
------------------------------
ACTUAL PRO FORMA(1)
------ ------------
(IN THOUSANDS)
<S> <C> <C>
Current portion of long-term debt . . . . . . . . . . . . . . . . . . . . . . . $ 7,326 $ --
======= ========
Long-term debt
T.E.P. Financing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $19,769 $ --
Credit Facility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- --
Senior Notes due 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 132,636
------- --------
Total long-term debt . . . . . . . . . . . . . . . . . . . . . . . . 19,769 132,636
------- --------
Shareholders' deficit:
Preferred stock, $0.10 par value; 50,000,000 shares authorized;
no shares issued . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- --
-- --
Common stock, $0.10 par value; 100,000,000 shares authorized;
10,000 shares issued . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 1
Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . . . . 610 610
Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (2,330) (3,995)
------- --------
Total shareholder's deficit . . . . . . . . . . . . . . . . . . . . . (1,719) (3,384)
------- --------
Total capitalization . . . . . . . . . . . . . . . . . . . . . . . . $18,050 $129,252
======= ========
</TABLE>

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

(1) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
March 31, 1998.

-26-
<PAGE> 31
SELECTED HISTORICAL AND PRO FORMA FINANCIAL, OPERATING
AND OIL AND NATURAL GAS RESERVE INFORMATION

The following tables set forth selected financial data (i) on an historical
basis for and as of the end of each of the years in the five-year period ended
December 31, 1997, and on a pro forma basis for the year ended December 31, 1997
and (ii) on an historical basis for the three month periods ended, and as of,
March 31, 1997 and 1998, and on a pro forma basis for the three months ended,
and as of, March 31, 1998. The historical financial data for the year ended, and
as of, December 31, 1997 have been derived from the audited Financial Statements
of the Company. The historical financial data for the three-month periods ended
March 31, 1997 and 1998 are derived from unaudited Financial Statements of the
Company but include all adjustments,consisting of normal recurring adjustments,
that the Company considers necessary for a fair presentation of its financial
position and results of operations for these periods. The results for the three
months ended March 31, 1998 are not necessarily indicative of the results for
the full year. The pro forma financial, operating and oil and natural gas
reserve data are not necessarily indicative of the operating results or
financial position that would have been achieved had the transactions to which
they give pro forma effect been effective at the date or during the period
presented or of the results that may be obtained in the future. This information
should be read in conjunction with "Management's Discussion and Analysis of
Financial Condition and Results of Operations," the Company's Financial
Statements and the Notes thereto, the Statement of Revenues and Direct Operating
Expenses and the Notes thereto for the Enron Properties, the Conoco Properties
and the Lobo Properties and the Company's Unaudited Pro Forma Financial
Statements and the Notes thereto included elsewhere in the Prospectus.

THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
----------------------- -----------------------
PRO PRO
FORMA FORMA
1993 1994 1995 1996 1997 1997(1) 1997 1998 1998(2)
---- ---- ---- ---- ---- ------- ---- ---- -------
(IN THOUSANDS, EXCEPT FOR RATIOS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Oil and natural gas sales... $ 4,604 $ 3,429 $ 2,109 $ 3,594 $ 9,139 $31,209 $ 1,850 $ 3,260 $ 7,155
Gain on sale of oil and
natural gas properties... 2,979 163 828 182 -- -- -- -- --
-------- -------- -------- -------- ------- ------- ------- ------- -------
7,583 3,592 2,937 3,776 9,139 31,209 1,850 3,260 7,155
-------- -------- -------- -------- ------- ------- ------- ------- -------
Operating expenses:
Production costs ........... 1,703 1,542 1,228 1,931 1,870 5,115 426 475 1,204
Depreciation, depletion and
amortization............. 1,261 1,308 1,272 1,180 3,889 10,597 986 1,349 2,255
Exploration................. 148 690 850 46 333 333 28 -- --
General and administrative.. 750 735 763 424 980 980 159 261 261
-------- -------- -------- -------- ------ ------- ------- ------- -------
3,862 4,275 4,113 3,581 7,072 17,025 1,599 2,085 3,720
-------- -------- -------- -------- ------- ------- ------- ------- -------
Operating income (loss)........ 3,721 (683) (1,176) 195 2,067 14,184 251 1,175 3,435
Interest expense and other,
net.......................... (890) (249) (1,017) (894) (2,063) (16,438) (356) (874) (4,155)
Income (loss) from continuing
operations before income
taxes........................ 2,831 (932) (2,193) (699) 4 (2,254) (105) 301 (720)
Provision (benefit) for
income taxes (10)............ 49 (79) (79) 1,780 11 (789) (37) 105 (252)
-------- -------- -------- -------- ------- ------- ------- ------- -------
Income (loss) from continuing
operations................... 2,782 (853) (2,114) (2,479) (7) (1,465) (68) 196 (468)
-------- -------- -------- -------- ------- ------- ------- ------- -------
Discontinued operations........ (30) (719) 2,087 -- -- -- -- -- --
-------- -------- -------- -------- ------- ------- ------- ------- -------
Net income (loss).... $ 2,752 $ (1,572) $ (27) $ (2,479) $ (7) $(1,465) $ (68) $ 196 $ (468)
======== ======== ======== ======== ======== ======= ======= ======= =======
OTHER FINANCIAL DATA:
EBITDA(3)...................... $ 2,151 $ 1,152 $ 118 $ 1,239 $ 6,289 $25,114 $ 1,265 $ 2,524 $ 5,690
Cash provided by (used in)
operating activities......... 208 (835) (2,339) 848 3,466 -- (66) 3,387 --
Cash provided by (used in)
investing activities......... 726 (3,245) 1,291 (14,753) (14,963) -- (801) (2,093) --
Cash (used in) provided by
financing activities......... (2,629) 3,248 1,365 14,750 11,098 -- 329 (1,419) --
Ratio of earnings to fixed
charges ..................... 3.0x (4) (4) (4) (4) (4) (4) 1.2x (4)
======== ======== ======== ======== ======== ======= ======= ======= =======
Pro Forma Ratios:
Ratio of EBITDA to
interest expense .......... 2.4x 4.6x 0.1x 1.4x 3.1x 1.5x 3.6x 2.9x 1.4x
Ratio of total debt to
EBITDA .................... 1.6x 5.9x 58.4x 13.5x 4.4x 5.3x 14.0x 28.9x 23.3x
</TABLE>

-27-
<PAGE> 32

<TABLE>
<CAPTION>
AS OF DECEMBER 31, AS OF MARCH 31,
------------------ ---------------
PRO FORMA
1993 1994 1995 1996 1997 1998 1998(5)
---- ---- ---- ---- ---- ---- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Current assets . . . . . . . . . . . . $ 2,615 $ 1,611 $1,241 $ 4,375 $ 5,255 $ 4,338 $ 25,318
Oil and gas properties, net . . . . . . 7,834 9,176 7,890 16,208 28,011 74,596 118,096
Total assets . . . . . . . . . . . . . 11,365 11,461 9,145 21,001 33,617 79,710 148,677
Long-term debt . . . . . . . . . . . . 2,835 6,694 6,372 11,784 19,885 19,769 132,636
Shareholder's equity
(deficit) . . . . . . . . . . . . . . 2,683 1,111 423 (1,908) (1,915) (1,719) (3,384)
ACNTA(6) . . . . . . . . . . . . . . . -- -- 19,426 59,532 44,133 -- --
Ratio of ACNTA to total debt . . . . . -- -- 2.8x 3.6x 1.6x -- --
</TABLE>

<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------
PRO FORMA
1995 1996 1997 1997(5)
---- ---- ---- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
RESERVE DATA:(7)
Proved reserves:
Oil (MBbls) . . . . . . . . . . . . . . . . . . . . . . . 2,260 239 265 5,445
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . 5,909 49,246 51,165 158,698
Total proved reserves (Mmcfe) . . . . . . . . . . . . . . 19,469 50,678 52,754 191,368
% Natural gas . . . . . . . . . . . . . . . . . . . . . . 30.4% 97.2% 97.0% 82.9%
Proved developed reserves (Mmcfe) . . . . . . . . . . . . 6,761 17,398 23,585 56,682
% Proved developed . . . . . . . . . . . . . . . . . . . 34.7% 34.3% 44.7% 29.6%
Estimated future net cash flows before income
taxes . . . . . . . . . . . . . . . . . . . . . . . . . . $27,808 $94,199 $78,245 $ 318,132
PV-10 Value(8) . . . . . . . . . . . . . . . . . . . . . . 18,511 60,727 51,487 203,204
</TABLE>

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
----------------------- ------------------
PRO FORMA PRO FORMA
1995 1996 1997 1997(1) 1997 1998 1998(2)
---- ---- ---- ------- ---- ---- -------
<S> <C> <C> <C> <C> <C> <C> <C>
OPERATING DATA:(7)
Production:
Oil (MBbls) . . . . . . . . . . . . . . . . . . . . . . . 79 37 21 209 4 12 53
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . 430 1,324 3,685 11,676 725 1,487 3,106
Natural gas equivalent (Mmcfe) . . . . . . . . . . . . . 904 1,546 3,811 12,930 749 1,559 3,426
Average sales prices:(9)
Oil, condensate and natural gas liquids (per
Bbl) . . . . . . . . . . . . . . . . . . . . . . . . . $17.65 $ 20.05 $18.95 $ 13.42 $ 21.16 $ 14.23 $ 10.91
Natural gas (per Mcf) . . . . . . . . . . . . . . . . . . 1.67 2.15 2.33 2.42 2.44 2.07 2.12
Natural gas equivalent (per Mcfe) . . . . . . . . . . . . 2.33 2.32 2.35 2.41 2.47 2.09 2.09
Unit economics (per Mcfe):
Average sales price . . . . . . . . . . . . . . . . . . . $ 2.33 $ 2.32 $ 2.35 $ 2.41 $ 2.47 $ 2.09 $ 2.09
Production expenses . . . . . . . . . . . . . . . . . . . (1.36) (1.25) (0.49) (0.40) (0.57) (0.30) (0.35)
General and administrative expenses . . . . . . . . . . . (0.84) (0.27) (0.26) (0.08) (0.21) (0.17) (0.08)
------ ------- ------ -------- -------- -------- --------
Gross margin . . . . . . . . . . . . . . . . . . $ 0.13 $ 0.80 $ 1.60 $ 1.93 $ 1.69 $ 1.62 $ 1.66
====== ======= ====== ======== ======== ======== ========
</TABLE>

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

(1) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
January 1, 1997.

(2) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
January 1, 1998.

(3) EBITDA is defined as earnings (excluding gain on sale of oil and natural
gas properties) before interest expense, income taxes, depreciation,
depletion and amortization and exploration expense. EBITDA is not a measure
of cash flow as determined by GAAP. EBITDA should not be considered as an
alternative to, or more meaningful than, net income or cash flow as
determined in accordance with GAAP or as an indicator of a company's
operating performance or liquidity. Certain items excluded from EBITDA are
significant components in understanding and assessing a company's financial
performance, such as a company's cost of capital and tax structure, as well
as historic costs of depreciable assets, none of which are components of
EBITDA. The Company's computation of EBITDA may not be comparable to other
similarly titled measures of other companies. The Company believes that
EBITDA is a widely followed measure of operating performance and may also
be used by investors to measure the Company's ability to meet future debt
service requirements, if any. This

-28-
<PAGE> 33
information should be read in conjunction with the Statement of Cash Flows
contained in the Financial Statements of the Company and the Notes thereto
included elsewhere in this Prospectus.

(4) Earnings were insufficient to cover fixed charges by (i) $1,150,000,
$2,193,000, $916,000 and $570,000 for the historical years ended December
31, 1994, 1995, 1996 and 1997, respectively, and $2,828,000 for the pro
forma year ended December 31, 1997 and (ii) $235,000 for the historical
three month period ended March 31, 1997 and $802,000 for the pro forma
three month period ended March 31, 1998. For purposes of computing the
ratio of earnings to fixed charges, earnings consist of earnings before
income taxes plus fixed charges. Fixed charges consist of interest and
related expenses and an estimated portion of rentals representing interest
costs.

(5) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
March 31, 1998, except for Reserve Data which is as of December 31, 1997.

(6) ACNTA means Adjusted Consolidated Net Tangible Assets as defined in the
Indenture. See "Description of Notes -- Certain Definitions."

(7) The reserve and present value data as of December 31, 1996 and 1997
(historical and pro forma) have been prepared by Huddleston & Co., Inc.,
independent petroleum engineers to the Company. The reserve and present
value data as of December 31, 1995 was prepared by Mohajir & Associates,
Inc., independent petroleum engineers to the Company. See "Risk Factors --
Uncertainty of Estimates of Reserves and Future Net Reserves," and
"Supplemental Information about Oil and Natural Gas Producing Activities
(Unaudited)" following the Notes to the Financial Statements of the
Company.

(8) PV-10 Value represents the present value of estimated future net revenues
before income tax discounted at 10% using prices in effect at the end of
the respective periods presented and including the effects of hedging
activities. In accordance with applicable requirements of the SEC,
estimates of the Company's proved reserves and future net revenues are made
using oil and natural gas sales prices estimated to be in effect as of the
date of such reserve estimates and are held constant throughout the life of
the properties (except to the extent a contract specifically provides for
escalation). The average prices used in calculating historical PV-10 Value
as of December 31, 1997 were $15.91 per Bbl of oil and $2.42 per Mcf of
natural gas, compared to average prices used as of December 31, 1996 of
$23.86 per Bbl of oil and $2.76 per Mcf of natural gas. The average prices
used in calculating the pro forma PV-10 Value as of December 31, 1997 were
$13.71 per Bbl of oil and $2.46 per Mcf of natural gas. Average prices at
April 30, 1998 were $12.34 per Bbl of oil and $2.38 per Mcf of natural gas.

(9) Reflects the actual realized prices received by the Company, including the
results of the Company's hedging activities. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations."

(10) Through June 30, 1996, the Company was taxed under the provisions of
"Subchapter S" of the Internal Revenue Code. Accordingly, no provision for
federal income taxes was recorded for periods ending prior to June 30,
1996.

-29-
<PAGE> 34
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with
"Selected Historical and Pro Forma Financial, Operating and Oil and Natural Gas
Reserve Information," the Financial Statements of the Company and the Notes
thereto and the Unaudited Pro Forma Financial Statements of the Company and the
Notes thereto included elsewhere in this Prospectus.

GENERAL

The Company is an independent energy company engaged in the acquisition,
exploitation and development of oil and natural gas properties, principally in
the Lobo Trend of South Texas. The Company began operations in 1983 and, since
its inception, has demonstrated growth in reserves and production as a result
of acquisitions and successful drilling and development of its oil and natural
gas properties. In August 1996, the Company acquired interests in approximately
21,000 developed and undeveloped acres in the Lobo Trend for approximately
$15.3 million. In 1997, the Company participated in the drilling of 19 natural
gas wells, completing 15 capable of commercial production (a success rate of
79%). In March and April 1998, the Company completed the Transactions. See
"Business and Properties--The Transactions."

The Company will continue to utilize its technical staff and technological
advances to seek to increase its oil and natural gas reserves, production and
cash flow from operations through a development program coupled with strategic
property acquisitions. The Company has in-house exploration expertise using 3-D
seismic technology to identify new drilling opportunities as well as for the
development of acquired properties.

Through the periods presented, the Company's results of operations reflect
two tax structures (S corporations and C corporations) which have influenced,
among other things, the historical levels of its owners' compensation.
Effective July 1, 1996, the Company changed its tax filing status from an S
corporation to a C corporation. Due to this change, the Company recognized a
one-time charge of approximately $2.0 million to reflect deferred income taxes
payable as of June 30, 1996.

The Company utilizes the "successful efforts" method of accounting for its
oil and natural gas activities as described in Note 1 of Notes to Financial
Statements of the Company.

RESULTS OF OPERATIONS

The following table summarizes production volumes, average sales prices and
operating revenues for the Company's oil and natural gas operations for the
years ended December 31, 1995, 1996 and 1997 and for the three month periods
ended March 31,1997 and 1998:

<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED DECEMBER 31 ENDED MARCH 31
---------------------- --------------
1995 1996 1997 1997 1998
---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS,
EXCEPT PER UNIT DATA)
<S> <C> <C> <C> <C> <C>
Production volumes
Oil and condensate (MBbls) . . . . . . . . . . . . . . . . 79 37 21 4 12
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . . 430 1,324 3,685 725 1,487
Average sales prices
Oil and condensate (per Bbl) . . . . . . . . . . . . . . . $ 17.65 $ 20.05 $ 18.95 $ 21.16 $ 14.23
Natural gas (per Mcf) . . . . . . . . . . . . . . . . . . . 1.67 2.15 2.33 2.44 2.07
Operating revenues
Oil and condensate . . . . . . . . . . . . . . . . . . . . $ 1,394 $ 742 $ 565 $ 84 $ 176
Natural gas(1) . . . . . . . . . . . . . . . . . . . . . . 715 2,852 8,574 1,766 3,084
------- ------- ------- ------- -------
Total . . . . . . . . . . . . . . . . . . . . . . . $ 2,109 $ 3,594 $ 9,139 $ 1,850 $ 3,260
======= ======= ======= ======= =======
</TABLE>

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

(1) Net of losses on hedging activities in 1996 and 1997 and for the first
three months of 1998.

COMPARISON OF THREE MONTH PERIODS ENDED MARCH 31, 1998 AND 1997

Oil and natural gas revenues for the three months ended March 31, 1998
increased 76% to $3.26 million from $1.85 million for the three months ended
March 31, 1997. Production volumes for natural gas for the first quarter ended
March 31, 1998 increased 105% to 1,487 Mmcf from 725 Mmcf for the first quarter
of 1997. Average natural gas prices decreased 15% to $2.07 per Mcf for 1998
from $2.44 per Mcf for 1997. The increase in natural gas production in 1998 was
due to new wells resulting from the Company's 1997 drilling program and the
increased production from certain existing wells due to the Company's 1997
workover program.

Oil and natural gas production costs for the three months ended March 31,
1998 increased 12% to $475,000 from $426,000 for the three months ended March
31, 1997, primarily due to the increase in production. However, actual
production costs per equivalent unit decreased to $.30 per Mcfe for the first
quarter ended March 31, 1998 from $.57 per Mcfe for the first quarter ended
March 31, 1997. The decrease on an equivalent basis was due to per unit
reductions in workover costs, the increased production volumes during the first
quarter of 1998 due to placing new wells on line and the Company's 1997
workover program.

Depreciation, depletion and amortization ("DD&A") expense for the three
months ended March 31, 1998 increased 37% to $1.35 million from $986,000 for the
same period in 1997. The increase was due primarily to the increased production
during the first quarter of 1998, but was proportionally less than the
percentage increase in production volumes, due to the fact that a $238,000
impairment charge was taken in the first quarter of 1997, compared with no
corresponding charge in 1998.

General and administrative expense increased 64% due to the addition of
several new employees and their related benefits, plus increases in legal and
professional fees.

Interest expense, net of capitalized interest, for the three months ended
March 31, 1998 increased 141% to $890,000 from $370,000 for the same period in
1997. The increase was due to the higher levels of debt outstanding and higher
prevailing interest rates on the debt outstanding under the T.E.P. Financing,
during the first quarter of 1998 as compared to the first quarter of 1997.

Income tax expense increased to $105,000 for the first three months of 1998,
compared to an income tax benefit of ($37,000) for the first three months of
1997, resulting from the pre-tax income recognized in the first quarter of 1998
compared to the pre-tax net loss in 1997. The effective tax rate for both
periods was 35%.

Net income for the three months ended March 31, 1998 was $196,000 compared
to a loss of $68,000 for the three months ended March 31, 1997, primarily as a
result of the factors discussed above.

COMPARISON OF YEARS ENDED DECEMBER 31, 1997 AND 1996

Oil and natural gas revenues for the year ended December 31, 1997 increased
153% to $9.1 million compared to $3.6 million for 1996. Production volumes for
natural gas during the year ended December 31, 1997 increased 178% to 3,685
Mmcf from 1,324 Mmcf for 1996. Average gas prices increased 8.3% to $2.33 per
Mcf for 1997 from $2.15 per Mcf for 1996. During April 1998, average
natural gas prices were $2.20 per Mmbtu. The increase in

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<PAGE> 35
natural gas production was due to the 1996 Lobo Acquisition and the Company's
workover and drilling program with respect to the properties acquired and
existing properties.

Oil and natural gas production costs for the year ended December 31, 1997
decreased 3% to $1.87 million from $1.93 million for 1996 primarily due to the
sale of the Company's Hull Field oil properties in August 1996 that
historically had incurred much higher lease operating costs than the Company's
average Lobo Trend natural gas wells. Accordingly, production costs per
equivalent unit decreased to $0.49 per Mcfe for 1997 from $1.25 per Mcfe for
1996. The per unit cost decreased as a result of increased production of
natural gas, which has lower per unit operating costs, and the Company's
disposition in August 1996 of oil producing properties having higher operating
costs.

DD&A expense for the year ended December 31, 1997 increased 225% to $3.9
million from $1.2 million for the same period in 1996. This increase was due to
the increased production during 1997.

Exploration expense increased from $46,000 in 1996 to $333,000 in 1997, due
primarily to the expiration of the terms of certain leases that had not been
developed.

General and administrative expense for the year ended December 31, 1997
increased 131% to $980,000 from $424,000 for 1996, primarily as a result of
increases in the number of employees and related benefits, plus increased legal
and professional fees.

Interest expense, net of capitalized interest, for the year ended December
31, 1997 increased 127% to $2.1 million from $924,000 for 1996. This increase
in interest expense was due to increased debt levels in the second half of 1996
and in 1997 resulting from funds borrowed to acquire and develop the Lobo Trend
properties.

The net loss for the year ended December 31, 1997 decreased to $7,000 from
a net loss of $2.5 million for 1996, as a result of the factors described above
and the $2.0 million income tax charge related to the Company's conversion from
an S corporation to a C corporation in 1996.

COMPARISON OF YEARS ENDED DECEMBER 31, 1996 AND 1995

Oil and natural gas revenues for 1996 increased 72% to $3.6 million from
$2.1 million for 1995. Production volumes for natural gas for 1996 increased
208% to 1,324 Mmcf from 430 Mmcf for 1995. Average natural gas prices increased
29% to $2.15 per Mcf for 1996 from $1.67 per Mcf for 1995. The increase in oil
and natural gas production was due to the 1996 Lobo Acquisition and the
Company's subsequent workover and recompletion program with respect to the
properties acquired.

Oil and natural gas production costs for 1996 increased 58% to $1.9 million
from $1.2 million for 1995. Oil and natural gas production costs increased due
to increased production resulting from the 1996 Lobo Acquisition and the
workover and recompletion program with respect to the properties acquired.
Production costs per equivalent unit for 1996 decreased to $1.25 per Mcfe from
$1.36 per Mcfe in 1995. The per unit cost decreased as a result of increased
production of natural gas, which has lower per unit operating costs than oil
producing properties.

DD&A expense for 1996 decreased to $1.2 million from $1.3 million for 1995,
primarily as a result of the disposition in July 1996 of oil producing
properties having a high DD&A rate, which offset increased DD&A expense related
to the Lobo Trend properties.

Exploration expense decreased from $850,000 in 1995 to $46,000 in 1996 due
to the Company's focus on development drilling in the Lobo Trend properties.

General and administrative expense for 1996 decreased 44% to $424,000 from
$763,000 for 1995 due primarily to staff and salary reductions which occurred
in late 1995.

Interest expense, net of capitalized interest, for 1996 decreased 15% to
$924,000 from $1,084,000 for 1995. This decrease was primarily due to increased
capitalized interest in 1996 related to development activity on the Lobo Trend
properties.

The provision for income taxes in 1996 of $1.8 million was composed
primarily of the $2.0 million income tax charge related to the Company's
conversion from an S corporation to a C corporation in 1996.

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<PAGE> 36
The net loss for 1996 increased to $2.5 million from a loss of $27,000 for
1995 primarily as a result of the factors discussed above and as a result of
the decrease in the gain on sale of oil and natural gas properties from 1995 to
1996 and implementation of SFAS 109 upon the Company's conversion from an S
corporation to a C corporation in 1996.

LIQUIDITY AND CAPITAL RESOURCES

First Quarter Liquidity Discussion. Cash flows (used in) provided by
operating activities from the Company's operations were ($66,000) and $3.4
million for the three months ended March 31, 1997 and 1998, respectively. The
increase in operating cash flows for the three months ended March 31, 1998 over
the same period in 1997 was due to increased production, revenue and operating
income as a result of the Company's 1997 drilling and workover programs. Cash
flows from operating activities were negative for the first quarter of 1997
principally due to the Company's net loss for that quarter.

Cash flows used in investing activities by the Company were $801,000 and
$2.1 million for the three months ended March 31, 1997 and 1998, respectively,
and almost exclusively applied to property additions through drilling and
development activities. The increase for the three months ended March 31, 1998
over the same period in 1997 was due to the increased number of new wells
drilled and completed. For the three months ended March 31, 1998, two new wells
were drilled and three wells were completed; only one new well was drilled and
one completed for the same period in 1997.

Cash flows provided by (used in) financing activities were $329,000 and
($1.4 million) for the three months ended March 31, 1997 and 1998,
respectively. The increase in the amount of cash flows used in financing
activities during the first quarter of 1998 was due to higher amounts of
principal repayments of indebtedness compared to amounts of borrowings under
the T.E.P. Financing for the three months ended March 31, 1998; during the
first quarter of 1997, the amounts of borrowings exceeded the amounts of
repayments. Under the terms of the T.E.P. Credit Agreement, principal was
payable as a percentage of net revenue. Accordingly, the principal repayments
increased as a result of the increased revenues for the three months ended
March 31, 1998 compared to the same period in 1997.

Fiscal Years Liquidity Discussion. Cash flows (used in) provided by
operating activities from the Company's operations were ($2.3) million, $848,000
and $3.5 million for the years ended December 31, 1995, 1996 and 1997,
respectively. The increases in 1996 and 1997 were primarily attributable to
increased production resulting from the 1996 Lobo Acquisition. Cash and working
capital in 1998 are and are expected to be provided through internally generated
cash flows, bank borrowings and debt or equity financing.

Cash flows provided by (used in) investing activities by the Company were
$1.3 million, $(14.8) million and ($15.0) million in 1995, 1996 and 1997,
respectively. Property additions through acquisition, exploration and
development activities were the primary reasons for the use of funds in
investing activities. Partially offsetting these uses of funds were proceeds
from sales of oil and natural gas properties and discontinued operations in
1996 and 1995. Cash flows used in investing activities by the Company for 1997
and 1996 resulted primarily from the acquisition and development of the Lobo
Trend properties.

Cash flows provided by the Company's financing activities were $1.4
million, $14.8 million and $11.1 million in 1995, 1996 and 1997, respectively.
In 1996 and 1997, the positive cash flows from financing activities resulted
from the funding under the T.E.P. Financing.

General. The Company's primary sources of liquidity have historically been
provided from funds generated by operations and from borrowings, including under
the T.E.P. Financing. In April 1998, the Company completed the sale of $135.0
million original principal amount of Old Notes. Approximately $28.0 million of
the net proceeds from the sale of the Old Notes was used to repay the
indebtedness outstanding under the T.E.P. Financing. See "Use of Proceeds."
During May 1998, the Company entered into the Credit Facility, as described
below under "--Financing Arrangements."

As of the date of this Prospectus, the Company has $135.0 million in
outstanding senior indebtedness under the Old Notes due April 1, 2005 and no
indebtedness outstanding under the Credit Facility. Under the Credit Facility,
the principal balance outstanding will be due and payable on May 28, 2002. For a
more comprehensive discussion of the Company's indebtedness, including a
description of negative and financial covenants imposed on the Company, see
"--Financing Arrangements" and "Description of the Notes--Certain Covenants."

The Company's revenues, profitability, future growth and ability to borrow
funds and obtain additional capital, and the carrying value of its properties,
are substantially dependent on prevailing prices of oil and natural gas. It is
impossible to predict future oil and natural gas price movements with
certainty. Declines in prices received for oil and natural gas would have an
adverse effect on the Company's financial condition, liquidity, ability to
finance capital expenditures and results of operations. Lower prices would also
impact the amount of reserves that can be produced economically by the Company.

The Company has experienced and expects to continue to experience
substantial working capital requirements primarily due to the Company's
development program. Capital expenditures for 1998 are estimated to be
approximately $24.0 million. Substantially all of the capital expenditures will
be used to fund drilling activities, property acquisitions and 3-D seismic
surveys in the Company's project areas. The Company's plan anticipates drilling
29 gross (25 net) wells in 1998. While the Company believes that the net
proceeds from the sale of the Old Notes, cash flows from operations and
borrowings under the Credit Facility should allow the Company to implement its
present development drilling strategy, additional financing may be required in
the future to fund the Company's further growth through acquisitions of
additional properties. In the event such capital resources are not available to
the Company, its property acquisitions would be curtailed. See "Risk
Factors--Future Need for and Availability of Capital."

FINANCING ARRANGEMENTS

In August 1996, the Company entered into the T.E.P. Financing, which
provided for an aggregate term loan amount of $42.2 million, of which a maximum
of $16.3 million was available for oil and natural gas property acquisitions
and $25.9 million was available for development drilling, subject in each case
to borrowing base limitations. The Company used approximately $28.0 million of
the net proceeds from the sale of the Old Notes to repay all of the outstanding
indebtedness under the T.E.P. Financing.

Under the T.E.P. Financing, principal was due and payable based upon a
percentage of the Company's gross revenues less operating expenses and
allowable general and administrative expenses. At December 31, 1997, the
Company had borrowed and repaid approximately $2.9 million under the T.E.P.
Financing, and $28.4 million in borrowings were outstanding. Indebtedness under
the T.E.P. Financing bore interest at various rates, depending upon total
utilization of the facility and other factors. At March 27, 1998, a portion of
the outstanding indebtedness under the T.E.P. Financing bore interest at the
prime rate of Citibank, N.A. (the "Prime Rate") (which was 8.5%) plus 3%, a
portion bore interest at the Prime Rate plus 7% and a portion bore interest at
the lender's choice of the Prime Rate plus 4% or LIBOR (as defined) plus 6
1/2%. As of March 27, 1998, the weighted average stated interest rate of
outstanding indebtedness under the T.E.P. Financing was 12.8%. The Company's
obligations under the T.E.P. Financing were secured by all of the oil and
natural gas properties of the Company, as well as the stock of the

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<PAGE> 37
Company. The T.E.P. Financing contained financial covenants, the most
restrictive of which pertained to the payment of dividends, distributions to
shareholders and the Company's working capital ratio. The T.E.P. Financing also
contained administrative covenants.

In addition, in August 1996 the Company granted Cambrian Capital Partners,
L.P., an affiliate of the T.E.P. Financing lender ("Cambrian"), a 30% Net
Profits Interest (as defined in the Net Profits Interest Conveyance dated
August 12, 1996), net to the Company's interest, in all of the Company's
properties, including those acquired in the 1996 Lobo Acquisition; however, no
net profits payments were to be made to Cambrian under the terms of the Net
Profits Interest until the earlier to occur of the payment in full of the
T.E.P. Financing or August 12, 2001. After Cambrian received cash proceeds of
$10.0 million under the Net Profits Interest Conveyance, the Net Profits
Interest was to be reduced from 30% to 15%. As part of the T.E.P. Financing,
the Company also granted to Cambrian a warrant to purchase up to 5% of the
Company's common stock until August 12, 2001. The value assigned to the Net
Profits Interest and warrant was recorded as a discount to the loan proceeds.
The Company used approximately $11.0 million of the net proceeds from the sale
of the Old Notes to acquire the Net Profits Interest. See "Use of Proceeds."

In May 1998, the Company entered into the Credit Facility with Christiania
Bank og KreditKasse ("Christiania") as lender and administrative agent, pursuant
to the terms of that certain Credit Agreement between the Company and
Christiania dated effective as of May 15, 1998 (the "Credit Agreement"). The
Credit Facility provides for loans in an outstanding principal amount not to
exceed $50.0 million at any one time, subject to a borrowing base to be
determined semi-annually by the administrative agent (the initial borrowing base
is $30.0 million), and the issuance of letters of credit in an outstanding face
amount not to exceed $6.0 million at any one time with the face amount of all
outstanding letters of credit reducing, dollar-for-dollar, the availability of
loans under the Credit Facility. Under the Credit Facility, the principal
balance outstanding will be due and payable on May 28, 2002, and each letter of
credit shall be reimbursable by the Company when drawn, or if not then otherwise
reimbursed, paid pursuant to a loan under the Credit Facility. Commencing on
March 31, 1999, and continuing until its stated maturity, the maximum amount
available for borrowings and letters of credit under the Credit Facility will
not only be adjusted (increased or decreased, as applicable) by the semi-annual
borrowing base determination, but also (i) decreased by quarterly mandatory
reductions in the borrowing base (initially $2.3 million per quarter) and (ii)
adjusted for sales of collateral having an aggregate value exceeding the lesser
of $4.0 million per year or 5% of the Company's total proved reserve values.

The interest rate for each borrowing under the Credit Facility will be
calculated at either (i) the ABR rate (as described below), or (ii) the
Eurodollar Rate (as described below) plus 1.75%, at the election of the Company.
Interest on the borrowings under the Credit Facility will be due (i) with
respect to loans bearing interest at the ABR rate, quarterly in arrears and at
maturity, and (ii) with respect to loans bearing interest at the Eurodollar
Rate, on the last day of each relevant interest period and, in the case of any
interest period longer than three months, on a quarterly basis. The Company's
obligations under the Credit Facility are secured by substantially all of the
oil and natural gas assets of the Company, including accounts receivable and
material contracts, equipment and gathering systems. The proceeds of the Credit
Facility may be used to finance working capital needs and for general corporate
purposes of the Company in the ordinary course of its business.

Under the Credit Facility, "ABR" means the highest of (i) the interest rate
announced publicly by Christiania as its prime rate in effect in its principal
office in New York, (ii) the secondary market rate for three-month certificates
of deposit (adjusted for statutory reserve requirements) plus 1% and (iii) the
federal funds effective rate from time to time plus 0.5%. "Eurodollar Rate"
means the rate (adjusted for statutory reserve requirements of eurocurrency
liabilities) at which eurodollar deposits for one, two, three or six (or, if
available and acceptable to the Credit Facility lenders, nine or twelve) months
(as selected by the Company) are offered to Christiania in the Interbank
eurodollar market.

The Credit Agreement contains certain covenants by the Company, including
(i) limitations on additional indebtedness and on guaranties by the Company
except as permitted under the Credit Agreement, (ii) limitations on additional
investments except those permitted under the Credit Agreement and (iii)
restrictions on dividends or distributions on or repurchases or redemptions of
capital stock by the Company except for those involving repurchases of MHI
capital stock which may not exceed $500,000 in any fiscal year. In addition, the
Credit Agreement requires the Company to maintain and comply with certain
financial covenants and ratios, including a minimum interest coverage ratio, a
minimum current ratio and a covenant requiring that the Company's general and
administrative expenses may not exceed 12.5% of the Company's gross revenues in
any calendar year.

As of May 31, 1998, the Company had no outstanding indebtedness under the
Credit Facility (including outstanding letters of credit issued for its
benefit).

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<PAGE> 38
CAPITAL EXPENDITURES AND OUTLOOK

The following table sets forth the Company's capital expenditures for the
three years ended December 31, 1997.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------
1995 1996 1997
---- ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
Property acquisition:
Unproved . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 30 $ 2,929 $ 355
Proved . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 9,554 2,425
Exploration . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 177 -- --
Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 632 2,757 12,074
Interest capitalized . . . . . . . . . . . . . . . . . . . . . . . . . -- 217 574
------- ------- -------
Total costs incurred . . . . . . . . . . . . . . . . . . . . $ 849 $15,457 $15,428
======= ======= =======
</TABLE>

The Company has budgeted capital expenditures of approximately $24.0
million for 1998. Substantially all of the capital expenditures will be used to
fund drilling activities, property acquisitions and 3-D seismic surveys in the
Company's project areas. The Company intends to drill approximately 29 gross
(25 net) wells in 1998. The actual amounts of capital expenditures and number
of wells drilled may differ significantly from such estimates. See "Business
and Properties -- The Transactions."

HEDGING ACTIVITIES

In an effort to achieve more predictable cash flows and earnings and reduce
the effects of the volatility of the price of oil and natural gas on the
Company's operations, the Company has hedged in the past, and in the future
expects to hedge oil and natural gas prices through the use of swap contracts
and put options. While the use of these hedging arrangements limits the downside
risk of adverse price movements, it also limits future gains from favorable
movements. The Company accounts for these transactions as hedging activities
and, accordingly, gains and losses are included in oil and natural gas revenues
in the periods in which the related production occurs. The Company does not
engage in hedging arrangements in which the production amounts are in excess of
the Company's actual production.

Although the Company's former hedging contracts in effect were terminated
at the closing of the sale of the Old Notes, the Company has entered into
additional hedging contracts. On April 7, 1998, the Company entered into a
costless collar contract with a third party which provides for a floor price of
$2.25 per Mmbtu and a ceiling price of $2.99 per Mmbtu. The collar hedges a
monthly volume of 450,000 Mmbtu from May 1, 1998 through April 30, 1999. Any
gas revenues over $2.99 per Mmbtu will be paid by the Company to the third
party. Conversely, the third party agreed to pay the Company all revenues
equal to the difference between $2.25 per Mmbtu and any price below $2.25 per
Mmbtu; any gas revenues under $2.25 per Mmbtu will be paid to the Company. In
addition, on April 7, 1998 in a separate transaction with a different third
party, the Company purchased put options with a strike price of $2.25 per Mmbtu
for approximately $230,000. The put options hedge a volume of 150,000 Mmbtu per
month from May 1, 1998 to April 30, 1999. All prices are relative to a Houston
Ship Channel Index.

The annual average oil and natural gas prices received by the Company have
fluctuated significantly over the past three years. The Company's weighted
average natural gas price received per Mcf (including the effects of hedging
transactions) was $1.67, $2.15 and $2.33 during the years ended December 31,
1995, 1996 and 1997, respectively. Hedging transactions resulted in a $0.24 and
$0.32 reduction in the Company's weighted average natural gas price received
per Mcf in 1996 and 1997, respectively.

The following table sets forth the increase (decrease) in the Company's
natural gas and oil revenues as a result of hedging transactions and the
effects of hedging transactions on price per Mcf during the periods indicated.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
1995 1996 1997
---- ---- ----
<S> <C> <C> <C>
Decrease in natural gas revenue (in thousands) . . . . . . . . . . . . $ -- $ (313) (1,159)

Effect of hedging transactions on average gas sales price
(per Mcf) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ -- $ (0.24) $ (0.32)
</TABLE>

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<PAGE> 39
NATURAL GAS BALANCING

The Company incurs certain natural gas production volume imbalances in the
ordinary course of business and utilizes the sale method to account for such
imbalances. Under this method, income is recorded based on the Company's net
revenue interest in production taken for delivery. Management does not believe
that the Company had any material imbalances as of December 31, 1996 or 1997.

EFFECTS OF INFLATION AND CHANGES IN PRICE

The Company's results of operations and cash flows are affected by changes
in oil and natural gas prices. If the price of oil and natural gas increases
(decreases), there could be a corresponding increase (decrease) in the
operating cost that the Company is required to bear for operations, as well as
an increase (decrease) in revenues. Inflation has had only a minimal effect on
the Company.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 130, Reporting Comprehensive Income, which is effective for fiscal years
beginning after December 15, 1997. SFAS No. 130 establishes standards for
reporting and display of comprehensive income and its components (revenues,
expenses, gains and losses) in a full set of general- purpose financial
statements. It requires (a) classification of items of other comprehensive
income by their nature in a financial statement and (b) display of the
accumulated balance of other comprehensive income separate from retained
earnings and additional paid-in capital in the equity section of a statement of
financial position. The adoption of SFAS No. 130 did not have a material effect
on the Company's financial position, results of operations or cash flows.

In June 1997, the FASB issued SFAS No. 131, Disclosures about Segments
of an Enterprise and Related Information, which is effective for fiscal years
beginning after December 15, 1997. SFAS No. 131 establishes standards for
reporting information about operating segments in annual financial statements
and requires selected information about operating segments in interim financial
reports issued to shareholders. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
SFAS No. 131 supersedes SFAS No. 14, Financial Reporting for Segments of a
Business Enterprise, but retains the requirement to report information
regarding major customers. The Company plans to adopt SFAS No. 131 for the year
ended December 31, 1998 and, because the Company operated in only one segment,
does not expect the adoption thereof to have a material effect on the Company's
financial statement disclosures.

In March 1998, the FASB issued SFAS No. 132, Employers' Disclosures
about Pensions and Other Postretirement Benefits, which is effective for fiscal
years beginning after December 15, 1997. SFAS No. 132 revises employers'
disclosures about pension and other postretirement benefit plans. It
standardizes the disclosure requirements for pensions and other postretirement
benefits to the extent practicable, requires additional information on changes
in the benefits obligations and fair values of plan assets that will facilitate
financial analysis, and eliminates certain disclosures that are no longer as
useful as they were when SFAS No. 87, Employers' Accounting for Pensions, and
No. 88, Employers' Accounting for Settlements and Curtailments of Deferred
Benefit Pension Plans and for Termination Benefits, were issued. Because the
Company does not currently have pension or other postretirement benefits,
management does not expect the adoption of SFAS No. 132 to have a material
affect on the Company's financial statement disclosures.

In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, which is effective for fiscal years
beginning after June 15, 1999. SFAS No. 133 establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities. It also requires that
an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those items at fair value. If
certain conditions are met, a derivative may be specifically designated as (a) a
hedge of the exposure to changes in the fair value of a recognized asset or
liability or an unrecognized firm commitment, (b) a hedge of the exposure to
variable cash flows of a forecasted transaction, or (c) a hedge of the
foreign currency exposure of a net investment in a foreign operation, an
unrecognized firm commitment, an available-for-sale security, or a
foreign-currency-denominated forecasted transaction. As discussed in Note 5 to
the Financial Statements, the Company has historically hedged a portion of its
future gas production using gas swap contracts. These contracts are a hedge of
the Company's exposure to the variability of future cash flows due to potential
decreases in gas prices. For a derivative designated as hedging the exposure to
variable cash flows of a forecasted transaction (referred to as a cash flow
hedge), the effective portion of the derivative gain or loss is initially
reported as a component of other comprehensive income (outside earnings) and
subsequently reclassified into earnings when the forecasted transaction affects
earnings. The ineffective portion of the gain or loss is reported in earnings
immediately. The extent of the impact of adopting SFAS No. 133 on the Company's
financial position, results of operations, or cash flows will be a function of
the open derivative contracts at the date of adoption. If the Company had
adopted SFAS No. 133 as of March 31, 1998, the Company would have recorded an
unrealized loss of approximately $1.2 million (net of tax) as a component of
other comprehensive income.

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<PAGE> 40
BUSINESS AND PROPERTIES

OVERVIEW

The Company is engaged in the acquisition, exploitation and development of
oil and natural gas properties, principally in the Lobo Trend. The Company has
significantly expanded its production and reserve base in recent years through
development drilling and exploitation activities and by acquiring producing and
undeveloped properties. On March 31 and April 2, 1998, the Company closed the
Transactions, pursuant to which the Company acquired interests in 170 gross (98
net) wells covering approximately 46,900 gross acres and proved reserves of 96
Bcfe as of December 31, 1997. On April 20, 1998, the Company entered into the
Lobo Lease, pursuant to which the Company acquired leasehold interests in
undeveloped acreage covering approximately 39,636 gross acres in the Lobo
Trend, adding 43 Bcfe of net proved undeveloped reserves as of December 31,
1997. The interests in properties acquired included acreage that is
geographically close and geologically similar to the Company's other properties.
The Company believes that these acquired properties together with its previously
existing properties have substantial development drilling and exploitation
potential. The Company has initially identified approximately 160 drilling
locations that are expected to be drilled over the next several years. The
Company used approximately $68.3 million of the net proceeds from the sale of
the Old Notes in connection with the closing of the Transactions, including the
repayment of short-term acquisition indebtedness incurred in connection with the
closing of the Enron Acquisition. At December 31, 1997, on a pro forma basis,
the Company owned interests in 280 gross (159 net) wells, approximately 95% of
which were operated by the Company, and had proved reserves totaling 191 Bcfe,
with a PV-10 Value of $203 million.

The Company began its operations in 1983 and focused on developing
prospects in South Texas. Since the early 1990s, the Company has become an
increasingly active participant in lower risk development drilling in the Lobo
Trend, and in 1996 the Company acquired interests in approximately 21,000
developed and undeveloped acres in the Lobo Trend. The Company uses 3-D seismic
imaging and other advanced exploration technologies in the development and
exploitation of its properties. As of December 31, 1997, on a pro forma basis,
3-D seismic data had been obtained over approximately 90% of the Company's
properties. Based upon the Company's interpretation of 3-D seismic data and
wells drilled in the area, the Company has initially identified, on a pro forma
basis, approximately 160 drilling locations on its properties, 90 of which are
in the Company's proved undeveloped reserve base. During 1998, the Company
intends to drill approximately 29 gross (25 net) wells and has allocated
approximately $23.3 million of its capital expenditure budget for this purpose.
All of the Company's drilling prospects for 1998, on a pro forma basis, were
identified through the use of 3-D seismic data.

The principal executive offices of the Company are located at 13101
Northwest Freeway, Suite 320, Houston, Texas 77040, and its telephone number is
(713) 895-0909.

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<PAGE> 41
BUSINESS STRATEGY

Key elements of the Company's business strategy include the following:

CONTINUE EXPLOITATION AND DEVELOPMENT PROGRAM. The Company intends to
further develop and exploit its properties, including the interests in the
properties acquired in the Transactions and subject to the Lobo Lease, which,
in the aggregate, currently include approximately 160 identified drilling
locations. The Company's development and exploitation program is focused on
lower-risk development drilling opportunities that increase production levels
and proved reserves quantities while minimizing the level of drilling risk. The
Company's strategy in identifying prospective drilling locations is founded on
rigorous analysis of 3-D seismic data which the Company has acquired on over
90% of its acreage on a pro forma basis. All of the locations scheduled to be
drilled in 1998 were identified through the interpretation of 3-D seismic data.

TECHNICAL EXPERTISE. Members of the senior management team have
participated in the drilling of over 600 wells in South Texas which,
collectively, have produced over one trillion cubic feet of natural gas
equivalents. Each member of senior management has over 18 years of industry
experience, and two of the three members of senior management have worked
together for over ten years. The Company believes that its drilling success is
a direct result of the technical knowledge and experience of its geoscience
staff in effective interpretation of well log data and mapping of the
subsurface geology.

PURSUE FOCUSED PROPERTY ACQUISITION PROGRAM. The Company seeks to acquire
producing properties and undeveloped acreage where it has identified
geologically complex multi-pay subsurface environments that are well suited to
the application of 3-D seismic technology. The Company believes that its
technical expertise and historical experience with such properties allows it to
identify opportunities for lower-risk development drilling and exploitation
activities. Given the Company's historic and current scope of operations in
South Texas and its belief that attractive acquisition opportunities will
continue to become available in this area, it will focus its acquisition
efforts primarily in the Lobo Trend and other areas in South Texas. The Company
generally approaches the owners of target properties and attempts to negotiate
terms privately, although the Company will examine and bid on properties being
offered to a broader group of buyers.

CAPITALIZE ON LOCAL RELATIONSHIPS. The Company's 15-year presence in South
Texas has resulted in numerous favorable relationships with local landowners
and their representatives. South Texas is characterized by large blocks of
privately held land which has been controlled by a small number of families for
generations. Lease blocks generally come in packages of between 5,000 and
50,000 acres. The Company believes that its favorable relationships with these
local landowners is a key advantage in its ability to access additional
undeveloped acreage acquisition opportunities. The Company intends to sustain
and expand these relationships in the area.

HISTORY OF THE COMPANY

The Company began operations in 1983, focused on the development of
drilling prospects in South Texas, including prospects in the Lobo Trend. The
Company typically served as operator and retained a small working interest in
its prospects financing its net drilling costs through the sale of a majority
of a prospect's working interests to an industry participant. After the
development of a property, the Company typically sold its interest and
reinvested the capital in new prospects.

To expand its operations, the Company entered into its first credit
facility in 1991. This financing allowed the Company to make several
acquisitions in South Texas outside of the Lobo Trend. All of these acquired
properties were developed and sold within four years. From 1992 to 1996, the
Company continued to acquire and dispose of properties in the Lobo Trend and
other areas of South Texas. This credit facility was retired in 1996.

In 1995, the Company completed the sale of its non-Lobo Trend oil and
natural gas properties. In August 1996, the Company completed the 1996 Lobo
Acquisition, expanding its scope of operations in the Lobo Trend and increasing
its proved reserve base. The 1996 Lobo Acquisition resulted in a multi-year
inventory of drilling opportunities and also provided the Company with
increased working interests in its existing properties. The Company refinanced
existing indebtedness and funded the 1996 Lobo Acquisition with the proceeds
from the T.E.P.

-37-
<PAGE> 42
Financing. In March and April 1998, the Company repaid the indebtedness under
the T.E.P. Financing and completed the Transactions.

THE TRANSACTIONS

To implement the Company's business strategy, the Company completed the
Transactions concurrently with or prior to the closing of the sale of the Old
Notes. The interests acquired in the Transactions have added properties having
approximately 108 initially identified development locations. In addition, the
Transactions are expected to add approximately 96 Bcfe of estimated net proved
reserves, as of December 31, 1997. The Company believes that it has
opportunities to improve production from these properties through additional
development, drilling, reconfiguration of operations and reduction of operating
and administrative costs.

ENRON ACQUISITION. On February 5, 1998, the Company entered into a Purchase
and Sale Agreement with Enron. The Enron Acquisition was consummated on March
31, 1998. Pursuant to the Purchase and Sale Agreement, Enron conveyed to the
Company (i) interests in certain oil and natural gas leases covering
approximately 7,500 gross acres in Hidalgo County and Zapata County, Texas,
(ii) certain interests in leases covering approximately 37,500 gross acres
located in Webb County, Texas (the "Ranch Lands") covering the interval from
the surface of the ground down to 100 feet below the stratigraphic equivalent
of the base of the Lobo 6 sand, (iii) all of Enron's interests in and to a
2.67% non- participating term royalty interest in and to the Ranch Lands
limited in depth to the interval covered by the lease granted on the Ranch
Lands and terminating simultaneously with that portion of the lease granted on
the Ranch Lands and (iv) all seismic data owned by Enron covering the
properties described in (i) and (ii) above.

The purchase price set forth in the Purchase and Sale Agreement for the
Enron Acquisition was $48.5 million, subject to closing and post-closing
adjustments, and the conveyance by the Company to Enron of all of the Company's
interests in certain oil and natural gas properties in Webb County, Texas. The
actual dollar portion of the purchase price paid at closing was $45.8 million,
reflecting closing adjustments, including net production accruing to Enron's
account since January 1, 1998; this amount is subject to further post-closing
adjustments. The dollar portion of the purchase price was paid in the form of
a promissory note issued by the Company in the original principal amount of
$45.8 million (which amount reflected the closing adjustments) and bore
interest at the rate of 8% per annum. This promissory note matured on April 2,
1998, the closing date of the sale of the Old Notes and the Conoco Acquisition,
and the Company used a portion of the net proceeds from the sale of the Old
Notes to repay this short-term acquisition indebtedness. See "Use of Proceeds."
In addition, the Company granted to Enron a non-exclusive license to use the
seismic data it conveyed to the Company.

Pursuant to the Purchase and Sale Agreement, the Company acquired the
properties on an "as is" basis. The Purchase and Sale Agreement also provided
for limited environmental indemnities. In general, Enron must indemnify the
Company for environmental conditions exceeding $50,000, provided that the
Company notifies Enron of such condition within 180 days following the closing.
The Company must indemnify Enron for all other environmental liabilities
incurred by Enron, including claims arising in whole or in part from the sole
or concurrent negligence or gross negligence of Enron.

CONOCO ACQUISITION. On February 20, 1998, the Company entered into a
Purchase and Sale Agreement with Conoco. The Conoco Acquisition was
consummated on April 2, 1998. Pursuant to the Purchase and Sale Agreement,
Conoco conveyed to the Company a leasehold interest in all of Conoco's
interests in approximately 39,000 gross acres located in Webb County, Texas
covering the interval from the surface of the ground down to 100 feet below the
stratigraphic equivalent of the base of the Lobo 6 sand. As consideration for
the rights and property conveyed by Conoco as described above, the Company paid
at closing $22.5 million, which reflected certain closing adjustment provisions
similar to those provided for in the Enron Acquisition Purchase and Sale
Agreement. The Company used a portion of the net proceeds from the sale of the
Old Notes to pay the purchase price of the Conoco Acquisition. See "Use of
Proceeds."

Pursuant to the Purchase and Sale Agreement, the Company acquired the
properties on an "as is" basis. The Purchase and Sale Agreement also provided
for limited environmental indemnities. In general, Conoco must indemnify the
Company for any environmental condition exceeding $50,000 of which the Company
became aware after the closing, provided that the Company notifies Conoco of
such condition within 180 days following the closing. The Company must
indemnify Conoco for all other environmental liabilities incurred by Conoco,
including claims arising in whole or in part from the sole or concurrent
negligence, gross negligence or strict liability of Conoco.

-38-
<PAGE> 43
LOBO LEASE TRANSACTION

By agreement dated April 20, 1998, the Company acquired from Mobil certain
leasehold interests in undeveloped acreage in the Lobo Trend in Webb County,
Texas (the "Lobo Lease"). Under this agreement, Mobil assigned to the Company
its interests in two existing leases and granted by lease interests in
additional undeveloped acreage pursuant to an oil and gas lease having a
primary term of seven years. The lease, which has an effective date of January
1, 1998, covers 39,636 gross acres and covers the interval from the surface of
the ground down to 100 feet below the stratigraphic equivalent of the base of
the Lobo 6 Sand. Excluded from the lease grant are existing productive wells
and certain drilling units on the subject properties. The lease contains
provisions obligating the Company to indemnify Mobil for certain liabilities
incurred by Mobil as a result of the Company's operations on the Lobo Lease
properties, including liabilities for violations of environmental laws.

The Company and Mobil also agreed that effective May 1, 1998, Michael would
be appointed operator with respect to the properties covered by the Lobo Lease
pursuant to a joint operating agreement between them. In order to ensure an
orderly transition of the operator's duties, the Company and Mobil entered into
a transition services agreement, whereby Mobil would continue certain
accounting, administrative and regulatory operations with respect to Lobo Lease
production and operations through August 31, 1998; for these services, the
Company agreed to pay Mobil $25,000.

As part of the consideration for the Lobo Lease and related matters, the
Company agreed to make future deliveries to Mobil of 4.0 Bcf of natural gas. On
April 23, 1998, the Company entered into a contract to secure delivery of this
volume of natural gas from a third party for consideration of $9.98 million.

The interests acquired under the Lobo Lease are estimated to contain net
proved undeveloped reserves of 43 Bcfe of natural gas as of December 31, 1997.
The Lobo Lease transaction increases to 100% the Company's working interest in
an estimated 93 development locations that have been identified to date. The
Company believes that it has opportunities to improve production and cash flows
from the properties subject to the Lobo lease through additional drilling.

PRINCIPAL OIL AND NATURAL GAS PROPERTIES

The Company owns interests in developed and undeveloped properties in South
Texas, primarily in the Lobo Trend and undeveloped acreage in South Texas. At
December 31, 1997, on a pro forma basis, the Company held 78,361 gross (66,093
net) acres in the Lobo Trend area. On a pro forma basis, the Company had drilled
wells on approximately 26% of its total net acreage, as of December 31, 1997.
The Company's Lobo Trend properties represented substantially all of its
reserves and PV-10 Value, as of December 31, 1997, on a pro forma basis. The
Company owns working interests ranging from 10% to 100% in its Lobo Trend
properties and is the operator of over 95% of the wells in which it has an
interest.

The Lobo Trend in Webb and Zapata Counties in South Texas is one of the
largest natural gas producing regions in the United States and, at December 31,
1997, approximately 22 drilling rigs were active in the Lobo Trend for over
nine oil and natural gas companies. The primary geologic target in the Lobo
Trend is the Lobo sand series of the Lower Wilcox formation, which contains
multiple pay sands over an extensive interval that can be as large as 800 feet
in some areas of the Lobo Trend. The primary objectives in the Lobo Trend are
the Lobo 1 and Lobo 6 sands. Other pay sands exist at shallower and deeper
horizons in certain areas of the trend. Extensive faulting has trapped
hydrocarbons in the Lobo Trend producing horizons and has created a complex
geological environment. Until recently, 2-D seismic and subsurface well control
were the primary means for developing the field. The introduction of 3-D
seismic to the area in the early 1990s has improved drilling success rates, and
the Company has similarly experienced an overall increase in its drilling
success rates in the Lobo Trend as technology has evolved.

The Company's Lobo Trend production is from reservoirs at depths between
6,000 to 14,000 feet. Most of the production horizons are of low permeability
and must be fracture stimulated to improve rates of production. As a result, a
typical well has a high initial production rate which declines rapidly and is
followed by a long period of production at a lower rate with a gradual decline.

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<PAGE> 44
OIL AND NATURAL GAS RESERVES

The following table sets forth estimated net proved natural gas and oil and
condensate reserves of the Company and the present value of estimated future
net cash flows related to such reserves as of December 31, 1996, December 31,
1997, and on a pro forma basis as of December 31, 1997. The reserve data and
present values presented have been estimated by Huddleston. For further
information concerning the present value of future net revenue from these
proved reserves, see Note 15 of Notes to Financial Statements of the Company.
See also "Risk Factors--Uncertainty of Estimates of Reserves and Future Net
Revenues."

<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------
PRO FORMA
1996 1997 1997(2)
---- ---- ---------
<S> <C> <C> <C>
Estimated proved reserves:
Oil and condensate (MBbls) . . . . . . . . . . . . . . . . . . . . 239 265 5,445
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . . . . . . 49,246 51,165 158,698
Natural gas equivalents (Mmcfe) . . . . . . . . . . . . . . . . . . 50,678 52,754 191,368
Proved developed reserves as a percentage of proved reserves . . . . 34% 45% 29.6%
PV-10 Value (dollars in thousands)(1) . . . . . . . . . . . . . . . . $60,727 $51,487 $203,204
</TABLE>

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

(1) PV-10 Value represents the present value of estimated future net revenues
before income tax discounted at 10% using prices in effect at the end of the
respective periods presented and including the effects of hedging
activities. In accordance with applicable requirements of the SEC, estimates
of the Company's proved reserves and future net revenues are made using oil
and natural gas sales prices estimated to be in effect as of the date of
such reserve estimates and are held constant throughout the life of the
properties (except to the extent a contract specifically provides for
escalation). The average prices used in calculating historical PV-10 Value
as of December 31, 1997 were $15.91 per Bbl of oil and $2.42 per Mcf of
natural gas, compared to average prices used as of December 31, 1996 of
$23.86 per Bbl of oil and $2.76 per Mcf of natural gas. The average prices
used in calculating the pro forma PV-10 Value as of December 31, 1997 were
$13.71 per Bbl of oil and $2.46 per Mcf of natural gas. Average prices at
April 30, 1998 were $12.34 per Bbl of oil and $2.38 per Mcf of natural gas.

(2) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
December 31, 1997.

There are numerous uncertainties inherent in estimating quantities of
proved oil and natural gas reserves and in projecting future rates of
production and timing of development expenditures, including many factors
beyond the control of the producer. The reserve data set forth herein
represents estimates only. Reserve engineering is a subjective process of
estimating underground accumulations of oil and natural gas that cannot be
measured in an exact manner, and the accuracy of any reserve estimate is a
function of the quality of available data and of engineering and geological
interpretation and judgment. As a result, estimates made by different engineers
often vary. In addition, results of drilling, testing and production subsequent
to the date of an estimate may justify revision of such estimates, and such
revisions may be material. Accordingly, reserve estimates are generally
different from the quantities of oil and natural gas that are ultimately
recovered. Furthermore, the estimated future net revenues from proved reserves
and the present value thereof are based upon certain assumptions, including
future prices, production levels and costs, that may not prove correct. See
"Risk Factors--Uncertainties of Estimates of Reserves and Future Net Revenues."

No estimates of proved reserves comparable to those included herein have
been included in reports to any federal agency.

Production, Prices and Expenses

The following table presents certain information with respect to oil and
natural gas production, prices and expenses attributable to oil and natural gas
property interests owned by the Company (i) for the years ended December 31,
1995, 1996 and 1997 and on a pro forma basis for the year ended December 31,
1997, and (ii) for the three months ended March 31, 1997 and 1998 and on a pro
forma basis for the three months ended March 31, 1998.

-40-
<PAGE> 45

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
PRO FORMA
1995 1996 1997 1997(1)
---- ---- ---- ---------
<S> <C> <C> <C> <C>
PRODUCTION VOLUMES:
Oil and condensate (MBbls) . . . . . . . . . . . . . . . 79 37 21 209
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . 430 1,324 3,685 11,676
Total (Mmcfe) . . . . . . . . . . . . . . . . . . 904 1,546 3,811 12,930
AVERAGE REALIZED PRICES:
Oil, condensate and natural gas liquids (per Bbl) . . . . $ 17.65 $ 20.05 $ 18.95 $ 13.42
Natural gas (per Mcf) . . . . . . . . . . . . . . . . . . 1.67 2.15 2.33 2.42
Natural gas equivalents (per Mcfe) . . . . . . . . . . . 2.33 2.32(3) 2.35(3) 2.41(3)
EXPENSES (PER MCFE):
Production costs . . . . . . . . . . . . . . . . . . . . 1.36 1.25 0.49 0.40
Depreciation, depletion and amortization . . . . . . . . 1.41 0.76 1.02 0.82
General and administrative, net . . . . . . . . . . . . . 0.84 0.27 0.26 0.08
</TABLE>

<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------
PRO FORMA
1997 1998 1998(2)
---- ---- --------
<S> <C> <C> <C>
PRODUCTION VOLUMES:
Oil and condensate (MBbls) . . . . . . . . . . . . . . . 4 12 53
Natural gas (Mmcf) . . . . . . . . . . . . . . . . . . . 725 1,487 3,108
Total (Mmcfe) . . . . . . . . . . . . . . . . . . 749 1,559 3,426
AVERAGE REALIZED PRICES:
Oil, condensate and natural gas liquids (per Bbl) . . . . 21.16 14.23 10.91
Natural gas (per Mcf) . . . . . . . . . . . . . . . . . . 2.44 2.07 2.12
Natural gas equivalents (per Mcfe) . . . . . . . . . . . 2.47 2.09 2.09
EXPENSES (PER MCFE):
Production costs . . . . . . . . . . . . . . . . . . . . 2.47 2.09 2.09
Depreciation, depletion and amortization . . . . . . . . (0.57) (0.30) (0.35)
General and administrative, net . . . . . . . . . . . . . (0.21) (0.17) (0.08)
---- ---- ----
Gross Margin . . . . . . . . . . . . . . . . 1.69 1.62 1.66
==== ==== ====
</TABLE>

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

(1) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
January 1, 1997.

(2) Pro forma to reflect the sale of the Old Notes, the application of the net
proceeds therefrom, the exchange of the Old Notes for New Notes, the
Transactions and the Lobo Lease, as if such transactions had occurred on
January 1, 1998.

(3) Includes effects of hedging transactions.

Productive Wells

The following table sets forth the number of productive wells in which the
Company owned an interest as of March 31, 1998 on a historical and pro forma
basis:

<TABLE>
<CAPTION>
ACTUAL ACTUAL PRO FORMA PRO FORMA
GROSS WELLS NET WELLS GROSS WELLS NET WELLS
----------- --------- ----------- ---------
<S> <C> <C> <C> <C>
Oil . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- -- -- --
Natural gas . . . . . . . . . . . . . . . . . . . . . . . . 78 43 282 160
-- -- --- ---
Total . . . . . . . . . . . . . . . . . . . . . . 78 43 282 160
== == === ===
</TABLE>

Productive wells consist of producing wells and wells capable of
production, including natural gas wells awaiting pipeline connection and oil
wells awaiting connection to production facilities. Wells that are completed in
more than one producing horizon are counted as one well.

Acreage

The following table sets forth the Company's developed and undeveloped
gross and net leasehold acreage as of March 31, 1998 and on a pro forma
basis as of March 31, 1998.

<TABLE>
<CAPTION>
ACTUAL PRO FORMA
------------------------------------------------------- ----------------------------------------------------
DEVELOPED UNDEVELOPED TOTAL DEVELOPED UNDEVELOPED TOTAL
--------- ----------- ----- --------- ----------- -----
GROSS NET GROSS NET GROSS NET GROSS NET GROSS NET GROSS NET
----- --- ----- --- ----- --- ----- --- ----- --- ----- ---
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Lobo Trend. . 20,676 11,554 8,206 5,516 28,882 17,070 18,529 13,338 57,987 48,910 74,516 62,248
Other . . . . 640 640 -- -- 640 640 3,845 3,845 -- -- 3,845 3,845
--- --- -- -- --- --- ------ ------ ------ ------ ----- -----

Total . . . . 21,316 12,194 8,206 5,516 29,522 17,710 20,374 17,183 57,987 48,910 78,361 66,093
====== ====== ===== ===== ====== ====== ====== ====== ====== ====== ====== ======
</TABLE>

Undeveloped acreage includes leased acres on which wells have not been
drilled or completed to a point that would permit the production of commercial
quantities of oil and natural gas, regardless of whether or not such acreage
contains proved reserves. A gross acre is an acre in which an interest is
owned. A net acre is deemed to exist when the sum of fractional ownership
interests in gross acres equals one. The number of net acres is the sum of the
fractional interests owned in gross acres expressed as whole numbers and
fractions thereof.

-41-
<PAGE> 46
Drilling Activities

The table below sets forth the drilling activity of the Company on its
properties for the years ended December 31, 1995, 1996 and 1997, and for the
three months ended March 31, 1998, on a historical basis.

<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED DECEMBER 31, ENDED MARCH 31,
----------------------- ---------------
1995 1996 1997 1998
---- ---- ---- ----
GROSS NET GROSS NET GROSS NET GROSS NET
----- --- ----- --- ----- --- ----- ---
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Development wells:

Productive . . . . . . . . . . . . . 2 0.9 2 1.2 15 9.2 2 1.3
Non-productive . . . . . . . . . . . -- -- -- -- 4 2.5 -- --
---- ---- ---- ---- ---- ---- ---- ----
Total . . . . . . . . . . . . 2 0.9 2 1.2 19 11.7 2 1.3
==== ==== ==== ==== ==== ==== ==== ====
Exploratory wells:
Productive . . . . . . . . . . . . . -- -- -- -- -- -- -- --
Non-productive . . . . . . . . . . . -- -- -- -- -- -- -- --
---- ---- ---- ---- ---- ---- ---- ----

Total . . . . . . . . . . . . -- -- -- -- -- -- -- --
Total development and
exploratory . . . . . 2 0.9 2 1.2 19 11.7 2 1.3
==== ==== ==== ==== ==== ==== ==== ====
</TABLE>

The information contained in the foregoing table should not be considered
indicative of future performance, nor should it be assumed that there is any
correlation between the number of productive wells drilled and the oil and
natural gas reserves generated therefrom.

From April 1, 1998 through June 26, 1998, the Company participated in
drilling activities on a total of 8 gross (5.34 net) wells, four of which have
been completed as commercial producers, three of which are currently being
drilled and one of which was a dry hole.

Oil and Natural Gas Marketing and Transportation

The revenues generated by the Company's operations are highly dependent
upon the prices of and demand for oil and natural gas. The price received by
the Company for its oil and natural gas production depends on numerous factors
beyond the Company's control. Historically, the markets for oil and natural gas
have been volatile and are likely to continue to be volatile in the future.
Prices for oil and natural gas are subject to wide fluctuation in response to
relatively minor changes in the supply and demand for oil and natural gas,
market uncertainty and a variety of additional factors. These factors include
the level of consumer product demand, weather conditions, domestic and foreign
governmental regulations, the price and availability of alternative fuels,
political conditions in the Middle East, the actions of the Organization of
Petroleum Exporting Countries, the foreign supply of oil and natural gas and
overall economic conditions. It is impossible to predict future oil and natural
gas price movements with any certainty. Declines in oil and natural gas prices
may adversely affect the Company's financial condition, liquidity and results
of operations. See "Risk Factors--Volatility of Natural Gas and Oil Prices" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."

The Company currently markets all of its natural gas through Upstream
Energy Services, L.L.C. ("Upstream") pursuant to the general terms and agreement
effective as of April 1, 1996 (the "Sales Agreement"). The Company and the
predecessor to Upstream had similar marketing arrangements from 1991 to April
1996. Under the Sales Agreement, the Company has agreed to sell, and Upstream
has agreed to market all of the natural gas produced from properties owned or
operated by the Company at the price realized by Upstream from the sale of such
natural gas production less (i) the costs incurred by Upstream in the
transportation, treating and handling of the gas prior to resale and (ii) $0.03
per Mmbtu sold, as measured at the point of delivery. The Sales Agreement is
effective for a two-year period and is renewable quarterly thereafter, subject
to either party giving 60 days written notice of termination. The Company and
Upstream are currently renegotiating the terms of the Sales Agreement and expect
to renew it on terms more favorable to the Company. Until August 1997, the
Company's Chief Executive Officer owned an aggregate of approximately 20% of the
capital stock of Upstream. See "Certain Transactions."

In conjunction with the 1996 Lobo Acquisition, Conoco (as the successor in
interest to the seller) and the Company entered into a Gas Exchange Agreement
whereby such parties agreed that the Company would deliver to Conoco all of the
natural gas produced from the leases acquired in the 1996 Lobo Acquisition at
the point(s) at which such gas enters the transmission pipelines owned by Lobo
Pipeline Company ("Lobo Pipeline") (the "delivery point") in exchange for
natural gas in the same quantity and quality delivered by Conoco at the Agua
Dulce hub near Corpus Christi, Texas. The parties' obligations under the Gas
Exchange Agreement are subject to the natural gas delivered and the pipeline
meeting certain specifications. The title to the Company gas vests in Conoco at
the delivery point, except to the extent such amount exceeds the amount of
redelivered gas at the redelivery point, in which case the Company retains
title and ownership of such excess, which is then transported by Lobo Pipeline
pursuant to an Interruptible Gas Transportation Agreement. The consideration
received by Lobo Pipeline is $0.17 per Mcf for compression, transportation and
dehydration.

-42-
<PAGE> 47
COMPETITION

The oil and natural gas industry is highly competitive, and the Company
encounters competition from other oil and natural gas companies in all areas of
its operations, including the acquisition of seismic, lease options,
exploratory prospects and proven properties. The Company's competitors in the
Lobo Trend area include major integrated oil and natural gas companies,
including Chevron Corporation, Conoco, Mobil Corporation, Enron Corp. and Sonat
Exploration Company, and numerous independent oil and natural gas companies,
individuals and drilling and income programs. Many of the Company's
competitors, including those with whom it competes in the Lobo Trend, are
large, well-established companies with substantially larger operating staffs
and significantly greater capital resources than those of the Company and
which, in many instances, have been engaged in the oil and natural gas business
for a much longer time than the Company. Such companies may be able to pay more
for exploratory prospects and productive oil and natural gas properties and may
be able to define, evaluate, bid for and purchase a greater number of
properties and prospects than could the Company, given its limited financial
and human resources. In addition, such companies may be able to expend greater
resources on the existing and changing technologies that the Company believes
are and will be increasingly important to the current and future success of oil
and natural gas companies.

The Company's ability to acquire additional properties in the future will
be dependent upon its ability to evaluate and select suitable properties and to
consummate transactions in this highly competitive market. The Company believes
that the technological expertise and experience of its management in exploiting
the Lobo Trend, as well as the Company's relationships with landowners in the
area, generally enable it to compete effectively in the Lobo Trend. However,
the business of developing or acquiring reserves is capital intensive,
especially in the Lobo Trend area where the land blocks typically range between
5,000 and 50,000 acres. The Company will require additional financing or
participation of industry partners to effect future acquisitions in this area.
Such additional financing may take the form of equity securities, debt
securities or some combination thereof, and there can be no assurance that such
financing will be available on terms that are acceptable to the Company.
Failure to secure such financing or to locate industry partners would adversely
affect the Company's ability to compete with these other companies for lease
acreage as it may become available. In addition, to the extent that the Company
engages in oil and natural gas exploration and production activities on
properties in geographic areas other than the Lobo Trend area, the Company may
be subject to additional competitive disadvantages due to its lack of
experience in and familiarity with prospect characteristics of those areas.

GOVERNMENTAL REGULATION

General. Various aspects of the Company's oil and natural gas operations
are subject to extensive and continually changing regulation, as legislation
affecting the oil and natural gas industry is under constant review for
amendment or expansion. Numerous departments and agencies, both federal and
state, are authorized by statute to issue, and have issued, rules and
regulations binding upon the oil and natural gas industry and its individual
members. The Federal Energy Regulatory Commission (the "FERC") regulates the
transportation and sale for resale of natural gas in interstate commerce
pursuant to the Natural Gas Act of 1938 (the "NGA") and the Natural Gas Policy
Act of 1978 (the "NGPA"). In the past, the federal government has regulated the
prices at which oil and natural gas could be sold. While sales by producers of
natural gas and all sales of crude oil, condensate and natural gas liquids can
currently be made at uncontrolled market prices, Congress could reenact price
controls in the future. Deregulation of wellhead sales in the natural gas
industry began with the enactment of the NGPA in 1978. In 1989, Congress
enacted the Natural Gas Wellhead Decontrol Act (the "Decontrol Act"). The
Decontrol Act removed all remaining NGA and NGPA price and nonprice controls
affecting wellhead sales of natural gas effective January 1, 1993.

The Company's operations currently are located primarily in Texas. Thus, the
Company's business is subject to environmental regulation on the state level
primarily by the Railroad Commission of Texas and the Texas Natural Resource
Conservation Commission. The Railroad Commission of Texas regulations may
require the Company to obtain permits and drilling bonds for the drilling of
wells. Additionally, the Railroad Commission of Texas regulates the spacing of
wells, plugging and abandonment of such wells and the remediation of
contamination caused by most types of exploration and production wastes. The
Railroad Commission requirements for remediation of contamination are, for the
most part, administered on a case-by-case basis. The Company expects that such
regulations will be formalized in the future and will in all likelihood become
more stringent.

Regulation of Sales and Transportation of Natural Gas. The Company's sales
of natural gas are affected by the availability, terms and cost of
transportation. The price and terms for access to pipeline transportation are
subject to extensive regulation. In recent years, the FERC has undertaken
various initiatives to increase competition within the natural gas industry. As
a result of initiatives like FERC Order No. 636, issued in April 1992, the
interstate natural gas transportation and marketing system has been
substantially restructured to remove various barriers and practices that
historically limited nonpipeline natural gas sellers, including producers, from
effectively competing with interstate pipelines for sales to local distribution
companies and large industrial and commercial customers. The most significant
provisions of Order No. 636 require that interstate pipelines provide firm and
interruptible transportation service on an open access basis that is equal for
all natural gas suppliers. In many instances, the results of Order No. 636 and
related initiatives have been to substantially reduce or eliminate the
interstate pipelines' traditional role as wholesalers of natural gas in favor
of providing only storage and transportation services. While the United States
Court of Appeals upheld most of Order No. 636 last year, certain related FERC
orders, including the individual pipeline restructuring proceedings, are still
subject to judicial review and may be reversed or remanded in whole or in part.
While the outcome of these proceedings cannot be predicted with certainty, the
Company does not believe

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<PAGE> 48
that it will be affected materially differently than its competitors.

The FERC has also announced several important transportation-related policy
statements and proposed rule changes, including a statement of policy and a
request for comments concerning alternatives to its traditional cost-of-service
ratemaking methodology to establish the rates interstate pipelines may charge
for their services. A number of pipelines have obtained FERC authorization to
charge negotiated rates as one such alternative. Both the policy statement and
individual pipeline negotiated rate authorizations are currently subject to
appeal before the U.S. Court of Appeals for the D.C. Circuit. In February 1997,
the FERC announced a broad inquiry into issues facing the natural gas industry
to assist the FERC in establishing regulatory goals and priorities in the
post-Order No. 636 environment. In October 1997, the United States Court of
Appeals for the Fifth Circuit vacated a FERC decision and remanded it to the
agency with directions to reconsider the criteria FERC used to distinguish
nonjurisdictional gathering from jurisdictional transportation on offshore
pipeline systems.

Additional proposals and proceedings that might affect the natural gas
industry are pending before Congress, the FERC, state commissions and the
courts. The natural gas industry historically has been very heavily regulated;
therefore, there is no assurance that the less stringent regulatory approach
recently pursued by the FERC and Congress will continue.

Oil Price Controls and Transportation Rates. Sales of crude oil, condensate
and natural gas liquids by the Company are not currently regulated and are made
at market prices. The price the Company receives from the sale of these
products may be affected by the cost of transporting the products to market.

Environmental. Extensive federal, state and local laws regulating the
discharge of materials into the environment or otherwise relating to the
protection of the environment affect the Company's oil and natural gas
operations. Numerous governmental departments issue rules and regulations to
implement and enforce such laws, which are often difficult and costly to comply
with and which carry substantial civil and even criminal penalties for failure
to comply. Some laws, rules and regulations relating to protection of the
environment may, in certain circumstances, impose strict liability for
environmental contamination, rendering a person or entity liable for
environmental damages and cleanup costs without regard to negligence or fault
on the part of such person or entity. Other laws, rules and regulations may
restrict the rate of oil and natural gas production below the rate that would
otherwise exist or even prohibit exploration and production activities in
sensitive areas. In addition, state laws often require various forms of
remedial action to prevent pollution, such as closure of inactive pits and
plugging of abandoned wells. The regulatory burden on the oil and gas industry
increases the Company's cost of doing business and consequently affects the
Company's profitability. The Company believes that it is in substantial
compliance with current applicable environmental laws and regulations and that
continued compliance with existing requirements will not have a material
adverse impact on the Company's operations. However, environmental laws and
regulations have been subject to frequent changes over the years, and the
imposition of more stringent requirements could have a material adverse effect
upon the capital expenditures or competitive position of the Company.

The Comprehensive Environmental Response, Compensation and Liability Act
("CERCLA") imposes liability, without regard to fault or the legality of the
original act, on certain classes of persons that are considered to be
responsible for the release of a "hazardous substance" into the environment.
These persons include the current or former owner or operator of the disposal
site or sites where the release occurred and companies that disposed or
arranged for the disposal of hazardous substances at the disposal site. Under
CERCLA such persons may be subject to joint and several liability for the costs
of investigating and cleaning up hazardous substances that have been released
into the environment, for damages to natural resources and for the costs of
certain health studies. Comparable state statutes also impose liability on the
owner or operator of a property for remediation of environmental contamination
existing on such property. In addition, companies that incur liability
frequently confront third party claims because it is not uncommon for
neighboring landowners and other third parties to file claims for personal
injury and property damage allegedly caused by hazardous substances or other
pollutants released into the environment from a polluted site.

The Company currently owns or leases, and has in the past owned or leased,
numerous properties that have been used for the exploration and production of
oil and natural gas and for other uses associated with the oil and gas
industry. Although the Company has followed operating and disposal practices
that it considered appropriate under applicable laws and regulations,
hydrocarbons or other wastes may have been disposed of or released on or under
the properties owned or leased by the Company or on or under other locations
where such wastes were taken for disposal. In addition, the Company owns or
leases properties that have been operated by third parties in the past. The
Company could incur liability under CERCLA or comparable state statutes for
contamination caused by wastes it generated or for contamination existing on
properties it owns or leases, even if the contamination was caused by the waste
disposal practices of the prior owners or operators of the properties.

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<PAGE> 49
The Federal Solid Waste Disposal Act, as amended by the Resource
Conservation and Recovery Act of 1976 ("RCRA"), regulates the generation,
transportation, storage, treatment and disposal of hazardous wastes and can
require cleanup of hazardous waste disposal sites. RCRA currently excludes
drilling fluids, produced waters and other wastes associated with the
exploration, development or production of oil and natural gas from regulation
as "hazardous waste." A similar exemption is contained in many of the state
counterparts to RCRA. Disposal of such nonhazardous oil and natural gas
exploration, development and production wastes usually is regulated by state
law. Other wastes handled at exploration and production sites or used in the
course of providing well services may not fall within this exclusion. Moreover,
stricter standards for waste handling and disposal may be imposed on the oil
and gas industry in the future. From time to time legislation has been proposed
in Congress that would revoke or alter the current exclusion of exploration,
development and production wastes from the RCRA definition of "hazardous
wastes" thereby potentially subjecting such wastes to more stringent handling
and disposal requirements. If such legislation were enacted, or if changes to
applicable state regulations required the wastes to be managed as hazardous
wastes, it could have a significant impact on the operating costs of the
Company, as well as the oil and gas industry in general.

The Company's operations are also subject to the Clean Air Act (the "CAA")
and comparable state and local requirements. Amendments to the CAA were adopted
in 1990 and contain provisions that may result in the gradual imposition of
certain pollution control requirements with respect to air emissions from
operations of the Company. The Company may be required to incur certain capital
expenditures in the next several years for air pollution control equipment in
connection with obtaining and maintaining operating permits and approvals for
air emissions. However, the Company believes its operations will not be
materially adversely affected by any such requirements, and the requirements
are not expected to be any more burdensome to the Company than to other
similarly situated companies involved in oil and natural gas exploration and
production activities or well servicing activities.

The Federal Water Pollution Control Act of 1972 (the "FWPCA") imposes
restrictions and strict controls regarding the discharge of wastes, including
produced waters and other oil and natural gas wastes, into navigable waters.
These controls have become more stringent over the years, and it is probable
that additional restrictions will be imposed in the future. Permits must be
obtained to discharge pollutants into state and federal waters. The FWPCA
provides for civil, criminal and administrative penalties for unauthorized
discharges of oil and other hazardous substances and imposes substantial
potential liability for the costs of removal or remediation. State laws
governing discharges to water also provide varying civil, criminal and
administrative penalties and impose liabilities in the case of a discharge of
petroleum or its derivatives, or other hazardous substances, into state waters.
In addition, the Environmental Protection Agency has promulgated regulations
that require many oil and natural gas production sites, as well as other
facilities, to obtain permits to discharge storm water runoff. The Company
believes that compliance with existing requirements under the FWPCA and
comparable state statutes will not have a material adverse effect on the
Company's financial condition or results of operations.

The Company maintains insurance against "sudden and accidental" occurrences
which may cover some, but not all, of the environmental risks described above.
Most significantly, the insurance maintained by the Company may not cover the
risks described above that are not attributable to a single, abrupt event.
Further, there can be no assurance that such insurance will continue to be
available to cover all such costs or that such insurance will be available at
premium levels that justify its purchase. The occurrence of a significant event
not fully insured or indemnified against could have a material adverse effect
on the Company's financial condition and results of operations.

Regulation of Oil and Natural Gas Exploration and Production. Exploration
and production operations of the Company are subject to various types of
regulation at the federal, state and local levels. Such regulations include
requiring permits and drilling bonds for the drilling of wells, regulating the
location of wells, the method of drilling and casing wells, and the surface use
and restoration of properties upon which wells are drilled. Many states also
have statutes or regulations addressing conservation matters, including
provisions for the unitization or pooling of oil and gas properties, the
establishment of maximum rates of production from oil and gas wells and the
regulation of spacing, plugging and abandonment of such wells. Some state
statutes limit the rate at which oil and gas can be produced from the Company's
properties. See "Risk Factors--Regulatory and Environmental Risks" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Hedging Activities."

ABANDONMENT COSTS

The Company is responsible for payment of plugging and abandonment costs on
oil and natural gas properties pro rata to its working interest. Historically,
the ultimate aggregate salvage value of lease and well equipment located on the
Company's properties has exceeded the costs of abandoning such properties.
There can be no assurance, however, that such historical trend will continue or
that the Company will be successful in avoiding additional expenses in
connection with the abandonment of any of its properties. In addition,
abandonment costs and their

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<PAGE> 50
timing may vary due to many factors including actual production results,
inflation rates and changes in environmental laws and regulations.

OPERATING HAZARDS AND INSURANCE

The oil and natural gas business involves a variety of operating risks,
including the risk of fire, explosion, blowout, pipe failure, casing collapse,
unusual or unexpected formation pressures and environmental hazards such as oil
spills, gas leaks, ruptures and discharges of toxic gases, the occurrence of
any of which could result in substantial losses to the Company due to injury or
loss of life, severe damage to or destruction of property, natural resources
and equipment, pollution or other environmental damage, cleanup
responsibilities, regulatory investigation and penalties and suspension of
operations.

In accordance with customary industry practice, the Company maintains
insurance against some, but not all, of the operating risks described above.
The Company's insurance does not cover business interruption or protect against
loss of revenues. There can be no assurance that any insurance obtained by the
Company will be adequate to cover any losses or liabilities. The Company cannot
predict the continued availability of insurance or the availability of
insurance at economic rates. The occurrence of a significant event against
which it is not fully insured or indemnified could have a material adverse
effect on the Company's financial condition or results of operations.

TITLE TO PROPERTIES

The Company believes it has satisfactory title to all of its producing
properties in accordance with standards generally accepted in the oil and
natural gas industry. The Company's properties are subject to customary royalty
interests, liens incident to operating agreements, liens for current taxes and
other burdens that the Company believes do not materially interfere with the
use of or affect the value of such properties. Many of the Company's oil and
natural gas properties are held in the form of mineral leases. The Company's
indebtedness under the T.E.P. Financing was, and indebtedness to be incurred
under the Credit Facility is expected to be, secured by substantially all of
the Company's oil and natural gas properties.

As is customary in the oil and natural gas industry, a preliminary
investigation of title is made at the time of acquisition of undeveloped
properties. Title investigations, including a title opinion of local counsel,
are generally completed, however, before commencement of drilling operations or
the acquisition of producing properties. The Company believes that its methods
of investigating title to, and acquiring, its oil and natural gas properties
are consistent with practices customary in the industry and that it has
generally satisfactory title to the leases covering its proved reserves.

EMPLOYEES

At March 31, 1998, the Company employed 15 full-time employees (of which
three were engineers) and four independent contractors, including one geologist
and three gaugers. The Company believes that its relationships with its
employees are satisfactory. None of the Company's employees are covered by a
collective bargaining agreement. From time to time, the Company utilizes the
services of independent consultants and contractors to perform various
professional services, particularly in the areas of construction, design, well
site surveillance, permitting and environmental assessment.

LEGAL PROCEEDINGS

From time to time the Company is a party to various legal proceedings
arising in the ordinary course of business, but is not currently a party to
litigation that it believes would have a material adverse effect on the
financial condition or results of operations of the Company.

MANAGEMENT

DIRECTORS AND EXECUTIVE OFFICERS

The following table sets forth the names, ages and positions of the
directors and executive officers of the Company. A summary of the background
and experience of each of these individuals is set forth following the table.

<TABLE>
<CAPTION>
NAME AGE POSITION WITH COMPANY
---- --- ---------------------
<S> <C> <C>
Glenn D. Hart . . . . . . . . . . . . . . . . 41 Chairman of the Board and Chief Executive Officer
Michael G. Farmar . . . . . . . . . . . . . . 40 President, Chief Operating Officer and Director
Jerry F. Holditch . . . . . . . . . . . . . . 40 Vice President-Exploration and Director
</TABLE>

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<PAGE> 51
<TABLE>
<S> <C> <C>
Robert L. Swanson . . . . . . . . . . . . . . 40 Vice President-Finance
Scott R. Sampsell . . . . . . . . . . . . . . 41 Vice President, Controller, Treasurer and Secretary
Jim R. Smith . . . . . . . . . . . . . . . . 58 Director
Jack I. Tompkins . . . . . . . . . . . . . . 52 Director
Bryant H. Patton . . . . . . . . . . . . . . 39 Director
</TABLE>

Glenn D. Hart served as President of the Company from its inception in 1982
until August 1996, when he was elected to his current position as Chairman of
the Board and Chief Executive Officer. From 1980 to 1983, Mr. Hart was an
engineering manager with Sanchez-O'Brien Oil & Gas Corporation, an independent
exploration and production company in South Texas. From 1978 to 1980, he held
several engineering positions with Tenneco Oil Company's Gulf Coast District.
Mr. Hart has a B.S. in petroleum engineering from Texas A&M University.

Michael G. Farmar has served as President and Director of the Company since
August 1996 and was elected Chief Operating Officer in January 1997. From
January 1995 to August 1996, Mr. Farmar served as a financial advisor to small
independent oil companies. In 1988, Mr. Farmar joined Odyssey Petroleum
Company, where, as General Manager, he was responsible for operational and
financial functions of the company until it was sold in 1994. As an analyst for
Maxus Exploration Company from 1986 until 1988, Mr. Farmar worked on mergers,
acquisitions and divestitures. From 1984 to 1986, Mr. Farmar served in Diamond
Shamrock Exploration Company's strategic planning group. Mr. Farmar began his
career with Chevron U.S.A. in 1980 and held drilling and production engineering
positions through 1983. Mr. Farmar holds a B.S. in petroleum engineering from
the University of Southern California and an MBA from Southern Methodist
University.

Jerry F. Holditch joined the Company in 1987 and has served as Vice
President of Exploration and as Director since that time. From 1982 until 1987,
Mr. Holditch served as a developmental geologist with TransTexas Gas
Corporation and its predecessors, where he was involved in numerous drilling
activities in the Lobo Trend area. From 1980 until 1982, Mr. Holditch was
employed as a Gulf Coast geologist with Gulf Oil Corporation. Mr. Holditch
holds a B.S. in geology from Texas A&M University.

Robert L. Swanson joined the Company in September 1997 and has served as
Vice President of Finance since that time. From 1994 until joining the
Company, Mr. Swanson served as controller, chief financial officer and
treasurer of Southwest Ice Enterprises, L.C., a Texas limited liability company
and the owner and operator of a professional hockey team in Houston, Texas.
Prior to joining Southwest Ice Enterprises, L.C., Mr. Swanson was employed as a
public accountant from 1985 to 1994 with two Houston-area accounting firms and
one San Antonio-area accounting firm. Mr. Swanson is a certified public
accountant and is a member of the American Institute of Certified Public
Accountants and the Texas Society of Certified Public Accountants.

Scott R. Sampsell, 41, has served as the Company's Controller and Treasurer
since 1992 and was appointed to the additional positions of Vice President and
Secretary in April 1998. From 1982 to 1992, Mr. Sampsell worked in various
accounting supervisory roles with Union Texas Petroleum Corporation, an
independent exploration and production company, including Manager of Financial
and Operational Accounting for one of its subsidiaries. From 1977 until 1982,
Mr. Sampsell worked with Supron Energy Corporation, an independent exploration
and production company, where he began as staff accountant and advanced to
Assistant Treasurer.

Jim R. Smith has served as a Director of the Company since November 1996.
Since 1964, Mr. Smith has managed a privately-owned real estate development
company headquartered in Houston, Texas, which he founded. Mr. Smith is also a
private investor and holds positions with several non-profit organizations,
including Chairman of the Board of Directors of Goodwill Industries of Houston.

Jack I. Tompkins has served as a Director of the Company since July 1997.
Mr. Tompkins is a managing director of Raintree Equity Advisors, L.L.C. and is
Chairman of the Board of Automotive Realty Trust of America. From 1988 until
October 1996, Mr. Tompkins served as Senior Vice President, Chief Information,
Administrative and Accounting Officer at Enron Corporation. He also served as a
member of Enron Corporation's Management Committee from 1989 through 1996. Mr.
Tompkins began his career with Arthur Young & Co., serving three years before
joining Arthur Andersen, L.L.P., where he was elected to the partnership in
1981 and was in charge of the Mergers and Acquisitions Program for the Houston
office. Mr. Tompkins also serves as chairman of the board of Boys and Girls
Country of Houston, Inc., and formerly served on the board of directors of Bank
of America Texas, the Private Sector Council and Junior Achievement of
Southeast Texas, Inc.

Bryant H. Patton has served as a Director of the Company since July 1997.
Since 1991, Mr. Patton has been the Vice President of Associated Energy Managers
("AEM"), an institutional investment management firm specializing in private
investments in the energy industry. AEM has invested for its clients over $300
million with 23 different independent oil and gas companies through three
investment partnerships. Mr. Patton's industry experience spans 20 years

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<PAGE> 52
including ten years as an equity owner in a fully integrated, family-owned, oil
and gas producing company consisting at one time of seven entities and 350
employees.

INDEMNITY AGREEMENTS

MHI has entered into Indemnity Agreements with each of the directors of MHI
(who also serve as the directors of the Company), pursuant to which MHI has
agreed to indemnify each director to the fullest extent permitted under the
Texas Business Corporation Act. In addition, pursuant to the Agreement, MHI
shall advance reasonable expenses incurred by each director under certain
circumstances in any proceeding in which each director was, is or is threatened
to be named a defendant.

KEY EMPLOYEES

Sarah M. Ruddock, 38, joined the Company in 1994 as a landman and was
appointed Land Manager in 1995. From 1992 to 1994, she served as Director of
Supply for Natural Gas Resources, Inc., an independent natural gas marketing
company. Ms. Ruddock began her career in the oil and gas industry with Gulf
Oil Corporation, which was later acquired by Chevron U.S.A. in 1986. During her
tenure with Gulf/Chevron, Ms. Ruddock served as a natural gas trader in
Chevron's natural gas marketing group from 1988 until 1992 and as a U.S. Gulf
Coast Landman from 1981 to 1988.

Douglas R. Fogle, 42, has served as Engineering Manager of the Company
since 1994 after joining the Company in 1992 as a Production Engineer. From
1986 to 1991, Mr. Fogle worked as an insurance agent. From 1984 to 1986, Mr.
Fogle worked with Langham Energy, an independent exploration and production
company, as Senior Petroleum Engineer. Mr. Fogle worked from 1978 through 1984
with Champlin Petroleum (which was subsequently acquired by Union Pacific
Resources Company), an independent exploration and production company, first as
a Drilling and Completion Engineer and then, starting in 1983, as Staff
Production Engineer. Mr. Fogle has a B.S. in petroleum engineering from Texas
A&M University.

EXECUTIVE COMPENSATION

The following table sets forth certain summary information regarding
compensation paid or accrued by the Company to or on behalf of the Company's
executive officers for the fiscal year ended December 31, 1997.

SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>
ANNUAL COMPENSATION
-------------------
ALL OTHER
PRINCIPAL POSITIONS SALARY BONUS COMPENSATION
------------------- ------ ----- ------------
<S> <C> <C> <C>
GLENN D. HART . . . . . . . . . . . . . . . . . . . . . $144,000 $ 6,000 $ 11,303(2)
Chairman of the Board and Chief Executive Officer
MICHAEL G. FARMAR . . . . . . . . . . . . . . . . . . . 84,000 3,500 0
President and Chief Operating Officer
JERRY F. HOLDITCH . . . . . . . . . . . . . . . . . . . 60,000 2,500 104,946(3)
Vice President-Exploration
ROBERT L. SWANSON(1) . . . . . . . . . . . . . . . . . 19,375 2,583 0
Vice President-Finance
SCOTT R. SAMPSELL . . . . . . . . . . . . . . . . . . . 69,450 3,050 0
Vice President, Controller, Secretary and Treasurer
</TABLE>

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

(1) Mr. Swanson joined the Company on September 8, 1997.

(2) Represents the estimated value of Mr. Hart's personal use of a Company
vehicle.

(3) Represents amounts paid or accrued to Mr. Holditch during 1997 pursuant to
certain overriding royalty interests granted to him. See "--Overriding
Royalty Interests."

STOCK OPTION AND OTHER EMPLOYEE COMPENSATION PLANS

During 1996, contractual stock options were granted by MHI to certain
officers and directors of the Company to purchase up to 238,750 shares of
Common Stock, each at an exercise price of $0.10 per share. These stock options
were terminated in August 1997.

MHI has adopted the Michael Holdings, Inc. 1998 Stock Option Plan (the
"Option Plan") pursuant to which incentive stock options as defined in the
Internal Revenue Code of 1986, as amended ("ISOs"), and non-qualified

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<PAGE> 53

stock options ("NQOs") will be available for grant to key employees, consultants
and directors of MHI and the Company. The Option Plan is administered by the
Compensation Committee of the Board of Directors of MHI. A maximum of 194,000
shares, subject to adjustment for certain events of dilution, is available for
grant under the Option Plan. The Option Plan provides that the Option Agreement
applicable to the grant of options may provide that unmatured installments of
outstanding options will accelerate and become fully vested upon a "change of
control" of MHI (as defined in the Option Plan).

No options have yet been granted under the Option Plan. Grants to employees
and directors will be granted under the Option Plan at an exercise price equal
to not less than the fair market value per share on the date of grant. All such
options will have terms of not more than ten years and be exercisable in
cumulative annual installments of 33.33% of the total number of shares subject
to the option grants, beginning on the first anniversary of the date of grant.

The Option Plan provides that the plan may be amended or modified by the
Board of Directors of MHI without the approval of the shareholders of MHI,
except for any amendment which would increase the total number of shares
reserved for issuance under the Option Plan or amendments which require
shareholder approval pursuant to applicable legal requirements or securities
exchange rules.

OVERRIDING ROYALTY INTERESTS

The Company has had in place for a number of years an arrangement, and by
written agreement dated July 24, 1997 the Company formalized such arrangement,
pursuant to which it has granted to Jerry Holditch, Vice President--Exploration
and a director of the Company, a 1.5% of 8/8ths overriding royalty interest in
all leases acquired either directly or indirectly by the Company or its
affiliates in Webb County or Zapata County, Texas. For 1995, 1996 and 1997, Mr.
Holditch received from the Company $24,187, $32,638 and $104,946, respectively,
under the overriding royalty interests. The overriding royalty interests will
not apply to any producing properties acquired by the Company except for
deepenings or sidetracks of existing wells and all new wells drilled on
acquired producing properties. According to the terms of the agreement
establishing the overriding royalty interests, the Company's obligation to
assign overriding royalty interests to Mr. Holditch expires upon the death of
Mr. Holditch or upon his termination, resignation or retirement from the
Company; however, any overriding royalty interests assigned prior to such an
event shall be unaffected by the occurrence of that event. The agreement also
restricts Mr. Holditch's ability to compete with the Company in the Lobo Trend
for a period of three years following any resignation or retirement of Mr.
Holditch from the Company. If, following Mr. Holditch's retirement or
resignation, the Company becomes financially incapable of drilling or
completing wells on locations previously identified or selected by Mr.
Holditch, the Company shall provide written authorization to Mr. Holditch to
waive the three-year non-competition provision so that Mr. Holditch may pursue
the development of such location prospects. The Company does not anticipate
entering into any similar arrangements with any of its officers or directors in
the foreseeable future.

EMPLOYMENT AGREEMENTS

The Company has entered into employment agreements, effective April 1,
1998, with Glenn D. Hart, Michael G. Farmar and Jerry F. Holditch, pursuant to
which Mr. Hart will serve as Chief Executive Officer of the Company, Mr. Farmar
will serve as President of the Company and Mr. Holditch will serve as Vice
President-Exploration. Each employment agreement is for a term of two years and
is automatically renewed for a period of two years from and after the first day
of each calendar quarter, commencing July 1, 1998, unless either party gives
written notice at least 30 days prior to the end of the applicable period. The
employment agreements provide for an annual base salary ($270,000 for Mr. Hart,
$180,000 for Mr. Farmar and $100,000 for Mr. Holditch), which amount may be
increased subject to periodic reviews. In addition, Messrs. Hart, Farmar and
Holditch are eligible to receive an annual incentive bonus in an amount to be
determined by the Board of Directors, but in no event will such bonus amount be
less than 50% nor more than 100% of the employee's annual base salary. The
employment agreements of Messrs. Hart and Farmar further provide that the
employee shall be granted options under the Option Plan upon terms and
conditions and in an amount to be determined by the Compensation Committee. If
during the term of the agreement the employee's employment with the Company is
terminated without "cause" (as defined therein) or due to his resignation for
"good reason" (as defined therein), the Company will be obligated to pay the
employee payments in an amount equal to his base salary for the remaining term
of the agreement plus his accrued but unpaid bonus as of the date of
termination. The obligations of the Company under the employment agreements are
guaranteed by MHI.

Robert L. Swanson's employment arrangements with the Company provide that
he is entitled to an annual base salary plus any year-end bonus provided to the
Company staff. The Company increased his base salary from $62,000 to $80,000
per year effective April 1, 1998. In addition, Mr. Swanson is to be provided
stock options under the Option Plan upon terms and conditions and in an amount
to be determined by the Compensation Committee.

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<PAGE> 54
COMPENSATION OF DIRECTORS

Non-employee directors of the Company are eligible to receive grants of
nonqualified stock options to purchase shares of Common Stock pursuant to the
Option Plan. Based on their relative length of service as directors, Messrs.
Tompkins and Patton are expected to receive options to purchase 7,750 shares of
Common Stock, and Mr. Smith is expected to receive an option to purchase 15,500
shares of Common Stock, at exercise prices equal to the fair market value of
the Common Stock on the date of grant.

In addition, the Company's non-employee directors receive $2,000 plus
out-of-pocket expenses for each meeting of the Board of Directors that they
attend.

BOARD COMMITTEES

Pursuant to the Company's Bylaws, the Board of Directors has established
standing Audit and Compensation Committees. The Audit Committee recommends to
the Board the selection and discharge of the Company's independent auditors,
reviews the professional services performed by the auditors, the plan and
results of the auditing engagement and the amount of fees charged for audit
services performed by the auditors and evaluates the Company's system of
internal accounting controls. The Compensation Committee recommends to the
Board the compensation to be paid to the Company's directors, executive
officers and key employees and administers the compensation plans for the
Company's executive officers and directors. The members of the Audit Committee
are Messrs. Farmar, Smith and Tompkins. The members of the Compensation
Committee are Messrs. Smith, Tompkins and Patton.

CERTAIN TRANSACTIONS

The Company currently markets all of its natural gas through Upstream
Energy Services, L.L.C. ("Upstream") pursuant to a Natural Gas Sales Agreement
dated as of April 1, 1996. The Company and the predecessor to Upstream had
similar marketing arrangements prior to April 1996. During 1995, 1996 and 1997,
the Company paid Upstream or its predecessor marketing fees of $57,137,
$105,726 and $219,529, respectively, under these arrangements. Until August
1997, Glenn D. Hart, the Company's Chairman and Chief Executive Officer, owned
20% of the equity securities of Upstream and its predecessor. In such capacity,
Mr. Hart received dividends of $150,716, $26,875 and $6,000 in 1995, 1996 and
1997, respectively. Additionally, Upstream executed a promissory note in an
aggregate principal amount of $20,000 payable to Mr. Hart in connection with
the purchase by Upstream of Mr. Hart's interest. Interest on the indebtedness
accrues at a rate of 8.25% per annum. Neither Mr. Hart nor the Company or any
other officer or director of the Company currently owns any interest in
Upstream.

The Company has granted to Jerry F. Holditch, Vice President-Exploration
and a director of the Company, a 1.5% of 8/8ths overriding royalty interest in
all leases acquired either directly or indirectly by the Company or its
affiliates in Webb County and Zapata County, Texas. See "Management--Overriding
Royalty Interests."

On June 10, 1997, Glenn D. Hart, Chairman of the Board and Chief Executive
Officer of the Company, entered into an agreement with the Company pursuant to
which Mr. Hart granted the Company an option to purchase an undivided
two-thirds working interest, which Mr. Hart owns in his individual capacity, in
a leasehold interest. The leasehold interest expires on May 30, 2000 and covers
approximately 750 acres in Webb County, Texas. The exercise price of the option
is $87,500. In addition, pursuant to the agreement, if the purchase option is
exercised, Mr. Hart will be entitled to reserve a 1% overriding royalty
interest. As additional consideration for the option, pursuant to the agreement
the Company has agreed to pay to Mr. Hart for so long as the purchase option
remains unexercised (i) on a monthly basis, an amount equal to one-twelfth of
the sum of the prime interest rate as published by Comerica Bank from time to
time plus 2%, multiplied by $87,500, and (ii) all rental payments due during
the primary term of the lease.

Concurrently with the closing of the sale of the Old Notes, the Company
acquired, for a purchase price of $11.0 million, the Net Profits Interest from
Cambrian, at which time Cambrian received a warrant to acquire 38,671 shares of
Common Stock at an exercise price of $8.00 per share. See "Use of Proceeds,"
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Financing Arrangements" and "Description of Capital
Stock--Warrants."

From May to July of 1995, the Company made loans to Mr. Hart, Chairman of
the Board and Chief Executive Officer of the Company, in an aggregate principal
amount of $314,700. Mr. Hart used the proceeds for unrelated investments.
Interest on the indebtedness accrued at a rate of 5% per annum. Mr. Hart repaid
$302,055 of such indebtedness to the Company in December 1995 and repaid the
balance, together with interest, in May 1997. The maximum amount of such loans
outstanding during 1995, 1996 and 1997 was $314,700, $20,034 and $20,242,
respectively.

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<PAGE> 55

In September 1995, the Company distributed its equity interest in two non
energy-related limited liability companies to the shareholders of the Company.
See Note 7 of Notes to Financial Statements of the Company.

During the year ended December 31, 1995, the Company distributed its
overriding royalty interests in certain oil and natural gas properties to the
shareholders of the Company. The distribution was recorded at the book value of
$60,000. See Note 8 of Notes to Financial Statements of the Company.

Bryant Patton, a director of MHI and the Company, is a vice president of
Associated Energy Managers, which facilitated a loan in 1991 from Endowment
Energy Partners, L.P. to the Company in the original principal amount of
approximately $7.0 million. The loan was paid in full in 1996 with the proceeds
of the T.E.P. Financing.

Although the Company has no present intention to do so, it may in the
future enter into other transactions and agreements incidental to its business
with its directors, officers and principal shareholders. The Company intends
any such transactions and agreements to be on terms no less favorable to the
Company than could be obtained from unaffiliated parties on an arms' length
basis.

PRINCIPAL SHAREHOLDERS

The following table sets forth, as of March 31, 1998, (i) the number of
shares owned by each person known by the Company to own beneficially Common
Stock of MHI, (ii) the number of shares owned beneficially by each director and
(iii) the number of shares owned beneficially by all executive officers and
directors as a group. MHI owns of record all of the issued and outstanding
shares of common stock of the Company.

<TABLE>
<CAPTION>
COMMON STOCK
BENEFICIALLY PERCENTAGE OF
NAME OF PERSON OR GROUP OWNED(1) OWNERSHIP
----------------------- -------- ---------
<S> <C> <C>
DIRECTORS
Glenn D. Hart . . . . . . . . . . . . . . . . . . . . . . . . . . 301,900 39.0%
Michael G. Farmar . . . . . . . . . . . . . . . . . . . . . . . . 255,000 33.0%
Jerry F. Holditch . . . . . . . . . . . . . . . . . . . . . . . . 64,500 8.3%
Jim R. Smith . . . . . . . . . . . . . . . . . . . . . . . . . . 80,650 10.4%
Jack I. Tompkins . . . . . . . . . . . . . . . . . . . . . . . . -- --
Bryant H. Patton . . . . . . . . . . . . . . . . . . . . . . . . -- --
All executive officers and directors, as a group (seven
persons) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 702,050 90.7%
OTHER SHAREHOLDERS
Scott R. Sampsell . . . . . . . . . . . . . . . . . . . . . . . . 24,200 3.1%
Douglas R. Fogle . . . . . . . . . . . . . . . . . . . . . . . . 34,275 4.4%
Stanley T. Polak . . . . . . . . . . . . . . . . . . . . . . . . 12,900 1.7%
Cambrian Capital Partners L.P.(2) . . . . . . . . . . . . . . . . 38,671 4.8%
</TABLE>

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

(1) Except as otherwise noted, the named shareholder has sole voting,
investment and dispositive power.

(2) Represents shares that may be acquired on the exercise of a warrant at an
exercise price of $8.00 per share. See "Description of Capital Stock --
Warrants."

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<PAGE> 56
DESCRIPTION OF NOTES

The Old Notes were, and the New Notes will be, issued pursuant to the
Indenture dated April 2, 1998 (the "Indenture"), between the Company and State
Street Bank and Trust Company, as trustee (the "Trustee"). The terms of the New
Notes are identical in all material respects to the Old Notes, except that the
New Notes have been registered under the Securities Act and, therefore, will
not bear legends restricting their transfer. Upon the issuance of the New
Notes, the Indenture will be subject to the Trust Indenture Act of 1939, as
amended (the "Trust Indenture Act"). The New Notes are subject to the
Indenture, and Holders of the Old Notes and New Notes are referred to the
Indenture and the Trust Indenture Act. The following summary of the material
provisions of the Indenture does not purport to be complete and is qualified in
its entirety by reference to the Indenture, including the definitions therein
of certain terms used below. Copies of the Indenture are made available to
prospective investors as set forth under the caption "--Additional
Information." The definitions of certain terms used in the following summary
are set forth below under the caption "--Certain Definitions."

GENERAL

The aggregate principal amount of the Old Notes is, and the New Notes will
be, limited to $135.0 million. Each New Note will mature on April 1, 2005 and
will bear interest at an annual rate of 11 1/2% per annum from the most recent
date to which interest has been paid or, if no interest has been paid, from the
date of original issuance, payable semiannually in arrears on April 1 and
October 1 of each year, commencing October 1, 1998, to the Person in whose name
the New Note is registered at the close of business on March 15 or September 15
preceding such interest payment date. Interest will be computed on the basis
of a 360-day year of twelve 30-day months. Liquidated Damages also will be
payable on the New Notes if the Company fails to satisfy certain requirements
set forth in the Registration Rights Agreement. Principal of, and premium, if
any, interest and Liquidated Damages, if any, on the New Notes will be payable
at the office or agency maintained for such purpose within New York City, New
York, or at the option of the Company, payment of interest and Liquidated
Damages, if any, may be made by check mailed to the Holders of the New Notes at
their respective addresses set forth in the register of Holders of the New
Notes; provided that all payments of principal, premium, interest and
Liquidated Damages, if any, with respect to the New Notes, the Holders of which
have given wire transfer instructions to the Company, will be required to be
made by wire transfer of immediately available funds to the accounts specified
by the Holders thereof. Until otherwise designated by the Company, the
Company's office or agency in New York City will be the office of the Trustee
maintained for such purpose. The New Notes will be issued in denominations of
$1,000 and integral multiples thereof.

Under certain circumstances, the Company will be able to designate its
Subsidiaries as Unrestricted Subsidiaries. Unrestricted Subsidiaries will not
be subject to most of the restrictive covenants set forth in the Indenture. As
of the date of the Indenture, the Company had no Subsidiaries.

RANKING

The Old Notes are, and the New Notes will be, general senior unsecured
obligations of the Company. The Old Notes rank, and the New Notes will rank,
pari passu with all existing and future Senior Indebtedness of the Company and
senior in right of payment to all future Subordinated Indebtedness of the
Company. Holders of secured Indebtedness of the Company and its Subsidiaries,
including under the Credit Facility, have and will have claims with respect to
assets constituting collateral for such Indebtedness that are prior to the
claims of the Holders of the New Notes. To the extent of such pledged
collateral, such Indebtedness will have priority over the New Notes. As of
December 31, 1997, on a pro forma basis after giving effect to the sale of the
Old Notes, the application of the net proceeds therefrom, the exchange of the
Old Notes for New Notes and the Transactions, the Company would have had no
secured Indebtedness and no Indebtedness other than the Notes. There is
currently no Indebtedness of the Company which would constitute Subordinated
Indebtedness.

GUARANTEES

The Old Notes are, and the New Notes will be, jointly and severally
unconditionally guaranteed by each of the Company's future Restricted
Subsidiaries. As of the date of the Indenture, the Company had no Subsidiaries.
The Indenture provides that each Person that is or becomes a Restricted
Subsidiary on or after the Issue Date will jointly and severally guarantee the
payment of the Note Obligations in the manner described herein. Each Guarantor
will guarantee to each Holder and the Trustee, the full and prompt performance
of the Note Obligations of the Company, including the payment of principal of
(premium, if any, on) and interest and Liquidated Damages, if any, on the Notes
pursuant to its Guarantee. The Obligations of each Guarantor under its
Guarantee will be general senior unsecured obligations of such Guarantor, which
will rank pari passu with all existing and future Senior Indebtedness of such
Guarantor and senior in right of payment to all future Subordinated
Indebtedness of such Guarantor.

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<PAGE> 57
The Obligations of each Guarantor under its Guarantee are limited to the
amount as will, after giving effect to all other contingent and fixed
liabilities of such Guarantor and after giving effect to any collections from
or payments made by or on behalf of any other Restricted Subsidiaries that
become Guarantors in respect of the Obligations of such other Restricted
Subsidiary under its Guarantee or pursuant to its contribution Obligations
under the Indenture, result in the Obligations of the Guarantor under its
Guarantee not constituting a fraudulent conveyance or fraudulent transfer under
federal, state or foreign law. In the event of additional guarantors, a
Guarantor that makes a payment or distribution under a Guarantee shall be
entitled to a contribution from each other Restricted Subsidiary that has
become a Guarantor in a pro rata amount based on the Adjusted Net Assets of the
Guarantor.

The Indenture provides that, subject to the following paragraph, no
Guarantor (including any existing or future Restricted Subsidiary that becomes
an additional Guarantor) may consolidate with or merge with or into (whether or
not such Guarantor is the surviving Person) another Person (whether or not
affiliated with such Guarantor) unless (i) the Person formed by or surviving
any such consolidation or merger (if other than such Guarantor) is a
corporation organized and existing under the laws of the United States of
America, any state thereof, or the District of Columbia and expressly assumes
all the obligations of such Guarantor pursuant to a supplemental indenture, in
a form reasonably satisfactory to the Trustee, under the Notes, the Indenture
and the Registration Rights Agreement, (ii) immediately before and after giving
effect to such transaction, no Default or Event of Default exists, (iii) the
Guarantor or the Person formed by or surviving any such consolidation or merger
on a pro forma basis will have Consolidated Net Worth (immediately after the
transaction) equal to or greater than the Consolidated Net Worth of such
Guarantor immediately preceding the transaction and (iv) the Company will, at
the time of such transaction after giving pro forma effect thereto as if such
transaction had occurred at the beginning of the applicable Reference Period,
be permitted to incur at least $1.00 of additional Indebtedness as described in
the first paragraph under "--Certain Covenants--Limitation on Incurrence of
Additional Indebtedness"; provided that the merger of any Guarantor with or
into the Company or another Guarantor under circumstances where the Company or
such Guarantor, as applicable, is the surviving Person shall not be subject to
the foregoing provisions.

The Indenture provides that in the event of a sale or other disposition of
all or substantially all of the assets of any Guarantor, by way of merger,
consolidation or otherwise, or a sale or other disposition of all of the
Capital Stock of any Guarantor, then the Guarantor (in the event of a sale or
other disposition, by way of such a merger, consolidation or otherwise, of all
of the Capital Stock of such Guarantor) or the corporation acquiring the
property (in the event of a sale or other disposition of all or substantially
all of the assets of such Guarantor) will be released and relieved of any
obligations under its Guarantee; provided that the Net Cash Proceeds of such
sale or other disposition are applied in accordance with the provisions of the
Indenture described under "--Certain Covenants --Limitation on Sale of Assets."

OPTIONAL REDEMPTION

The Old Notes are not, and the New Notes will not be, redeemable at the
Company's option prior to April 1, 2003. Thereafter, the Old Notes are, and
the New Notes will be, subject to redemption at any time at the option of the
Company, in whole or part, upon not less than 30 nor more than 60 days' notice,
at the redemption prices (expressed as percentages of the principal amount of
the Notes) set forth below, plus, in each case, accrued and unpaid interest and
Liquidated Damages, if any, thereon to the applicable redemption date, if
redeemed during the 12-month period beginning on April 1 of the years indicated
below:

<TABLE>
<CAPTION>
YEAR PERCENTAGE
---- ----------
<S> <C>
2003 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 105.750%
2004 and thereafter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100.000%
</TABLE>

Notwithstanding the foregoing, prior to April 1, 2001, the Company may
redeem up to 30% of the aggregate principal amount of the Notes originally
issued at a redemption price of 111.5% of the principal amount thereof, plus
accrued and unpaid interest and Liquidated Damages, if any, thereon to the date
of redemption, with all or a portion of the aggregate net proceeds received by
the Company from one or more Equity Offerings, provided that (i) at least 65%
of the aggregate principal amount of the Notes originally issued remains
outstanding immediately after the occurrence of each such redemption and (ii)
each such redemption shall occur within 90 days after the date of the closing
of each such Equity Offering.

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<PAGE> 58
SELECTION AND NOTICE

If less than all of the New Notes are to be redeemed at any time, selection
of New Notes for redemption will be made by the Trustee in compliance with the
requirements of the principal national securities exchange, if any, on which
the New Notes are listed, or if the New Notes are not so listed, on a pro rata
basis, by lot or by any other method that the Trustee considers fair and
appropriate; provided that no New Notes with a principal amount of $1,000 or
less will be redeemed in part. Notice of redemption will be mailed by first
class mail at least 30 but not more than 60 days before the date fixed for
redemption to each Holder of New Notes to be redeemed at its registered
address. Notices of redemption may not be conditional. If any New Note is to be
redeemed in part only, the notice of redemption that relates to such New Note
will state the portion of the principal amount thereof to be redeemed. A new
New Note in a principal amount equal to the unredeemed portion thereof will be
issued in the name of the Holder thereof upon cancellation of the original New
Note. New Notes called for redemption become due on the date fixed for
redemption. On and after the date fixed for the redemption date, interest and
Liquidated Damages, if any, cease to accrue on New Notes or portions called for
redemption.

MANDATORY REDEMPTION

Except as set forth below under the captions "--Change of Control," and
"--Certain Covenants--Limitation on Sale of Assets," the Company is not
required to make mandatory redemption or sinking fund payments with respect to
the Old Notes, nor will it be required to do so with respect to the New Notes.

CHANGE OF CONTROL

The Indenture provides that, upon the occurrence of any Change of Control,
the Company will offer (a "Change of Control Offer") to repurchase all
outstanding Notes at a purchase price equal to 101% of the aggregate principal
amount of the Notes, plus accrued and unpaid interest and Liquidated Damages, if
any, thereon to the date fixed for repurchase (the "Change of Control Payment").
The obligation of the Company to offer to repurchase the New Notes upon a Change
of Control may not be waived by the Company, Board of Directors or Trustees
without the written consent of at least a majority in principal amount of the
then outstanding New Notes. See "-Modification and Waiver". Within 10 business
days following a Change of Control, the Company will mail a notice to each
Holder describing the transaction or transactions that constitute the Change of
Control and offer to repurchase Notes on the date specified in such notice,
which date shall be no earlier than 30 days and no later than 60 days from the
date such notice is mailed (the "Change of Control Payment Date"), pursuant to
the procedures required by the Indenture and described in such notice. The
Change of Control Offer will be deemed to have commenced upon mailing of a
notice pursuant to the Indenture and will terminate 20 business days after its
commencement, unless a longer offering period is required by law. Promptly after
the termination of the Change of Control Offer, the Company will repurchase and
mail or deliver payment for all Notes tendered in response to the Change of
Control Offer.

On the Change of Control Payment Date, the Company will, to the extent
lawful, (i) accept for payment Notes or portions thereof tendered pursuant to
the Change of Control Offer, (ii) deposit with the paying agent an amount equal
to the Change of Control Payment in respect of all Notes or portions thereof so
tendered and (iii) deliver to the Trustee the Notes so accepted together with
an officers' certificate stating the aggregate principal amount of the Notes or
portions thereof being purchased by the Company. The paying agent will promptly
mail to each Holder of the Notes so accepted payment in an amount equal to the
repurchase price for such Notes, and the Trustee will promptly authenticate and
mail (or cause to be transferred by book entry) to each Holder a new Note equal
in principal amount to any unpurchased portion of the Notes surrendered, if
any; provided, that each such Note will be in a principal amount of $1,000 or
an integral multiple thereof.

The Change of Control provisions described above will be applicable whether
or not any other provisions of the Indenture are applicable. Except as
described above with respect to a Change of Control, the Indenture does not
contain provisions that permit the Holders of the Notes to require the Company
to repurchase or redeem the Notes in the event of a takeover, recapitalization
or similar transaction.

"Change of Control" means the occurrence of any of the following: (i) the
sale, lease or transfer, in one or a series of related transactions, of all or
substantially all (under New York common law, the definition of "all or
substantially all" is determined by whether such sale, lease or transfer is made
in the usual or regular course of the business actually conducted by the
Company) of MHI's assets or the Company's assets, in either case, to any Person
or group (as such term is used in Section 13(d)(3) of the Exchange Act); (ii)
the adoption of a plan relating to the liquidation or dissolution of MHI or the
Company; (iii) the acquisition, directly or indirectly, by any Person or group
(as such term is used in Section 13(d)(3) of the Exchange Act) of beneficial
ownership (as defined in Rule 13d-3 under the Exchange Act) of more than 50% of
the aggregate voting power of the Voting Stock of MHI or the Company (for the
purposes of this definition, such other Person shall be deemed to beneficially
own any Voting Stock of a specified corporation held by a parent corporation, if
such other Person is the beneficial owner (as defined above), directly or
indirectly, of more than 35% of the voting power of the Voting Stock of such
parent corporation); or (iv) during any period of two consecutive years,
individuals who at the beginning of such period constituted the Board of
Directors of MHI or the Company (together with any new directors whose election
by such

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<PAGE> 59
Board of Directors or whose nomination for election by the shareholders of MHI
or the Company, as the case may be, was approved by a vote of 66 2/3% of the
directors of MHI or the Company, as the case may be, then still in office who
were either directors at the beginning of such period or whose election or
nomination for election was previously so approved) cease for any reason to
constitute a majority of the Board of Directors of MHI or the Company, as the
case may be, then in office.

The Company will comply with Section 14 of the Exchange Act and the
provisions of Regulation 14E and any other tender offer rules under the
Exchange Act and any other federal and state securities laws, rules and
regulations which may then be applicable to any Change of Control Offer.

Certain terms of the Credit Facility may prohibit the Company from
purchasing any Notes following a Change of Control and provide that certain
change of control events with respect to the Company would constitute a default
thereunder. In the event a Change of Control occurs at a time when the Company
is prohibited from purchasing any Notes, the Company could seek the consent of
such lenders to the purchase of any Notes or could attempt to refinance the
indebtedness that contains such prohibition. If the Company does not obtain such
a consent or repay such indebtedness, the Company will remain prohibited from
purchasing any Notes. The Company's failure to offer to purchase the Notes, or
to purchase tendered Notes, following a Change of Control would constitute an
Event of Default under the Indenture which, in turn, will constitute a default
under the Credit Facility.

The Company will not be required to make a Change of Control Offer
following a Change of Control if a third party makes the Change of Control
Offer in the manner, at the times and otherwise in compliance with the
requirements set forth in the Indenture applicable to a Change of Control Offer
made by the Company and purchases all Notes validly tendered and not withdrawn
under such Change of Control.

CERTAIN COVENANTS

Limitation on Incurrence of Additional Indebtedness. The Indenture provides
that the Company will not, and will not permit any of its Restricted
Subsidiaries to, directly or indirectly, issue, incur, assume, guarantee,
become liable, contingently or otherwise, with respect to or otherwise become
responsible for the payment of (collectively, "incur") any Indebtedness (other
than Permitted Indebtedness); provided, however, that if no Default or Event of
Default shall have occurred and be continuing at the time or as a consequence
of the incurrence of such Indebtedness, the Company or its Restricted
Subsidiaries may incur Indebtedness if, on a pro forma basis, after giving
effect to such incurrence and the application of the proceeds therefrom, both
of the following tests shall have been satisfied: (i) the Consolidated Interest
Coverage Ratio for the last four fiscal quarter Reference Period immediately
preceding the incurrence of such Indebtedness is at least (a) 2.25-to-1.0 with
respect to any date of incurrence of additional Indebtedness occurring on or
before the first anniversary date of the Issue Date, (b) 2.50-to-1.0 with
respect to any date of incurrence of additional Indebtedness occurring after
the first anniversary date of the Issue Date and on or before October 1, 2000,
or (c) 2.75-to-1.0 with respect to any date of incurrence of additional
Indebtedness occurring after October 1, 2000 and (ii) Adjusted Consolidated Net
Tangible Assets would have been equal to or greater than 150% of Indebtedness
of the Company and its Restricted Subsidiaries.

Notwithstanding the foregoing, if no Default or Event of Default shall have
occurred and be continuing at the time or as a consequence of the incurrence of
such Indebtedness, the Company and its Restricted Subsidiaries may incur
Permitted Indebtedness.

Any Indebtedness of a Person existing at the time such Person becomes a
Restricted Subsidiary (whether by merger, consolidation, acquisition or
otherwise) shall be deemed to be incurred by such Restricted Subsidiary at the
time it becomes a Restricted Subsidiary.

The Indenture provides that, notwithstanding the preceding paragraphs of
this covenant, no Restricted Subsidiary that is not already a Guarantor shall,
directly or indirectly, incur Indebtedness on its behalf or Indebtedness with
respect to any Indebtedness of the Company or any other Restricted Subsidiary
unless such Restricted Subsidiary, the Company and the Trustee execute and
deliver a supplemental indenture to evidence such Restricted Subsidiary's
Guarantee of the Notes and such Restricted Subsidiary and the Company execute
and deliver or cause to be executed and delivered such other instruments and
actions required in connection therewith as provided in the Indenture.

Limitation on Restricted Payments. The Indenture provides that the Company
will not, and will not permit any of its Restricted Subsidiaries to, directly
or indirectly, make any Restricted Payment, unless:

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<PAGE> 60
(i) no Default or Event of Default shall have occurred and be continuing at
the time of or immediately after giving effect to such Restricted Payment;

(ii) at the time of and immediately after giving pro forma effect to such
Restricted Payment as if it had been made at the beginning of the applicable
four-quarter period, the Company would have been permitted to incur at least
$1.00 of additional Indebtedness (other than Permitted Indebtedness) pursuant
to the first paragraph of the covenant captioned "--Limitation on Incurrence of
Additional Indebtedness"; and

(iii) immediately after giving effect to such Restricted Payment, the
aggregate of all Restricted Payments declared or made after the Issue Date does
not exceed the sum of

(A) 50% of the Consolidated Net Income of the Company and its
Restricted Subsidiaries (or in the event such Consolidated Net Income shall
be a deficit, minus 100% of such deficit) during the period (treated as one
accounting period) subsequent to March 31, 1998 and ending on the last day
of the fiscal quarter for which financial information is available
immediately preceding the date of such Restricted Payment (less the
aggregate amount of dividends described in clause (i) of the following full
paragraph that are either (x) paid after the last day of the fiscal quarter
for which financial information is available immediately preceding the date
of such Restricted Payment or (y) declared but not yet paid as of such
date);

(B) the aggregate Net Cash Proceeds received by the Company during
such period from any Person other than a Subsidiary of the Company as a
result of the issuance or sale of Capital Stock of the Company (other than
any Disqualified Stock), other than in connection with the conversion of
Indebtedness or Disqualified Stock;

(C) the aggregate Net Cash Proceeds received by the Company during
such period from any Person other than a Subsidiary of the Company as a
result of the issuance or sale of any Indebtedness or Disqualified Stock to
the extent that, at the time the determination is made, such Indebtedness
or Disqualified Stock, as the case may be, has been converted into or
exchanged for Capital Stock of the Company (other than Disqualified Stock);

(D) (i) in case any Unrestricted Subsidiary has been redesignated a
Restricted Subsidiary, an amount equal to the lesser of (x) the book value
(determined in accordance with GAAP) at the date of such redesignation of
the aggregate Investments made by the Company and its Restricted
Subsidiaries in such Unrestricted Subsidiary and (y) the fair market value
of such Investments in such Unrestricted Subsidiary at the time of such
redesignation, as determined in good faith by the Company's Board of
Directors, including a majority of the Company's Disinterested Directors,
whose determination shall be conclusive and evidenced by a resolution of
such Board (less, in the case of each of clauses (x) and (y), the amount of
original Investment (based upon book value determined in accordance with
GAAP at the time of such Investment) made by the Company or any Restricted
Subsidiary pursuant to clause (x) of the definition of "Permitted Business
Investment" minus the aggregate cash dividends paid by such Unrestricted
Subsidiary to the Company or any other Restricted Subsidiary since the date
of such original Investment, provided that the result of the foregoing
shall not be less than zero); or (ii) in case any Restricted Subsidiary has
been redesignated an Unrestricted Subsidiary, minus the greater of (x) the
book value (determined in accordance with GAAP) at the date of
redesignation of the aggregate Investments made by the Company and its
Restricted Subsidiaries and (y) the fair market value of such Investments
in such Restricted Subsidiary at the time of such redesignation, as
determined in good faith by the Company's Board of Directors, including a
majority of the Company's Disinterested Directors, whose determination
shall be conclusive and evidenced by a resolution of such Board; and

(E) the amount of any writedowns or writeoffs, other negative
revaluations and other negative extraordinary charges not otherwise
reflected in Consolidated Net Income of the Company during such period.

Notwithstanding the foregoing, the above limitations will not prevent (i)
the payment of any dividend within 60 days after the date of declaration
thereof, if at such date of declaration, such payment complied with the
provisions of the Indenture; (ii) any dividend on shares of Capital Stock of
the Company or any Restricted Subsidiary payable solely in shares of Capital
Stock (other than Disqualified Stock); (iii) any dividend or other distribution
payable from a Subsidiary of the Company to the Company or any Wholly Owned
Restricted Subsidiary; (iv) the repurchase, redemption or other acquisition or
retirement of any shares of any class of Capital Stock of the Company or any
Restricted Subsidiary, in exchange for, or out of the aggregate Net Cash
Proceeds of a substantially concurrent issue and sale (other than to a
Restricted Subsidiary) of shares of Capital Stock of the Company (other than
Disqualified Stock), provided that the Net Cash Proceeds expended or utilized
for such repurchase, redemption or other acquisition or retirement shall not be
included in subclause (B) of clause (iii) of the preceding full paragraph; and
(v) the repurchase, redemption or other acquisition or retirement for value of
Capital Stock of MHI held by a departing or deceased shareholder of Capital
Stock of MHI pursuant to MHI's shareholders' agreement, provided that the funds
or value expended or incurred, or committed to be expended or incurred, in each
fiscal year of the Company does

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not exceed in the aggregate $500,000 and no Default or Event of Default shall
have occurred and be continuing immediately after any such repurchase,
redemption or acquisition or retirement.

The amount of all Restricted Payments (other than cash) shall be the fair
market value on the date of the Restricted Payment of the asset(s) or
securities proposed to be transferred or issued by the Company or such
Restricted Subsidiary, as the case may be, pursuant to the Restricted Payment.
The fair market value of any non-cash Restricted Payment shall be determined in
good faith by the Board of Directors of the Company, whose resolution in
respect thereto shall be delivered to the Trustee (which shall certify that
such valuation has been approved by a majority of the Disinterested Directors).
Not later than the date of making any Restricted Payment, the Company shall
deliver to the Trustee an officers' certificate stating that such Restricted
Payment is permitted and setting forth the basis upon which the calculations
required by the covenant "Limitation on Restricted Payments" were computed.

Limitation on Sale of Assets. The Indenture provides that the Company will
not, and will not permit any Restricted Subsidiary to, directly or indirectly,
make any Asset Sale unless:

(i) the Company (or its Restricted Subsidiary, as the case may be) receives
consideration at the time of such sale or other disposition at least equal to
the fair market value thereof (as determined in good faith by the Company,
which determination, with respect to Asset Sales or series of related Asset
Sales with proceeds valued at greater than $5.0 million, shall be evidenced by
a resolution duly adopted by the Company's Board of Directors, including a
majority of the Company's Disinterested Directors);

(ii) at least 75% of the proceeds from such Asset Sale consist of cash or
U.S. dollar denominated Cash Equivalents; and

(iii) the Net Cash Proceeds received by the Company (or its Restricted
Subsidiary, as the case may be) from such Asset Sale are applied in accordance
with the following two paragraphs.

The Company may apply such Net Cash Proceeds, within 365 days after receipt
of Net Cash Proceeds from any Asset Sale, to: (a) the repayment of Indebtedness
of the Company under a Bank Credit Facility or other Senior Indebtedness of the
Company or Senior Indebtedness of a Guarantor, that results in a permanent
reduction in any revolving credit or other commitment relating thereto or the
maximum principal amount that may be borrowed thereunder in an amount equal to
the principal amount so repaid; (b) make an Investment in assets used in the
Oil and Gas Business in replacement of the assets that were the subject of the
Asset Sale giving rise to such Net Cash Proceeds; or (c) develop by drilling,
completing and producing reserves from the oil and gas properties of the
Company and the Restricted Subsidiaries.

If, at the end of the 365-day period, the Net Cash Proceeds of any Asset
Sale less the aggregate amount applied by the Company during such period as
described in clauses (a), (b) and (c) in the immediately preceding paragraph,
together with any Net Cash Proceeds in excess of amounts similarly applied by
the Company from any prior Asset Sale after the date of receipt of such Net
Cash Proceeds (such aggregate constituting "Excess Proceeds"), exceeds $5.0
million, then the Company will be obligated to make an offer (the "Net Proceeds
Offer") to repurchase the Notes (and any other Senior Indebtedness in respect
of which such an offer to repurchase also is required to be made concurrently
with the Net Proceeds Offer) having an aggregate principal amount equal to the
Excess Proceeds (such purchase to be made on a pro rata basis if the amount
available for such repurchase is less than the principal amount of the Notes
and other Senior Indebtedness tendered in such Net Proceeds Offer) at a
repurchase price of 100% of the principal amount thereof plus accrued interest
and Liquidated Damages, if any, to the date of repurchase. To the extent that
the aggregate principal amount of Notes tendered pursuant to a Net Proceeds
Offer and of such other Senior Indebtedness is less than the amount that the
Company is required to repurchase, then the Company may use any remaining
Excess Proceeds for its and its Restricted Subsidiaries' general corporate
purposes. Upon the completion of the Net Proceeds Offer, the amount of Excess
Proceeds will be reset to zero.

Any Net Proceeds Offer will be conducted in substantially the same manner
as a Change of Control Offer. The Company will comply with Section 14 of the
Exchange Act and the provisions of Regulation 14E and any other tender offer
rules under the Exchange Act and any other federal and state securities laws,
rules and regulations which may then be applicable to any Net Proceeds Offer.

During the period between any Asset Sale and the application of the Net
Cash Proceeds therefrom in accordance with this covenant, all Net Cash Proceeds
shall be either (i) maintained in a segregated account and shall be invested in
Permitted Financial Investments or (ii) applied to temporarily reduce
borrowings under any revolving credit facility constituting Senior Indebtedness
of the Company or Senior Indebtedness of a Guarantor.

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Notwithstanding the foregoing, the Company will not and will not permit any
Restricted Subsidiary to, directly or indirectly, make any Asset Sale of any of
the Capital Stock of a Restricted Subsidiary except pursuant to an Asset Sale
of all of the Capital Stock of such Restricted Subsidiary.

Limitation on Liens Securing Indebtedness. The Indenture provides that the
Company will not, and will not permit any of its Restricted Subsidiaries to,
directly or indirectly, create, incur, assume or suffer to exist any Liens
(other than Permitted Liens) upon any of their respective properties to secure
(i) any Indebtedness or trade payable of the Company, unless the Notes are
equally and ratably secured or (ii) any Indebtedness or trade payable of any
Guarantor, unless the Guarantees are equally and ratably secured; provided,
that if such Indebtedness is expressly subordinated to the Notes or the
Guarantees, the Lien securing such Indebtedness will be subordinated and junior
to any Lien securing the Notes or the Guarantees, with the same relative
priority as such Subordinated Indebtedness of the Company or Subordinated
Indebtedness of a Guarantor will have with respect to the Notes or the
Guarantees, as the case may be.

Limitation on Mergers and Consolidations. The Indenture provides that the
Company will not consolidate with or merge with any Person or convey, transfer
or lease all or substantially all of its assets to any Person, unless: (i) the
Company survives such merger or the Person formed by such consolidation or into
which the Company is merged or that acquires by conveyance or transfer, or
which leases, all or substantially all of the assets of the Company is a
corporation organized and existing under the laws of the United States of
America, any state thereof or the District of Columbia and expressly assumes,
by supplemental indenture, the due and punctual payment of the principal of,
premium, if any, and interest and Liquidated Damages, if any, on all the Notes
and the performance of every other covenant and obligation of the Company under
the Indenture; (ii) immediately before and after giving effect to such
transaction, no Default or Event of Default exists; (iii) immediately after
giving effect to such transaction on a pro forma basis, the Consolidated Net
Worth of the Company (or the surviving or transferee entity) is equal to or
greater than the Consolidated Net Worth of the Company immediately before such
transaction; and (iv) immediately after giving effect to such transaction on a
pro forma basis as if such transaction had occurred at the beginning of the
applicable four- quarter period, the Company (or the surviving or transferee
entity) would be permitted to incur at least $1.00 of additional Indebtedness
(other than Permitted Indebtedness) pursuant to the first paragraph of the
covenant captioned "--Certain Covenants--Limitation on Incurrence of Additional
Indebtedness." Upon any such consolidation, merger, lease, conveyance or
transfer in accordance with the foregoing, the successor Person formed by such
consolidation or into which the Company is merged or to which such lease,
conveyance or transfer is made shall succeed to, and be substituted for, and
may exercise every right and power of, the Company under the Indenture with the
same effect as if such successor had been named as the Company herein, and
thereafter the predecessor Company will, except in the case of a lease or a
transfer pursuant to a Production Payment, be relieved of all further
obligations and covenants under the Indenture and the Notes.

Limitation on Sale/Leaseback Transactions. The Indenture provides that the
Company will not, and will not permit any of its Restricted Subsidiaries to,
directly or indirectly, enter into any Sale/Leaseback Transaction unless (i)
the Company or such Restricted Subsidiary, as the case may be, could have (a)
incurred Indebtedness in an amount equal to the Attributable Indebtedness
relating to such Sale/Leaseback Transaction pursuant to the first paragraph of
the covenant captioned "--Limitation on Incurrence of Additional Indebtedness"
and (b) incurred a Lien to secure such Indebtedness, without being required to
equally and ratably secure the Notes pursuant to the covenant described under
the caption "--Limitation on Liens Securing Indebtedness", and (ii) the Company
or such Restricted Subsidiary receives gross proceeds from such Sale/Leaseback
Transaction at least equal to the fair market value thereof (as determined in
good faith by the Company's Board of Directors, whose determination in good
faith, evidenced by a resolution of such Board, shall be conclusive) and the
transfer of assets in such Sale/Leaseback Transaction is permitted by, and the
proceeds of such transaction are applied in compliance with, the covenant
described above under the caption "--Limitation on Sale of Assets".

Limitation on Payment Restrictions Affecting Subsidiaries. The Indenture
provides that the Company will not, and will not permit any of its Restricted
Subsidiaries to, directly or indirectly, create or otherwise cause or suffer to
exist or become effective any encumbrance or restriction on the ability of any
Restricted Subsidiary to (i) pay dividends or make any other distributions on
its Capital Stock or on any other interest or participation in the Company or a
Restricted Subsidiary; (ii) pay any indebtedness owed to the Company or a
Restricted Subsidiary of the Company; (iii) make loans or advances to the
Company or a Restricted Subsidiary of the Company; or (iv) transfer any of its
properties or assets to the Company or a Restricted Subsidiary of the Company
(each, a "Payment Restriction"), except for (a) encumbrances or restrictions
under a Bank Credit Facility; provided, that no encumbrance or restriction
shall limit the ability of any Restricted Subsidiary to transfer cash to the
Company except upon the occurrence of an event of default under the Bank Credit
Facility; (b) consensual encumbrances or consensual restrictions binding upon
any Person at the time such Person becomes a Restricted Subsidiary of the
Company (unless the agreement creating such consensual encumbrances or
consensual restrictions was entered into in connection with, or in
contemplation of, such entity becoming a Restricted Subsidiary); (c) consensual
encumbrances

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or consensual restrictions under any agreement that refinances or replaces any
agreement described in clauses (a) and (b) above, provided that the terms and
conditions of any such restrictions are, in the aggregate, no less favorable to
the Holders of the Notes than those under the agreement so refinanced or
replaced; and (d) customary non-assignment provisions in leases, purchase money
financings and any encumbrance or restriction due to applicable law.

Limitation on Issuances and Sales of Restricted Subsidiary Stock. The
Indenture provides that the Company (i) will not permit any Restricted
Subsidiary, directly or indirectly, to issue any Disqualified Stock or
Preferred Stock (other than to the Company or a Restricted Subsidiary) and (ii)
will not permit any Person (other than (y) the Company and/or one or more
Restricted Subsidiaries or (z) MHI, indirectly through its direct ownership of
the Capital Stock of the Company), directly or indirectly, to own any Capital
Stock of any Restricted Subsidiary; provided, however, that this covenant shall
not prohibit (a) the issuance or sale of all, but not less than all, of the
issued and outstanding Capital Stock of any Restricted Subsidiary owned by the
Company or any of its Restricted Subsidiaries in compliance with the other
provisions of the Indenture, (b) the issuance or sale of (A) not more than 5%
in the aggregate of the issued and outstanding Capital Stock of any Restricted
Subsidiary (calculated on a fully diluted basis) by the Company or any
Restricted Subsidiary or (B) more than 5% of the issued and outstanding Capital
Stock of any Restricted Subsidiary if immediately following such issuance and
sale (calculated on a fully diluted basis) the Company and all Subsidiaries
will collectively own 95% or more of the Consolidated Total Assets of the
Company, and in the case of either (A) or (B), immediately following such
issuance and sale, the Company or one or more Restricted Subsidiaries will
collectively hold the voting power to elect a majority of the directors of the
Restricted Subsidiary and such power is not subject to dilution or limitation
by the terms of such Capital Stock, by agreement, by passage of time or the
occurrence of any future event or (c) the ownership by directors of directors'
qualifying shares or the ownership by foreign governments or foreign nationals
of Capital Stock of any Restricted Subsidiary, to the extent mandated by
applicable law, and in each case, so long as such Restricted Subsidiary
constitutes a Wholly Owned Restricted Subsidiary.

Limitation on Transactions with Affiliates. The Indenture provides that the
Company will not, and will not permit any of its Restricted Subsidiaries to,
directly or indirectly, enter into any transaction or series of transactions
(including, without limitation, the sale, purchase, transfer, lease or other
disposition of any assets or properties or the rendering of any services or the
entry into any contract, agreement or arrangement (whether in writing or
otherwise)) with any Affiliate or beneficial owner (as defined in Rules 13d-3
and 13d-5 under the Exchange Act) of 10% or more of the Company's common stock
(other than with a Wholly Owned Restricted Subsidiary of the Company) (an
"Affiliate Transaction"), on terms that are less favorable to the Company or
such Restricted Subsidiary, as the case may be, than would be available on an
arm's-length basis in a comparable transaction with an unrelated Person. In
addition, the Company will not, and will not permit any Restricted Subsidiary
of the Company to, directly or indirectly, enter into an Affiliate Transaction,
or any series of related Affiliate Transactions having a value of (i) more than
$1.0 million, unless a majority of the Board of Directors of the Company
(including a majority of the Company's Disinterested Directors) determines in
good faith, as evidenced by a resolution of such Board, that such Affiliate
Transaction or series of related Affiliate Transactions is fair to the Company
and in compliance with the first sentence of this covenant; or (ii) more than
$10.0 million, unless the Company receives a written opinion from a nationally
recognized investment banking firm that such transaction or series of
transactions is fair to the Company from a financial point of view.

Limitation on Line of Business. The Indenture provides that the Company and
the Subsidiaries will be operated in a manner such that their business
activities will be the Oil and Gas Business or an Investment in a business or
Person engaged in the Oil and Gas Business, which Investment was not made in
violation of any provision of the Indenture.

SEC Reports. The Indenture provides that notwithstanding that the Company
may not be required to remain subject to the reporting requirements of Section
13 or 15(d) of the Exchange Act, the Company will file with the SEC (if the SEC
will so accept) and provide the Trustee and Holders with annual reports and
such information, documents and other reports specified in Sections 13 and
15(d) of the Exchange Act.

Future Designation of Restricted and Unrestricted Subsidiaries. The
foregoing covenants (including calculation of financial ratios and the
determination of limitations on the incurrence of Indebtedness and Liens) may
be affected by the designation by the Company of any of its Subsidiaries as an
Unrestricted Subsidiary. Generally, a Restricted Subsidiary includes any
Subsidiary of the Company, whether existing on or after the date of the
Indenture, unless the Subsidiary of the Company is designated as an
Unrestricted Subsidiary pursuant to the terms of the Indenture. The definition
of "Unrestricted Subsidiary" set forth under the caption "--Certain
Definitions" describes the circumstances under which a future Subsidiary of the
Company may be designated as an Unrestricted Subsidiary by the Board of
Directors of the Company.

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CERTAIN DEFINITIONS

The following is a summary of certain defined terms to be used in the
Indenture. Reference is made to the Indenture for the full definition of all
such terms and for the definitions of capitalized terms used herein and not
defined below.

"Adjusted Consolidated Net Tangible Assets" or "ACNTA" means (without
duplication), as of the date of determination, (a) the sum of (i) discounted
future net revenue from proved oil and gas reserves of the Company and its
Restricted Subsidiaries calculated in accordance with SEC guidelines before any
state or federal income taxes, as estimated by independent petroleum engineers
in a reserve report prepared as of the end of the Company's most recently
completed fiscal year, as increased by, as of the date of determination, the
discounted future net revenue of (A) estimated proved oil and gas reserves of
the Company and its Restricted Subsidiaries attributable to any acquisition
consummated since the effective date of such initial or year-end reserve
reports and (B) estimated oil and gas reserves of the Company and its
Restricted Subsidiaries attributable to extensions, discoveries and other
additions and upward revisions of estimates of proved oil and gas reserves due
to exploration, development or exploitation, production or other activities
conducted or otherwise occurring since the effective date of such initial or
year-end reserve reports which, in the case of sub-clauses (A) and (B) above,
would, in accordance with standard industry practice, result in such increases,
in each case calculated in accordance with SEC guidelines (utilizing the prices
utilized in such initial or year-end reserve reports), and decreased by, as of
the date of determination, the discounted future net revenue of (C) estimated
proved oil and gas reserves of the Company and its Restricted Subsidiaries
produced or disposed of since the effective date of such initial or year-end
reserve reports and (D) reductions in the estimated oil and gas reserves of the
Company and its Restricted Subsidiaries since the effective date of such
initial or year-end reserve reports attributable to downward revisions of
estimates of proved oil and gas reserves due to exploration, development or
exploitation, production or other activities conducted or otherwise occurring
since the effective date of such initial or year-end reserve reports which
would, in accordance with standard industry practice, result in such revisions,
in each case calculated in accordance with SEC guidelines (utilizing the prices
utilized in such initial or year-end reserve reports); provided that, in the
case of each of the determinations made pursuant to sub-clauses (A) through (D)
above, such increases and decreases shall be as estimated by the Company's
engineers, except that if as a result of such acquisitions, dispositions,
discoveries, extensions or revisions, there is a Material Change and in
connection with the incurrence of Indebtedness under the covenant captioned
"--Certain Covenants --Limitation on Incurrence of Additional Indebtedness,"
all or any part of an increase in discounted future net revenue resulting from
the matters described in sub-clauses (A) and (B) above are needed to permit the
incurrence of such Indebtedness, then the discounted future net revenue
utilized for purposes of this clause (a)(i) shall be confirmed in writing by
independent petroleum engineers provided that, in the event that the
determinations made pursuant to sub-clauses (C) and (D) above, when taken
alone, would not cause a Material Change, then such written confirmation need
only cover the incremental additions to discounted future net revenues
resulting from the determinations made pursuant to sub-clauses (A) and (B)
above to the extent needed to permit the incurrence of such Indebtedness, (ii)
the capitalized costs that are attributable to oil and gas properties of the
Company and its Restricted Subsidiaries to which no proved oil and gas reserves
are attributed, based on the Company's books and records as of a date no
earlier than the date of the Company's latest annual or quarterly financial
statements, (iii) the Net Working Capital on a date no earlier than the date of
the Company's latest annual or quarterly financial statements and (iv) the
greater of (I) the net book value on a date no earlier than the date of the
Company's latest annual or quarterly financial statements and (II) the
appraised value, as estimated by independent appraisers, of other tangible
assets (including Investments in unconsolidated Subsidiaries of the Company) of
the Company and its Restricted Subsidiaries, as of a date no earlier than the
date of the Company's latest audited financial statements, minus (b) the sum of
(i) minority interests, (ii) any non-current portion of gas balancing
liabilities of the Company and its Restricted Subsidiaries reflected in the
Company's latest annual or quarterly financial statements, (iii) the discounted
future net revenue, calculated in accordance with SEC guidelines (utilizing the
prices utilized in the Company's initial or year-end reserve reports),
attributable to reserves which are required to be delivered to third parties to
fully satisfy the obligations of the Company and its Restricted Subsidiaries
with respect to Volumetric Production Payments on the schedules specified with
respect thereto, (iv) the discounted future net revenue, calculated in
accordance with SEC guidelines, attributable to reserves subject to
Dollar-Denominated Production Payments which, based on the estimates of
production included in determining the discounted future net revenue specified
in clause (a)(i) above (utilizing the same prices utilized in the Company's
initial or year-end reserve reports), would be necessary to fully satisfy the
payment obligations of the Company and its Restricted Subsidiaries with respect
to Dollar-Denominated Production Payments on the schedules specified with
respect thereto and (v) the discounted future net revenue, calculated in
accordance with SEC guidelines (utilizing the same prices utilized in the
Company's initial or year-end reserve reports), attributable to reserves
subject to participation interests, overriding royalty interests or other
interests of third parties, pursuant to participation, partnership, vendor
financing or other agreements then in effect, or which otherwise are required
to be delivered to third parties. If the Company changes its method of
accounting from the successful efforts method to the full cost method or a
similar method of accounting, Adjusted Consolidated Net

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Tangible Assets will continue to be calculated as if the Company was still
using the successful efforts method of accounting.

Discounted future net revenue attributable to reserves subject to
Production Payments or other third party interests are excluded from the
definition of Adjusted Consolidated Net Tangible Assets to the extent
indicated, thereby limiting the amount of Indebtedness that may be incurred
pursuant to the test set forth in clause (ii) of the first paragraph of the
covenant captioned "--Certain Covenants--Limitation on Incurrence of Additional
Indebtedness." However, certain estimated volumes of reserves in excess of the
delivery requirements under such Production Payments or with respect to
commitments to third party interests that are available for sale by the Company
are included in the definition of Adjusted Consolidated Net Tangible Assets,
thereby increasing the amount of Indebtedness that may be incurred under such
test.

"Adjusted Net Assets" of a Guarantor at any date shall mean the lesser of
(i) the amount by which the fair value of the property of such Guarantor
exceeds the total amount of liabilities, including, without limitation,
contingent liabilities (after giving effect to all other fixed and contingent
liabilities incurred or assumed on such date), but excluding liabilities under
the Guarantee of such Guarantor at such date and (ii) the amount by which the
present fair saleable value of the assets of such Guarantor at such date
exceeds the amount that will be required to pay the probable liability of such
Guarantor on its debts (after giving effect to all other fixed and contingent
liabilities incurred or assumed on such date and after giving effect to any
collection from any Subsidiary of such Guarantor in respect of the obligations
of such Subsidiary under the Guarantee), excluding debt in respect of the
Guarantee, as they become absolute and matured.

"Affiliate" of any specified Person means any other Person directly or
indirectly controlling or controlled by or under direct or indirect common
control with such specified Person. For the purposes of this definition,
"control" when used with respect to any specified Person means the power to
direct the management and policies of such Person directly or indirectly,
whether through the ownership of Voting Stock, by contract or otherwise; and
the terms "controlling" and "controlled" have meanings correlative to the
foregoing; provided that a corporation shall not be deemed an Affiliate of the
Company solely by reason of having a single common director with the Company
who constitutes less than a majority of the directors of either the Company and
the other corporation.

"Asset Sale" means any sale, issue, lease, transfer, exchange or other
disposition having a fair market value of $1.0 million or more (or series of
sales, leases, transfers, exchanges or dispositions during any fiscal year
having an aggregate fair market value of such amount) of shares of Capital
Stock of a Restricted Subsidiary (other than directors' Qualifying Shares), or
of property or assets (including the creation of Dollar-Denominated Production
Payments and Volumetric Production Payments, other than Dollar-Denominated
Production Payments and Volumetric Production Payments created or sold in
connection with the financing of, and within 30 days after, the acquisition of
the properties subject thereto) or any interests therein (each referred to for
purposes of this definition as a disposition) by the Company or any of its
Restricted Subsidiaries, including any disposition by means of a merger,
consolidation or similar transaction (other than (a) by the Company to a Wholly
Owned Restricted Subsidiary or by a Subsidiary to the Company or a Wholly Owned
Restricted Subsidiary, (b) a sale of oil, gas or other hydrocarbons or other
mineral products in the ordinary course of business of the Company's oil and
gas production operations, (c) any abandonment, farm-in, farm-out, lease and
sub-lease of developed and/or undeveloped properties made or entered into in
the ordinary course of business (but excluding (i) any sale of a net profits or
overriding royalty interest, in each case conveyed from or burdening proved
developed or proved undeveloped reserves and (ii) any sale of hydrocarbons or
other mineral products as a result of the creation of Dollar-Denominated
Production Payments or Volumetric Production Payments, other than
Dollar-Denominated Production Payments and Volumetric Production Payments
created or sold in connection with the financing of, and within 30 days after,
the acquisition of the properties subject thereto), (d) the disposition of all
or substantially all of the assets of the Company in compliance with the
covenants captioned "--Certain Covenants --Limitation on Mergers and
Consolidations" and " --Certain Covenants--Limitation on Sale/Leaseback
Transactions," (e) the issuance by the Company of shares of its Capital Stock,
(f) any trade or exchange by the Company or any Restricted Subsidiary of oil
and gas properties for other oil and gas properties owned or held by another
Person provided that (i) the fair market value of the properties traded or
exchanged by the Company or such Restricted Subsidiary (including any cash or
Cash Equivalents, not to exceed 15% of such fair market value, to be delivered
by the Company or such Restricted Subsidiary) is reasonably equivalent to the
fair market value of the properties (together with any cash or Cash
Equivalents, not to exceed 15% of such fair market value) to be received by the
Company or such Restricted Subsidiary as determined in good faith by the Board
of Directors of the Company, which determination shall be certified by a
resolution of the Board of Directors delivered to the Trustee if such fair
market value is in excess of $5.0 million, provided that if such resolution
indicates that such fair market value is in excess of $10.0 million such
resolution shall be accompanied by a written appraisal by a nationally
recognized investment banking firm or appraisal firm, in each case specializing
or having a specialty in oil and gas properties, and (ii) such exchange is
approved by a majority of Disinterested Directors of the Company, and (g) the
sale, transfer or other disposition in the ordinary course of business of oil
and

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natural gas properties, or interests therein, provided that such properties
either (i) do not have proved reserves attributed to them or (ii) were
purchased for the purpose of offering such properties for resale or
participations by other Persons).

"Attributable Indebtedness" means, with respect to any particular lease
under which any Person is at the time liable and at any date as of which the
amount thereof is to be determined, the present value of the total net amount
of rent required to be paid by such Person under the lease during the primary
term thereof, without giving effect to any renewals at the option of the
lessee, discounted from the respective due dates thereof to such date at the
rate of interest per annum implicit in the terms of the lease. As used in the
preceding sentence, the net amount of rent under any lease for any such period
shall mean the sum of rental and other payments required to be paid with
respect to such period by the lessee thereunder excluding any amounts required
to be paid by such lessee on account of maintenance and repairs, insurance,
taxes, assessments, water rates or similar charges. In the case of any lease
which is terminable by the lessee upon payment of a penalty, such net amount of
rent shall also include the amount of such penalty, but no rent shall be
considered as required to be paid under such lease subsequent to the first date
upon which it may be so terminated.

"Average Life" means, as of the date of determination, with respect to any
Indebtedness, the quotient obtained by dividing (i) the product of (x) the
number of years from such date to the date of each successive scheduled
principal payment of such Indebtedness multiplied by (y) the amount of such
principal payment by (ii) the sum of all such principal payments.

"Bank Credit Facility" means a revolving credit, term credit and/or letter
of credit facility, the proceeds of which are used for working capital and
other general corporate purposes to be entered into by one or more of the
Company and/or its Restricted Subsidiaries and certain financial institutions,
as amended, extended or refinanced from time to time. The Credit Facility is
a Bank Credit Facility.

"Board of Directors" means, with respect to any Person, the board of
directors of such Person or any committee of the board of directors of such
Person duly authorized to act on behalf of the board of directors of such
Person, or if not a board of directors or such authorized committee, a
comparable governing body of such Person or any committee of such governing
body duly authorized to act on behalf of such governing body.

"Capital Stock" means, with respect to any Person, any and all shares,
interests, participations or other equivalents (however designated) of
corporate stock, partnership interests or limited liability company membership
interests and any and all warrants, options and rights with respect thereto
(whether or not currently exercisable), including each class of common stock
and preferred stock or interests of such Person.

"Capitalized Lease Obligations" of any Person means the obligations of such
Person to pay rent or other amounts under a lease of property, real or
personal, that is required to be capitalized for financial reporting purposes
in accordance with GAAP, and the amount of such obligations shall be the
capitalized amount thereof determined in accordance with GAAP.

"Cash Equivalents" means (i) any evidence of Indebtedness with a maturity
of 90 days or less issued or directly and fully guaranteed or insured by the
United States of America or any agency or instrumentality thereof (provided
that the full faith and credit of the United States of America is pledged in
support thereof); (ii) demand and time deposits and certificates of deposit or
acceptances with a maturity of 90 days or less of any financial institution
that is a member of the Federal Reserve System having combined capital and
surplus and undivided profits of not less than $500,000,000; (iii) commercial
paper with a maturity of 90 days or less issued by a corporation that is not an
Affiliate of the Company and is organized under the laws of any state of the
United States or the District of Columbia and rated at least A-1 by Standard &
Poor's Ratings Services at least P-1 by Moody's Investors Service, Inc.; (iv)
repurchase obligations with a term of not more than seven days for underlying
securities of the types described in clause (i) above entered into with any
commercial bank meeting the specifications of clause (ii) above; and (v)
overnight bank deposits and bankers' acceptances at any commercial bank meeting
the qualifications specified in clause (ii) above.

"Consolidated Interest Coverage Ratio" means, for any Reference Period, the
ratio on a pro forma basis of (a) the sum of (i) Consolidated Net Income, (ii)
Consolidated Interest Expense, (iii) Consolidated Tax Expense, (iv) exploration
expense, (v) ceiling limitation writedowns under SEC guidelines, (vi)
depreciation and depletion of the Company and its Restricted Subsidiaries, as
determined in accordance with GAAP on a consolidated basis plus (vii)
amortization of the Company and its Restricted Subsidiaries including, without
limitation, amortization of capitalized debt issuance costs, as determined in
accordance with GAAP on a consolidated basis, in each case as determined for
the Reference Period to (b) Consolidated Interest Expense for such Reference
Period; provided, that, in calculating each of the items set forth in the
foregoing, (1) acquisitions which occurred during the Reference Period

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or subsequent to the Reference Period and on or prior to the date of the
transaction giving rise to the need to calculate the Consolidated Interest
Coverage Ratio (the "Transaction Date") shall be assumed to have occurred on
the first day of the Reference Period, (2) the incurrence of any Indebtedness
(including the issuance of the Notes) or issuance of any Disqualified Stock
during the Reference Period or subsequent to the Reference Period and on or
prior to the Transaction Date shall be assumed to have occurred on the first
day of such Reference Period, (3) any Indebtedness that had been outstanding
during the Reference Period that has been repaid on or prior to the Transaction
Date shall be assumed to have been repaid as of the first day of such Reference
Period, (4) the Consolidated Interest Expense attributable to interest on any
Indebtedness or dividends on any Disqualified Stock bearing a floating interest
(or dividend) rate shall be computed on a pro forma basis as if the rate in
effect on the Transaction Date was the average rate in effect during the entire
Reference Period and (5) in determining the amount of Indebtedness pursuant to
the covenant captioned "--Certain Covenants--Limitation on Incurrence of
Additional Indebtedness," the incurrence of Indebtedness or issuance of
Disqualified Stock giving rise to the need to calculate the Consolidated
Interest Coverage Ratio and, to the extent the net proceeds from the incurrence
or issuance thereof are used to retire Indebtedness, the application of the
proceeds therefrom shall be assumed to have occurred on the first day of the
Reference Period.

"Consolidated Interest Expense" means, with respect to the Company and its
Restricted Subsidiaries, for the Reference Period, the aggregate amount
(without duplication) of (a) interest expensed in accordance with GAAP
(including, in accordance with the following sentence, interest attributable to
Capitalized Lease Obligations, but excluding interest attributable to
Dollar-Denominated Production Payments and amortization of deferred debt
expense) during such period in respect of all Indebtedness of the Company and
its Restricted Subsidiaries (including (i) amortization of original issue
discount on any Indebtedness (other than with respect to the Notes), (ii) the
interest portion of all deferred payment obligations, calculated in accordance
with GAAP and (iii) all commissions, discounts and other fees and charges owed
with respect to bankers' acceptance financings and currency and interest rate
swap arrangements, in each case to the extent attributable to such period), and
(b) dividend requirements of the Company and its Restricted Subsidiaries with
respect to any Preferred Stock or Disqualified Stock dividends (whether in cash
or otherwise (except dividends paid solely in shares of Capital Stock other
than Disqualified Stock)) paid (other than to the Company or any of its
Restricted Subsidiaries), declared, accrued or accumulated during such period,
divided by one minus the applicable actual combined federal, state, local and
foreign income tax rate of the Company and its Subsidiaries (expressed as a
decimal), on a consolidated basis, for the Reference Period preceding the date
of the transaction giving rise to the need to calculate Consolidated Interest
Expense, in each case to the extent attributable to such period and excluding
items eliminated in consolidation. For purposes of this definition, (y)
interest on a Capitalized Lease Obligation shall be deemed to accrue at an
interest rate reasonably determined by the Company to be the rate of interest
implicit in such Capitalized Lease Obligation in accordance with GAAP and (z)
interest expense attributable to any Indebtedness represented by the guarantee
by the Company or a Restricted Subsidiary of the Company of an obligation of
another Person (other than the Company or any other Restricted Subsidiary)
shall be deemed to be the interest expense attributable to the Indebtedness
guaranteed.

"Consolidated Net Income" of the Company means, for any period, the
aggregate net income (or loss) of the Company and its Restricted Subsidiaries
for such period on a consolidated basis, determined in accordance with GAAP;
provided, however, that there shall not be included in such Consolidated Net
Income: (a) any net income of any Person if such Person is not the Company or a
consolidated Restricted Subsidiary, except that (i) subject to the limitations
contained in clause (d) below, the Company's equity in the net income of any
such Person for such period shall be included in such Consolidated Net Income
up to the aggregate amount of cash or Cash Equivalents actually distributed by
such Person during such period to the Company or a Restricted Subsidiary as a
dividend or other distribution (subject, in the case of a dividend or other
distribution to a Restricted Subsidiary, to the limitations contained in clause
(c) below) and (ii) the Company's equity in a net loss of any such Person
(other than an Unrestricted Subsidiary) for such period shall be included in
determining such Consolidated Net Income; (b) any net income (or loss) of any
Person acquired by the Company or a Subsidiary of the Company in a pooling of
interests transaction for any period prior to the date of such acquisition; (c)
the net income of any Restricted Subsidiary to the extent that the payment of
dividends or the making of distributions by such Restricted Subsidiary,
directly or indirectly, to the Company, is prohibited; (d) any gain (but not
loss) realized upon the sale or other disposition of any property, plant or
equipment of the Company or any Restricted Subsidiary (including pursuant to
any Sale/Leaseback Transaction) which is not sold or otherwise disposed of in
the ordinary course of business and any gain (but not loss) realized upon the
sale or other disposition of any Capital Stock of any Person; (e) any gain (but
not loss) from currency exchange transactions not in the ordinary course of
business consistent with past practice; (f) the cumulative effect of a change
in accounting principles; (g) any writedowns of noncurrent assets; and (h) any
gain (but not loss) attributable to extraordinary items.

"Consolidated Net Worth" means, with respect to the Company and its
Restricted Subsidiaries, as at any date of determination, the sum of Capital
Stock (other than Disqualified Stock) and additional paid-in capital plus
retained earnings (or minus accumulated deficit) minus all intangible assets,
including, without limitation, organization costs,

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patents, trademarks, copyrights, franchises, research and development costs,
and any amount reflected in treasury stock, of the Company and its Restricted
Subsidiaries determined on a consolidated basis in accordance with GAAP.

"Consolidated Tax Expense" means, for any period, the provisions for
federal, state, local and foreign income taxes (including state franchise taxes
accounted for as income taxes in accordance with GAAP) of the Company and its
Restricted Subsidiaries for such period as determined on a consolidated basis
in accordance with GAAP.

"Credit Facility" means the credit agreement dated as of May 15, 1998
between the Company and Christiania Bank og KreditKasse, as lender and
administrative agent, as amended and in effect from time to time.

"Disinterested Director" means, with respect to (i) an Affiliate
Transaction or series of related Affiliate Transactions, (ii) any valuation of
the aggregate Investments of the Company and the Restricted Subsidiaries in an
Unrestricted Subsidiary at the time that it is redesignated a Restricted
Subsidiary, (iii) any valuation of the aggregate Investments of the Company and
the Restricted Subsidiaries in a Restricted Subsidiary at the time it is
redesignated an Unrestricted Subsidiary, (iv) any valuation of any asset(s)
(other than cash) or securities proposed to be transferred or issued by the
Company or any Restricted Subsidiary, as the case may be, pursuant to a
Restricted Payment, or (v) any valuation or determination required in
connection with consideration received in an Asset Sale or the transfer or
exchange of oil and gas properties for oil and gas properties purported to be
excluded from an Asset Sale, a member of the Board of Directors of the Company
who has no financial interest, and whose employer has no direct or indirect
financial interest, in such Affiliate Transaction or series of related
Affiliate Transactions or such transaction giving rise to any such valuation.

"Disqualified Stock" means any Capital Stock of the Company or any
Restricted Subsidiary of the Company which, by its terms (or by the terms of
any security into which it is convertible or for which it is exchangeable), or
upon the happening of any event or with the passage of time, matures or is
mandatorily redeemable, pursuant to a sinking fund obligation or otherwise, or
is redeemable at the option of the holder thereof, in whole or in part, on or
prior to the Maturity Date or which is exchangeable or convertible into debt
securities of the Company or any Restricted Subsidiary of the Company, except
to the extent that such exchange or conversion rights cannot be exercised prior
to the Maturity Date.

"Dollar-Denominated Production Payments" mean production payment
obligations recorded as liabilities in accordance with GAAP, together with all
undertakings and obligations in connection therewith.

"Equity Offering" means any underwritten public offering of common stock of
the Company pursuant to a registration statement filed pursuant to the
Securities Act or any private placement of Capital Stock (other than
Disqualified Stock) of the Company (other than to any Person who, prior to such
private placement, was a Subsidiary of the Company or any other Person
controlled by the Company) which offering or placement is consummated after the
Issue Date.

"Exchange Act" means the Securities Exchange Act of 1934, as amended, and
the rules and regulations of the SEC thereunder.

"GAAP" means generally accepted accounting principles as in effect in the
United States of America as of the Issue Date.

"Guarantee" means any Guarantee issued pursuant to Article X of the
Indenture.

"Guarantor" means (i) each of the Subsidiaries that becomes a guarantor of
the Notes in compliance with the provisions of Article X of the Indenture and
(ii) each of the Persons that executes a supplemental indenture in which such
Person agrees to be bound by the terms of the Indenture, in each case until
such time, if any, such guarantor is released from its Guarantee pursuant to
Section 10.4 of the Indenture.

"Holder" means a Person in whose name a Note is registered on the
Registrar's books.

"Indebtedness" means, without duplication, with respect to any Person, (a)
all obligations of such Person (i) in respect of borrowed money (whether or not
the recourse of the lender is to the whole of the assets of such Person or only
to a portion thereof), (ii) evidenced by bonds, notes, debentures or similar
instruments, (iii) representing the balance deferred and unpaid of the purchase
price of any property or services (other than accounts payable or other
obligations arising in the ordinary course of business), (iv) evidenced by
bankers' acceptances or similar instruments issued or accepted by banks, (v)
for the payment of money relating to a Capitalized Lease Obligation, or (vi)
evidenced by a letter of credit or a reimbursement obligation of such Person
with respect to any letter of credit; (b)

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all net obligations of such Person under hedging arrangements including
interest rate swap obligations, commodity swap obligations and foreign currency
hedges, except to the extent such net obligations are taken into account in the
determination of future net revenues from proved oil and gas reserves for
purposes of the calculation of Adjusted Consolidated Net Tangible Assets; (c)
all liabilities of others of the kind described in the preceding clauses (a) or
(b) that such Person has guaranteed or that are otherwise its legal liability
(including, with respect to any Production Payment, any warranties or
guaranties of production or payment by such Person with respect to such
Production Payment but excluding other contractual obligations of such Person
with respect to such Production Payment); (d) Indebtedness (as otherwise
defined in this definition) of another Person secured by a Lien on any asset of
such Person, whether or not such Indebtedness is assumed by such Person, the
amount of such obligations being deemed to be the lesser of (1) the full amount
of such obligations so secured and (2) the fair market value of such asset, as
determined in good faith by the Board of Directors of such Person, which
determination shall be evidenced by a resolution of such Board; (e) with
respect to such Person, the liquidation preference or any mandatory redemption
payment obligations in respect of Disqualified Stock; (f) the aggregate
preference in respect of amounts payable on the issued and outstanding shares
of Preferred Stock of any of the Company's Restricted Subsidiaries in the event
of any voluntary or involuntary liquidation, dissolution or winding up
(excluding any such preference attributable to such shares of Preferred Stock
that are owned by such Person or any of its Restricted Subsidiaries; provided,
that if such Person is the Company, such exclusion shall be for such preference
attributable to such shares of Preferred Stock that are owned by the Company or
any of its Restricted Subsidiaries); and (g) any and all deferrals, renewals,
extensions, refinancings and refundings (whether direct or indirect) of, or
amendments, modifications or supplements to, any liability of the kind
described in any of the preceding clauses (a), (b), (c), (d), (e), (f) or this
clause (g), whether or not between or among the same parties. Subject to clause
(c) of the preceding sentence, neither Dollar-Denominated Production Payments
nor Volumetric Production Payments shall be deemed to be Indebtedness.

"Investment" of any Person means (i) all investments by such Person in any
other Person (including its Affiliates) in the form of direct or indirect
loans, advances or capital contributions, (ii) all direct or indirect
guarantees of, or Liens created or permitted to secure, Indebtedness or other
obligations of any other Person by such Person, (iii) all direct or indirect
purchases or other acquisitions for consideration by such Person of assets,
Indebtedness, Capital Stock or other securities of any other Person and (iv)
all other items that directly or indirectly would be classified as investments
(including, without limitation, purchases of assets outside the ordinary course
of business) or advances on a balance sheet of such Person prepared in
accordance with GAAP. For purposes of the definition of "Unrestricted
Subsidiary," the definition of "Restricted Payment" and the covenant described
under the caption "--Certain Covenants--Limitation on Restricted Payments,"(a)
an "Investment" in an Unrestricted Subsidiary shall be deemed to include and be
valued at the fair market value of the net assets of any Subsidiary of the
Company at the time that such Subsidiary is designated an Unrestricted
Subsidiary and (b) any Investment in, or any property transferred to or from,
an Unrestricted Subsidiary shall be valued at its fair market value at the time
of transfer, in each case, as determined in good faith by the Board of
Directors of the Company.

"Issue Date" means the date on which the Notes are originally issued under
the Indenture.

"Lien" means, with respect to any Person, any mortgage, pledge, lien,
encumbrance, easement, restriction, covenant, right-of-way, charge or adverse
claim affecting title or resulting in an encumbrance against real or personal
property of such Person, or a security interest of any kind (including any
conditional sale or other title retention agreement, any lease in the nature
thereof, any option, right of first refusal or other similar agreement to sell,
in each case securing obligations of such Person and any filing of or agreement
to give any financing statement under the Uniform Commercial Code (or
equivalent statute or statutes) of any jurisdiction).

"Liquidated Damages" shall have the meaning given such term in Section 6 of
the Registration Rights Agreement.

"Material Change" means an increase or decrease (excluding changes that
result solely from changes in prices) of more than either (i) 10% from the end
of the immediately preceding fiscal quarter in the estimated discounted future
net revenue from proved oil and gas reserves of the Company and its Restricted
Subsidiaries, or (ii) 20% from the end of the immediately preceding year in the
estimated discounted future net revenue from proved oil and gas reserves of the
Company and its Restricted Subsidiaries, in each case calculated in accordance
with clause (a)(i) of the definition of Adjusted Consolidated Net Tangible
Assets; provided, however, that the following will be excluded from the
calculation of Material Change: (a) any acquisitions of oil and gas reserves
made after the end of the immediately preceding year for which the discounted
future net revenues have been estimated by independent petroleum engineers
since the end of the preceding year and on which a report or reports exist and
(b) any disposition of properties existing at the beginning of the current
quarter or current year, as the case may be, for purposes of clause (i) or
clause (ii) above, that have been disposed of as provided in the covenant
captioned "--Certain Covenants--Limitation on Sale of Assets."

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"Maturity Date" means April 1, 2005.

"Net Cash Proceeds" means (a) with respect to any Asset Sale or
Sale/Leaseback Transaction of any Person, an amount equal to aggregate cash
proceeds received (including any cash proceeds received by way of deferred
payment of principal pursuant to a note or installment receivable or otherwise,
but only as and when received, and excluding any other consideration until such
time as such consideration is converted into cash) therefrom, in each case net
of all legal, title and recording tax expenses, commissions and other fees and
expenses incurred, and all federal, state or local taxes required to be accrued
as a liability as a consequence of such Asset Sale or Sale/Leaseback
Transaction, and in each case net of all Indebtedness which is secured by such
assets, in accordance with the terms of any Lien upon or with respect to such
assets, or which must, by its terms or in order to obtain a necessary consent
to such Asset Sale or Sale/Leaseback Transaction or by applicable law, be
repaid out of the proceeds from such Asset Sale or Sale/Leaseback Transaction
and which is actually so repaid and (b) in the case of any sale by the Company
of securities pursuant to subclauses (B) or (C) of clause (iii) of the initial
paragraph of the covenant caption "--Certain Covenants--Limitation on
Restricted Payments," the amount of aggregate net cash proceeds received by the
Company, after payment of expenses, commissions, discounts and any other
transaction costs incurred in connection therewith.

"Net Working Capital" means (i) all current assets of the Company and its
Restricted Subsidiaries, minus (ii) all current liabilities of the Company and
its Restricted Subsidiaries (including the current portion of gas balancing
liabilities), except current liabilities included in Indebtedness.

"Non-Recourse Indebtedness" means Indebtedness (i) as to which neither the
Company nor any Restricted Subsidiary (a) provides credit support of any kind,
including any undertaking, agreement or instrument which would constitute
Indebtedness, (b) is directly or indirectly liable for such Indebtedness (by
virtue of any Lien on any stock or asset of the Company or any Restricted
Subsidiary or by virtue of the Company or such Restricted Subsidiary being the
primary obligor or guarantor of, or otherwise liable in respect on, such
Indebtedness) or (c) constitutes a lender, (ii) no default with respect to
which (including any rights which the holders thereof may have to take
enforcement action against such Person) would permit (upon notice, lapse of
time or both) any holder of any other Indebtedness of the Company or its
Restricted Subsidiaries to declare a default on such other Indebtedness or
cause the payment thereof to be accelerated or payable prior to its stated
maturity, and (iii) as to which each lender thereof has been notified and has
agreed, in writing, that it will not have any recourse, directly or indirectly,
to the stock or assets of the Company or any Restricted Subsidiary.

"Obligations" means any principal, interest, penalties, fees,
indemnifications, reimbursements, damages and other liabilities payable under
the documentation governing any Indebtedness.

"Oil and Gas Business" means the business of the exploration for, and
exploitation, development, production, processing (but not refining),
marketing, storage and transportation of, hydrocarbons, and other related
energy and natural resources businesses (including oil and gas services
businesses related to the foregoing).

"Oil and Gas Securities" means the Voting Stock of a Person primarily
engaged in the Oil and Gas Business, provided that if such Voting Stock is not
registered under Section 12 of the Exchange Act, simultaneously with the
acquisition thereof by the Company or any Restricted Subsidiary, as applicable,
the issuer of such Voting Stock shall become a Wholly Owned Restricted
Subsidiary.

"Permitted Business Investments" means (i) Investments in assets used in
the Oil and Gas Business; (ii) the entry into operating agreements, joint
ventures, processing agreements, farmout agreements, development agreements,
area of mutual interest agreements, contracts for the sale, transportation or
exchange of oil and natural gas, unitization agreements, pooling arrangements,
joint bidding agreements, service contracts, partnership agreements (whether
general or limited) or other similar or customary agreements, transactions,
properties, interests or arrangements, and Investments and expenditures in
connection therewith or pursuant thereto, in each case made or entered into in
the ordinary course of the Oil and Gas Business, excluding solely for purposes
of this clause (ii), however, Investments in corporations; (iii) the
acquisition of working interests, royalty interests or mineral leases relating
to oil and gas properties; (iv) Investments by the Company or any Wholly Owned
Restricted Subsidiary in any Person which is, or which will become,
contemporaneously with the making of such Investment, a Wholly Owned Restricted
Subsidiary and which is engaged in the Oil and Gas Business; (v) Investments in
the Company by any Wholly Owned Restricted Subsidiary; (vi) Investments
permitted under the covenant captioned "--Certain Covenants--Limitation on
Sales of Assets"; (vii) Investments in any Person, other than an Unrestricted
Subsidiary, the consideration for which consists of Capital Stock (other than
Disqualified Stock); (viii) Investments constituting obligations under hedging
arrangements described in clause (vii) of the definition of "Permitted
Indebtedness;" and (ix) Investments in Unrestricted Subsidiaries the assets of
which consist of assets used in the Oil and Gas Business (other than cash and
Cash Equivalents) received by the Company from any Person other than a
Subsidiary of the

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Company solely as a result of the issuance of Capital Stock of the Company
(other than Disqualified Stock) in exchange therefor.

"Permitted Company Refinancing Indebtedness" means Indebtedness of the
Company, the net proceeds of which are used to renew, extend, refinance, refund
or repurchase outstanding Indebtedness of the Company, provided that (i) if the
Indebtedness (including the Notes) being renewed, extended, refinanced,
refunded or repurchased is pari passu with or subordinated in right of payment
to the Notes, then such Indebtedness is pari passu or subordinated in right of
payment to, as the case may be, the Notes at least to the same extent as the
Indebtedness being renewed, extended, refinanced, refunded or repurchased, (ii)
such Indebtedness is scheduled to mature no earlier than the Indebtedness being
renewed, extended, refinanced, refunded or repurchased, and (iii) such
Indebtedness has an Average Life at the time such Indebtedness is incurred that
is equal to or greater than the Average Life of the Indebtedness being renewed,
extended, refinanced, refunded or repurchased; provided, further, that such
Indebtedness (to the extent that such Indebtedness constitutes Permitted Company
Refinancing Indebtedness) is in an aggregate principal amount (or, if such
Indebtedness is issued at a price less than the principal amount thereof, the
aggregate amount of gross proceeds therefrom is) not in excess of the aggregate
principal amount then outstanding of the Indebtedness being renewed, extended,
refinanced, refunded or repurchased (or if the Indebtedness being renewed,
extended, refinanced, refunded or repurchased was issued at a price less than
the principal amount thereof, then not in excess of the amount of liability in
respect thereof determined in accordance with GAAP).

"Permitted Financial Investments" means money market mutual or similar
funds having assets in excess of $500,000,000, and the following kinds of
instruments if, on the date of purchase or other acquisition of any such
instrument by the Company or any Subsidiary of the Company, the remaining term
to maturity is not more than one year: (i) readily marketable obligations
issued or unconditionally guaranteed as to principal of and interest on by the
United States of America or by any agency or authority controlled or supervised
by and acting as an instrumentality of the United States of America; (ii)
repurchase obligations for instruments of the type described in clause (i) for
which delivery of the instrument is made against payment; (iii) obligations
(including, but not limited to, demand or time deposits, bankers' acceptances
and certificates of deposit) issued by a depository institution or trust
company incorporated or doing business under the laws of the United States of
America, any state thereof or the District of Columbia or a branch or
subsidiary of any such depository institution or trust company operating
outside the United States, provided, that such depository institution or trust
company has, at the time of the Company's or such Subsidiary's investment
therein or contractual commitment providing for such investment, capital
surplus or undivided profits (as of the date of such institution's most
recently published financial statements) in excess of $500,000,000; and (iv)
commercial paper issued by any corporation, if such commercial paper has, at
the time of the Company's or any of its Subsidiary's investment therein or
contractual commitment providing for such investment, credit ratings of A-1 (or
higher) by Standard & Poor's Ratings Services and P-1 (or higher) by Moody's
Investors Services, Inc.

"Permitted Indebtedness" means (i) Indebtedness of the Company and its
Restricted Subsidiaries outstanding as of the Issue Date; (ii) Indebtedness of
the Company and its Restricted Subsidiaries under a Bank Credit Facility as the
same may be amended, refinanced or replaced, in a principal amount outstanding
at any time not to exceed a principal amount equal to the greater of (a) $35.0
million and (b) 15% of Adjusted Consolidated Net Tangible Assets, in each
instance, plus related accrued interest and costs, less any Net Cash Proceeds
applied pursuant to the covenant captioned "--Certain Covenants--Limitation on
Sale of Assets" to repay or prepay such Indebtedness that results in a
permanent reduction in any revolving credit or other commitment relating
thereto or the maximum amount that may be borrowed thereunder, provided that
the aggregate amount of applied Net Cash Proceeds shall not permanently reduce
the amount of Permitted Indebtedness under this clause (ii) below $10.0 million
principal amount plus related accrued interest and costs; (iii) other
Indebtedness of the Company and its Restricted Subsidiaries in a principal
amount not to exceed $5.0 million at any one time outstanding; (iv)
Indebtedness of the Company to any Wholly Owned Restricted Subsidiary of the
Company and Indebtedness of any Restricted Subsidiary of the Company to the
Company or another Wholly Owned Restricted Subsidiary; (v) Permitted Company
Refinancing Indebtedness; (vi) Permitted Subsidiary Refinancing Indebtedness;
(vii) obligations under non-speculative hedging arrangements that the Company
and its Subsidiaries enter into in the ordinary course of business for the
purpose of protecting their production against fluctuations in oil and natural
gas prices; (viii) Indebtedness under the Notes; and (ix) Indebtedness of a
Subsidiary of the Company pursuant to its Guarantee of the Notes pursuant to
Article X of the Indenture.

"Permitted Investments" means Permitted Business Investments and Permitted
Financial Investments.

"Permitted Liens" means (i) Liens outstanding as of the Issue Date; (ii)
Liens now or hereafter securing a Bank Credit Facility; provided, however, such
Liens are limited to securing Indebtedness in an amount not in excess of that
permitted to be incurred in accordance with clause (ii) of the definition of
Permitted Indebtedness; (iii) Liens now or hereafter securing any interest rate
hedging obligations so long as the related Indebtedness (a) constitutes Senior
Indebtedness or (b) is, or is permitted to be under this Indenture, secured by
a Lien on the same property

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securing such interest rate obligations; (iv) Liens now or hereafter securing
any interest rate hedging obligations so long as the related Indebtedness (a)
constitutes the Notes (or any Permitted Company Refinancing Indebtedness in
respect thereof) or (b) is, or is permitted to be under this Indenture, secured
by a Lien on the same property securing such interest rate hedging obligations;
(v) Liens securing Indebtedness, the proceeds of which are used to refinance
secured Indebtedness of the Company or its Restricted Subsidiaries; provided,
that such Liens extend to or cover only the property or assets currently
securing the Indebtedness being refinanced; (vi) Liens for taxes, assessments
and governmental charges not yet delinquent or being contested in good faith
and for which adequate reserves have been established to the extent required by
GAAP; (vii) mechanics', workmen's, materialmen's, operators' or similar Liens
arising in the ordinary course of business; (viii) Liens in connection with
workers' compensation, unemployment insurance or other social security, old age
pension or public liability obligations; (ix) Liens, deposits or pledges to
secure the performance of bids, tenders, contracts (other than contracts for
the payment of money), leases, public or statutory obligations, surety, stay,
appeal indemnity, performance or other similar bonds, or other similar
obligations arising in the ordinary course of business; (x) survey exceptions,
encumbrances, easements or reservations of, or rights of others for, rights of
way, zoning or other restrictions as to the use of real properties, and minor
defects in title which, in the case of any of the foregoing, were not incurred
or created to secure the payment of borrowed money or the deferred purchase
price of property or services, and in the aggregate do not materially adversely
affect the value of such properties or materially impair use for the purposes
of which such properties are held by the Company or any Restricted
Subsidiaries; (xi) Liens on, or related to, properties to secure all or part of
the costs incurred in the ordinary course of business of exploration, drilling,
development or operation thereof; (xii) Liens on pipeline or pipeline
facilities which arise out of operation of law; (xiii) judgment and attachment
Liens not giving rise to an Event of Default or Liens created by or existing
from any litigation or legal proceeding that are currently being contested in
good faith by appropriate proceedings and for which adequate reserves have been
made; (xiv) (a) Liens upon any property of any Person existing at the time of
acquisition thereof by the Company or a Restricted Subsidiary, (b) Liens upon
any property of a Person existing at the time such Person is merged or
consolidated with the Company or any Restricted Subsidiary or existing at the
time of the sale or transfer of any such property of such Person to the Company
or any Restricted Subsidiary, or (c) Liens upon any property of a Person
existing at the time such Person becomes a Restricted Subsidiary; provided,
that in each case such Lien has not been created in contemplation of such sale,
merger, consolidation, transfer or acquisition, and provided that in each such
case no such Lien shall extend to or cover any property of the Company or any
Restricted Subsidiary other than the property being acquired and improvements
thereon; (xv) Liens on deposits to secure public or statutory obligations or in
lieu of surety or appeal bonds entered into in the ordinary course of business;
(xvi) Liens in favor of collecting or payor banks having a right of setoff,
revocation, refund or chargeback with respect to money or instruments of the
Company or any Subsidiary of the Company on deposit with or in possession of
such bank; (xvii) purchase money security interests granted in connection with
the acquisition of assets in the ordinary course of business and consistent
with past practices, provided, that (A) such Liens attach only to the property
so acquired with the purchase money indebtedness secured thereby and (B) such
Liens secure only Indebtedness that is not in excess of 100% of the purchase
price of such assets; (xviii) Liens reserved in oil and gas mineral leases for
bonus or rental payments and for compliance with the terms of such leases;
(xix) Liens arising under partnership agreements, oil and gas leases, farm-out
agreements, division orders, contracts for the sale, purchase, exchange,
transportation or processing (but not refining) of oil, gas or other
hydrocarbons, unitization and pooling declarations and agreements, development
agreements, operating agreements, area of mutual interest agreements, and other
similar agreements which are customary in the Oil and Gas Business; (xx) Liens
securing obligations under non- speculative hedging arrangements that the
Company enters into in the ordinary course of business for the purpose of
protecting its production against fluctuations in oil and natural gas prices;
and (xxi) Liens to secure Dollar- Denominated Production Payments and
Volumetric Production Payments.

"Permitted Subsidiary Refinancing Indebtedness" means Indebtedness of any
Restricted Subsidiary, the net proceeds of which are used to renew, extend,
refinance, refund or repurchase outstanding Indebtedness of such Restricted
Subsidiary, provided that (i) if the Indebtedness (including any Guarantee)
being renewed, extended, refinanced, refunded or repurchased is pari passu with
or subordinated in right of payment to the Guarantee, then such Indebtedness is
pari passu with or subordinated in right of payment to, as the case may be, the
Guarantee at least to the same extent as the Indebtedness being renewed,
extended, refinanced, refunded or repurchased, (ii) such Indebtedness is
scheduled to mature no earlier than the Indebtedness being renewed, extended,
refinanced, refunded or repurchased, and (iii) such Indebtedness has an Average
Life at the time such Indebtedness is incurred that is equal to or greater than
the Average Life of the Indebtedness being renewed, extended, refinanced,
refunded or repurchased, provided, further, that such Indebtedness (to the
extent that such Indebtedness constitutes Permitted Subsidiary Refinancing
Indebtedness) is in an aggregate principal amount (or, if such Indebtedness is
issued at a price less than the principal amount thereof, the aggregate amount
of gross proceeds therefrom is) not in excess of the aggregate principal amount
then outstanding of the Indebtedness being renewed, extended, refinanced,
refunded or repurchased (or if the Indebtedness being renewed, extended,
refinanced, refunded or repurchased was issued at a price less than the
principal amount thereof, then not in excess of the amount of liability in
respect thereof determined in accordance with GAAP).

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"Person" means any individual, corporation, partnership, limited liability
company, joint venture, trust, estate, unincorporated organization or
government or any agency or political subdivision thereof.

"Preferred Stock" as applied to the Capital Stock of any corporation, means
Capital Stock of any class or classes (however designated), which is preferred
as to the payment of dividends, or upon any voluntary or involuntary
liquidation or dissolution of such corporation, over shares of Capital Stock of
any other class of such corporation.

"Production Payments" means, collectively, Dollar-Denominated Production
Payments and Volumetric Production Payments.

"Reference Period" means, with respect to any Person, the four full
consecutive fiscal quarters ended with the last full fiscal quarter for which
financial information is available immediately preceding any date upon which
any determination is to be made pursuant to the terms of the Notes or the
Indenture.

"Restricted Payment" means, with respect to any Person, any of the
following: (i) the declaration or payment of any dividend or the making of any
other payment or distribution in respect or on account of such Person's Capital
Stock (other than (a) dividends or distributions payable solely in Capital
Stock (other than Disqualified Stock) and (b) in the case of Restricted
Subsidiaries of the Company, dividends or distributions payable to the Company
or to a Restricted Subsidiary of the Company); (ii) the purchase, redemption or
other acquisition or retirement for value of any Capital Stock, or any option,
warrant, or other right to acquire shares of Capital Stock, of the Company or
any of its Restricted Subsidiaries (but excluding (a) any cashless exercise of
warrants or options or (b) payments in respect of cash elections or phantom
stock or similar awards under any director or employee benefit plan or
arrangement provided such payment is recorded as a compensation expense under
GAAP); (iii) the making of any payment (principal or otherwise) on or with
respect to, or the purchase, defeasance, repurchase, redemption or other
acquisition or retirement for value, prior to any scheduled maturity, scheduled
repayment or scheduled sinking fund payment, of any Indebtedness which is
subordinated in right of payment to the Notes or Guarantees, as the case may
be; and (iv) the making by such Person of any Investment other than a Permitted
Investment.

"Restricted Subsidiary" means any Subsidiary of the Company other than an
Unrestricted Subsidiary. The Board of Directors of the Company may designate
any Unrestricted Subsidiary to be a Restricted Subsidiary; provided, however,
that (i) immediately after giving effect to such designation, the Company could
incur at least $1.00 in additional Indebtedness pursuant to the first paragraph
of the covenant captioned "--Certain Covenant --Limitation on Incurrence of
Additional Indebtedness," (ii) such designation shall be deemed to be an
incurrence of Indebtedness by a Restricted Subsidiary of any outstanding
Indebtedness of such Unrestricted Subsidiary, and such Indebtedness is
permitted under the covenant described under the caption "--Certain
Covenants--Limitation on Incurrence of Additional Indebtedness," calculated on
a pro forma basis as if such designation had occurred at the beginning of the
four-quarter Reference Period, and (iii) no Default or Event of Default would
be in existence following such designation.

"Sale/Leaseback Transaction" means with respect to the Company or any of
its Restricted Subsidiaries, any arrangement with any Person providing for the
leasing by the Company or any of its Restricted Subsidiaries of any principal
property, acquired or placed into service more than 180 days prior to such
arrangement, whereby such property has been or is to be sold or transferred by
the Company or any of its Restricted Subsidiaries to such Person.

"Senior Indebtedness" means any Indebtedness of the Company (whether
outstanding on the Issue Date or thereafter incurred), unless such Indebtedness
is contractually subordinate or junior in right of payment of principal,
premium and interest to the Notes.

"Senior Indebtedness of a Guarantor" means any Indebtedness of such
Guarantor (whether outstanding on the Issue Date or thereafter incurred),
unless such Indebtedness is contractually subordinate or junior in right of
payment of principal, premium and interest to the Guarantees.

"Subordinated Indebtedness of a Guarantor" means any Indebtedness of such
Guarantor (whether outstanding on the date hereof or hereafter incurred) which
is contractually subordinate or junior in right of payment of principal,
premium and interest to the Guarantees.

"Subordinated Indebtedness of the Company" means any Indebtedness of the
Company (whether outstanding on the date hereof or hereafter incurred) which is
contractually subordinate or junior in right of payment of principal, premium
and interest to the Notes.

"Subsidiary" of any Person means (i) a corporation a majority of whose
Voting Stock is at the time, directly or indirectly, owned by such Person, by
one or more subsidiaries of such Person or by such Person and one or more

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subsidiaries of such Person, (ii) a partnership in which such Person or a
subsidiary of such Person is, at the date of determination, a general or
limited partner of such partnership, but only if such Person is, or one or more
of its subsidiaries or such Person and one or more of its subsidiaries are,
entitled to receive more than 50 percent of the assets of such partnership upon
its dissolution, or (iii) any other Person (other than a corporation or
partnership) in which such Person, directly or indirectly, at the date of
determination thereof, has (x) at least a majority ownership interest or (y)
the power to elect or direct the election of a majority of the directors or
other governing body of such Person.

"Unrestricted Subsidiary" means (i) any Subsidiary of the Company that is
designated as an Unrestricted Subsidiary by the Board of Directors of the
Company pursuant to a board resolution in accordance with the requirements of
the following sentence (and so long as such Subsidiary continues to meet such
requirements) and (ii) any Subsidiary of an Unrestricted Subsidiary. The Board
of Directors of the Company may designate any Subsidiary of the Company
(including a newly acquired or newly formed Subsidiary) to be an Unrestricted
Subsidiary, by a resolution of the Board of Directors of the Company as
evidenced by written notice thereof and the filing and officers' certificate
referred to in the next following sentence delivered to the Trustee, only if at
the time of and after giving effect to such designation, (a) the Company could
incur at least $1.00 of additional Indebtedness pursuant to the first paragraph
of the covenant captioned "--Certain Covenants--Limitation on Incurrence of
Additional Indebtedness," (b) the Company could make an additional Restricted
Payment of at least $1.00 pursuant to the first paragraph of the covenant
captioned "--Certain Covenants--Limitation on Restricted Payments," (c) such
Subsidiary does not own or hold any Capital Stock of, or any Lien on any
property of, the Company or any Restricted Subsidiary, (d) such Subsidiary is
not liable, directly or indirectly, with respect to any Indebtedness other than
Non-Recourse Indebtedness, (e) such Subsidiary is not a party to any agreement,
contract, arrangement or understanding with the Company or any Restricted
Subsidiary unless such agreement, contract, arrangement or understanding does
not violate the terms of the Indenture described under the caption "--Certain
Covenants--Limitation on Transactions with Affiliates," and (f) such Subsidiary
is a Person with respect to which neither the Company nor any Restricted
Subsidiary has any direct or indirect obligation (1) to subscribe for
additional Capital Stock or (2) to maintain or preserve such Subsidiary's
financial condition or to cause such Subsidiary to achieve any specified levels
of operating results, in each case, except to the extent otherwise permitted by
the Indenture. Any such designation by the Board of Directors shall be
evidenced to the Trustee by filing with the Trustee a certified copy of the
Board Resolution giving effect to such designation and an officers' certificate
certifying that such designation complied with the foregoing requirements and
was permitted by the covenant described above under the caption "--Certain
Covenants--Limitation on Restricted Payments." If, at any time, any
Unrestricted Subsidiary would fail to meet the foregoing requirements as an
Unrestricted Subsidiary, it shall thereafter cease to be an Unrestricted
Subsidiary for purposes of the Indenture, and any Indebtedness of such
Subsidiary shall be deemed to be incurred by a Restricted Subsidiary of the
Company as of such date (and, if such Indebtedness is not permitted to be
incurred as of such date under the covenant described under the caption
"--Certain Covenants --Limitation on Incurrence of Additional Indebtedness,"
the Company shall be in default of such covenant).

"U.S. Government Securities" means securities that are (i) direct
obligations of the United States of America for the payment of which its full
faith and credit is pledged or (ii) obligations of a Person controlled or
supervised by and acting as an agency or instrumentality of the United States
of America the payment of which is unconditionally guaranteed as a full faith
and credit obligation by the United States of America, which, in either case
under clauses (i) or (ii) are not callable or redeemable at the option of the
issuer thereof.

"U.S. Legal Tender" means such coin or currency of the United States as at
the time of payment shall be legal tender for the payment of public and private
debts.

"Volumetric Production Payments" mean production payment obligations
recorded as deferred revenue in accordance with GAAP, together with all
undertakings and obligations in connection therewith.

"Voting Stock" means, with respect to any Person, securities of any class
or classes of Capital Stock in such Person entitling the holders thereof
(whether at all times or only so long as no senior class of stock has voting
power by reason of contingency) to vote in the election of members of the Board
of Directors or other governing body of such Person.

"Wholly Owned Restricted Subsidiary" means a Restricted Subsidiary 95% or
more of the Capital Stock of which is owned by the Company or another Wholly
Owned Restricted Subsidiary, other than (i) directors' qualifying shares, if
applicable, and (ii) shares required by applicable law of a foreign
jurisdiction to be partially owned by the government of such jurisdiction or
Person of such or another foreign jurisdiction in order for such Subsidiary to
transact business in such jurisdiction, if such Subsidiary is organized in a
foreign jurisdiction, in each case, so long as the Company or such other Wholly
Owned Restricted Subsidiary controls the management and business of such
Restricted Subsidiary and derives the economic benefits of ownership of such
Restricted Subsidiary to substantially

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the same extent as if such Restricted Subsidiary were wholly owned by the
Company or such other Wholly Owned Restricted Subsidiary.

EVENTS OF DEFAULT

The following will be "Events of Default" under the Indenture:

(i) default in the payment of principal of or premium, if any, on the Notes
when due and payable at maturity, upon repurchase pursuant to a Change of
Control Offer or a Net Proceeds Offer, upon acceleration or otherwise; or

(ii) default for 30 days in payment of any interest on, or Liquidated
Damages with respect to, the Notes; or

(iii) default by the Company or any Guarantor in the deposit of any
optional redemption payment; or

(iv) default by the Company or any Guarantor in the performance of the
covenants discussed under the captions "--Change of Control," "--Certain
Covenants--Limitation on Sale of Assets" and "--Certain Covenants--Limitation
on Mergers and Consolidations;" or

(v) default by the Company or any Restricted Subsidiary in the performance
of any other covenant or agreement in the Indenture (other than those described
in clauses (i) through (iv) above) which shall not have been remedied within 30
days after written notice by the Trustee or by the Holders of at least 25% in
principal amount of the Notes then outstanding; or

(vi) default on any other Indebtedness (other than Non-Recourse
Indebtedness) of the Company or any Subsidiary of the Company (other than an
Unrestricted Subsidiary) if either (a) such default results in the acceleration
of the maturity of any such Indebtedness having a principal amount of
$5,000,000 or more individually or, taken together with the principal amount of
any other such Indebtedness in default or the maturity of which has been so
accelerated, in the aggregate, or (b) such default results from the failure to
pay when due principal of, or premium, if any, or interest on, any such
Indebtedness, after giving effect to any applicable grace period (a "Payment
Default"), having a principal amount of $5,000,000 or more individually or,
taken together with the principal amount of any other Indebtedness under which
there has been a Payment Default, in the aggregate; or

(vii) the commencement of proceedings, or the taking of any enforcement
action (including by way of set-off), by any holder (or its designee or assign)
of at least $5.0 million in aggregate principal amount of Indebtedness
(including any amounts owed pursuant to a judgment or order) of the Company or
any Subsidiary of the Company (other than an Unrestricted Subsidiary, provided
that neither the Company nor any Restricted Subsidiary is liable, directly or
indirectly, for such Indebtedness), after a default under such Indebtedness, to
retain in satisfaction of such Indebtedness or to collect or seize, dispose of
or apply in satisfaction of such Indebtedness, property or assets of the
Company or its Restricted Subsidiaries having a fair market value in excess of
$5.0 million individually or in the aggregate; provided that if any such
proceedings or actions are terminated or rescinded, or such Indebtedness is
repaid or settled, in each case, other than as a result of the enforcement of
any right or process pursuant to any such proceeding or action, such Event of
Default under the Indenture and any consequential acceleration of the Notes
shall be automatically rescinded, so long as (a) such rescission does not
conflict with any judgment or decree and (b) the holder of such Indebtedness
shall not have applied any such property or assets in satisfaction of such
Indebtedness; or

(viii) the entry by a court of one or more judgments or orders for the
payment in cash or other assets of $5.0 million or more individually or in the
aggregate (net of applicable insurance coverage acknowledged in writing by the
insurance carrier) having been rendered against the Company or any Subsidiary
of the Company (other than an Unrestricted Subsidiary; provided that neither
the Company nor any Restricted Subsidiary is liable, directly or indirectly,
for such judgment or order) and such judgment or order shall continue
unsatisfied and unstayed for a period of 60 days; or

(ix) the occurrence of certain events giving rise to ERISA liability; or

(x) the failure of a Guarantee by a Guarantor to be in full force and
effect (other than a release of a Guarantee in accordance with the Indenture),
or the denial or disaffirmance by such entity thereof; or

(xi) certain events involving bankruptcy, insolvency or reorganization of
the Company or any Subsidiary of the Company (other than an Unrestricted
Subsidiary).

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The Indenture provides that the Trustee may withhold notice to the Holders
of the Notes of any default (except in payment of principal of, or premium, if
any, or interest or Liquidated Damages on the Notes) if the Trustee considers
it in the interest of the Holders of the Notes to do so.

The Indenture provides that if an Event of Default occurs and is continuing
with respect to the Indenture, the Trustee or the Holders of not less than 25%
in principal amount of the Notes outstanding may declare the principal of and
premium, if any, and accrued but unpaid interest and Liquidated Damages (if
any) on all Notes to be due and payable. Upon such a declaration, such
principal, premium, if any, interest and Liquidated Damages (if any) will be
due and payable immediately. Notwithstanding the foregoing, if an Event of
Default relating to certain events of bankruptcy, insolvency or reorganization
of the Company or any Subsidiary of the Company occurs and is continuing, the
principal of, and premium, if any, and accrued but unpaid interest and
Liquidated Damages (if any) on all the Notes will become and be immediately due
and payable without any declaration or other act on the part of the Trustee or
any Holders of the Notes. The amount due and payable on the acceleration of
any Note will be equal to 100% of the principal amount of such Note, plus
accrued interest and Liquidated Damages (if any) to the date of payment. Under
certain circumstances, the Holders of a majority in principal amount of the
outstanding Notes may rescind any such acceleration with respect to the Notes
and its consequences.

The Indenture provides that no Holder of a Note may pursue any remedy under
the Indenture unless (i) the Trustee shall have received written notice of a
continuing Event of Default, (ii) the Trustee shall have received a request
from Holders of at least 25% in principal amount of the Notes to pursue such
remedy, (iii) the Trustee shall have been offered indemnity reasonably
satisfactory to it, (iv) the Trustee shall have failed to act for a period of
60 days after receipt of such notice, request and offer of indemnity and (v) no
direction inconsistent with such written request has been given to the Trustee
during such 60-day period by the Holders of a majority in principal amount of
the Notes; provided, however, such provision does not affect the right of a
Holder of a Note to sue for enforcement of any overdue payment thereon.

The Holders of a majority in principal amount of the Notes then outstanding
will have the right to direct the time, method and place of conducting any
proceeding for exercising any remedy available to the Trustee under the
Indenture, subject to certain limitations specified in the Indenture. The
Indenture will require the annual filing by the Company with the Trustee of a
written statement as to compliance with the covenants contained in the
Indenture.

MODIFICATION AND WAIVER

The Indenture provides that modifications and amendments to the Indenture
or the Notes may be made by the Company, the Guarantors and the Trustee with
the consent of the Holders of a majority in principal amount of the Notes then
outstanding; provided that no such modification or amendment may, without the
consent of the Holder of each Note then outstanding affected thereby, (i)
reduce the percentage of principal amount of Notes whose Holders must consent
to an amendment, supplement or waiver; (ii) reduce the rate or change the time
for payment of interest, including defaulted interest, or Liquidated Damages on
any Note; (iii) reduce the principal amount of any Note or change the Maturity
Date of the Notes; (iv) reduce the redemption price, including premium, if any,
payable upon redemption of any Note or change the time at which any Note may or
shall be redeemed; (v) reduce the repurchase price, including premium, if any,
payable upon the repurchase of any Note or change the time at which any Note
may or shall be repurchased; (vi) make any Note payable in money other than
that stated in the Note; (vii) impair the right to institute suit for the
enforcement of any payment of principal of, or premium, if any, or interest or
Liquidated Damages on any Note; (viii) make any change in the percentage of
principal amount of Notes necessary to waive compliance with certain provisions
of the Indenture; or (ix) waive a continuing Default or Event of Default in the
payment of principal of, premium, if any, or interest or Liquidated Damages on
the Notes. The Indenture provides that modifications and amendments of the
Indenture may be made by the Company, the Guarantors and the Trustee without
the consent of any Holders of Notes in certain limited circumstances, including
(a) to cure any ambiguity, omission, defect or inconsistency, (b) to provide
for the assumption of the Obligations of the Company or any Guarantor under the
Indenture upon the merger, consolidation or sale or other disposition of all or
substantially all of the assets of the Company or such Guarantor, (c) to
reflect the release of any Guarantor from its Guarantee, or the addition of any
Subsidiary of the Company as a Guarantor, in the manner provided in the
Indenture, (d) to comply with any requirement of the SEC in order to effect or
maintain the qualification of the Indenture under the Trust Indenture Act of
1939 or (e) to make any change that would provide any additional benefit to the
Holders or that does not adversely affect the rights of any Holder of Notes in
any material respect.

The Indenture provides that neither the Company nor any of its Subsidiaries
shall, directly or indirectly, pay or cause to be paid any consideration,
whether by way of interest, fees or otherwise, to any Holder of any Notes for
or as an inducement to any consent, waiver or amendment of any terms or
provisions of the Notes or the Indenture unless such consideration is offered
to be paid or agreed to be paid to all Holders of the Notes which so consent,
waive or agree to amend in the time period set forth in any solicitation
documents relating to such consent.

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The Indenture provides that the Holders of a majority in aggregate
principal amount of the Notes then outstanding may waive any past default under
the Indenture, except a default in the payment of principal, premium, if any,
or interest or Liquidated Damages.

LEGAL DEFEASANCE AND COVENANT DEFEASANCE

The Company may, at its option and at any time, elect to have its
Obligations discharged with respect to the outstanding Notes ("Legal
Defeasance"). Such Legal Defeasance means that the Company will be deemed to
have paid and discharged the entire Indebtedness represented by the outstanding
Notes, except for (i) the rights of Holders of such Notes to receive payments
in respect of the principal of, premium, if any, and interest and Liquidated
Damages (if any) on such Notes when such payments are due, (ii) the Company's
obligations with respect to such Notes concerning the issuance of temporary
Notes, transfers and exchanges of Notes, replacement of mutilated, destroyed,
lost or stolen Notes, the maintenance of an office or agency where Notes may be
surrendered for transfer or exchange or presented for payment, and duties of
paying agents, (iii) the rights, powers, trusts, duties and immunities of the
Trustee, and the Company's obligations in connection therewith and (iv) the
Legal Defeasance provisions of the Indenture. In addition, the Company may, at
its option and at any time, elect to have the obligations of the Company
released with respect to certain covenants that are described in the Indenture
("Covenant Defeasance"), and thereafter any omission to comply with such
obligations shall not constitute a Default or Event of Default with respect to
the Notes. In the event Covenant Defeasance occurs, certain events (not
including non-payment events) described under "--Events of Default" will no
longer constitute an Event of Default with respect to the Notes.

In order to exercise either Legal Defeasance or Covenant Defeasance, (i)
the Company must irrevocably deposit with the Trustee or other qualifying
Trustee, in trust, for the benefit of the Holders of the Notes, cash in U.S.
Legal Tender, U.S. Government Securities, or a combination thereof, in such
amounts as will be sufficient, in the opinion of a nationally recognized firm
of independent public accountants, to pay the principal of, premium, if any,
and interest and Liquidated Damages (if any) on the outstanding Notes on the
Maturity Date or on the applicable redemption date, as the case may be, of such
principal or installment of principal, premium, if any, or interest or
Liquidated Damages (if any); (ii) in the case of Legal Defeasance, the Company
must deliver to the Trustee an opinion of counsel reasonably acceptable to the
Trustee confirming that (A) the Company has received from or there has been
published by, the Internal Revenue Service a ruling or (B) since the date of
the Indenture, there has been a change in the applicable federal income tax
law, in either case to the effect that, and based thereon such opinion of
counsel shall confirm that, the Holders of the outstanding Notes will not
recognize income, gain or loss for federal income tax purposes as a result of
such Legal Defeasance and will be subject to federal income tax on the same
amounts, in the same manner and at the same times as would have been the case
if such Legal Defeasance had not occurred; (iii) in the case of Covenant
Defeasance, the Company shall have delivered to the Trustee an opinion of
counsel reasonably acceptable to the Trustee to the effect that the Holders of
the outstanding Notes will not recognize income, gain or loss for federal
income tax purposes as a result of such Covenant Defeasance and will be subject
to federal income tax on the same amounts, in the same manner and at the same
times as would have been the case if such Covenant Defeasance had not occurred,
(iv) no Default or Event of Default shall have occurred and be continuing on
the date of such deposit or insofar as Events of Default from bankruptcy or
insolvency events are concerned, at any time in the period ending on the 91st
day (or a subsequent date if a longer comparable period is then applicable)
after the date of deposit; (v) such Legal Defeasance or Covenant Defeasance
shall not result in a breach or violation of, or constitute a default under any
other material agreement or instrument to which the company is a party or by
which the Company is bound; (vi) the Company shall have delivered to the
Trustee an officers' certificate stating that the deposit was not made by the
Company with the intent of preferring the Holders of Notes over other creditors
of the Company or with the intent of defeating, hindering, delaying or
defrauding creditors of the Company or others; and (vii) the Company shall have
delivered to the Trustee an officers' certificate and an opinion of counsel
each stating that all conditions precedent provided for relating to the Legal
Defeasance or the Covenant Defeasance have been complied with.

GOVERNING LAW

The Indenture provides that it, the Guarantees and the Notes will be
governed by, and construed in accordance with, the laws of the State of New
York, but without giving effect to principles of conflicts of law to the extent
that the application of the law of another jurisdiction would be required
thereby.

THE TRUSTEE

State Street Bank and Trust Company is the Trustee under the Indenture. Its
address is 225 Asylum Street, 23rd Floor, Hartford, Connecticut 06103. The
Company has also appointed the Trustee as the initial Registrar, Transfer Agent
and Paying Agent under the Indenture.

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The Trustee is permitted to become an owner or pledgee of Notes and may
otherwise deal with the Company or its Subsidiaries or any of their Affiliates
with the same rights it would have if it were not Trustee. If, however, the
Trustee acquires any conflicting interest (as defined in the Trust Indenture
Act), it must eliminate such conflict or resign.

The Indenture provides that in case an Event of Default shall occur (and be
continuing), the Trustee will be required to use the degree of care and skill
of a prudent person in the conduct of such person's own affairs. The Trustee
will be under no obligation to exercise any of its powers under the Indenture
at the request of any of the Holders of the Notes, unless such Holders have
offered the Trustee indemnity reasonably satisfactory to it.

ADDITIONAL INFORMATION

Anyone who receives this Prospectus may obtain a copy of the Indenture
without charge by writing to Michael Petroleum Corporation, 13101 Northwest
Freeway, Suite 320, Houston, Texas 77040, Attention: Robert L. Swanson.

NO PERSONAL LIABILITY OF DIRECTORS, ADVISORS, MANAGERS, OFFICERS, EMPLOYEES,
INCORPORATORS, MEMBERS AND SHAREHOLDERS

No director, advisor, manager, officer, employee, incorporator, member or
shareholder of the Company or any Guarantor, as such, shall have any liability
for any obligations of the Company or any Guarantor under the Notes, the
Guarantees, the Indenture or for any claim based on, in respect of, or by
reason of, such obligations or their creation. Each Holder of Notes by
accepting a Note waives and releases all such liability. The waiver and release
are part of the consideration for issuance of the Notes. Such waiver may not be
effective to waive liabilities under the federal securities laws, and it is the
view of the SEC that such a waiver is against public policy.

BOOK-ENTRY, DELIVERY AND FORM

The Old Notes were offered and sold (a) to Qualified Institutional Buyers
in reliance on the exemption from the registration requirements of the
Securities Act provided by Rule 144A ("Rule 144A Notes") and (b) outside the
United States in reliance on Regulation S under the Securities Act ("Regulation
S Notes"). Except as set forth below, Notes will be issued in registered,
global form without interest coupons in minimum denominations of $1,000 and
integral multiples of $1,000 in excess thereof.

Rule 144A Notes are represented by one Note in registered, global form
without interest coupons (the "Rule 144A Global Note"). The Rule 144A Global
Note was deposited upon issuance with the Trustee as custodian for DTC, in New
York, New York, and registered in the name of DTC or its nominee, in each case
for credit to an account of a direct or indirect participant in DTC as
described below.

Regulation S Notes initially are represented by one temporary Note in
registered, global form without interest coupons (the "Regulation S Temporary
Global Note"). The Regulation S Temporary Global Note was deposited on behalf
of the subscribers thereof with a custodian for DTC. The Regulation S Temporary
Global Note was registered in the name of a nominee of DTC for credit to the
subscribers' respective accounts at the Euroclear and Cedel Bank. Beneficial
interests in the Regulation S Temporary Global Note may be held only through
Euroclear or Cedel Bank.

After the occurrence of (i) the expiration of a 40-day restricted period,
as defined under Regulation S (the "Restricted Period"), or (ii) the exchange
of a beneficial interest in the Regulation S Global Notes for a beneficial
interest in a global note representing New Notes upon consummation of the
Exchange Offer and upon delivery of certification that the beneficial owners
thereof are not U.S. persons (as defined in Rule 902(o) under the Securities
Act) or that such beneficial owners purchased such Notes in a transaction that
did not require registration under the Securities Act and are in the process of
obtaining a beneficial interest in the Rule 144A Global Note in exchange for
their beneficial interest in the Regulation S Temporary Global Note, a
beneficial interest in the Regulation S Temporary Global Note may be exchanged
for an interest in one or more permanent Notes in registered, global form
without interest coupons (collectively, the "Regulation S Permanent Global
Notes" and, together with the Regulation S Temporary Global Notes, the
"Regulation S Global Note") (the Regulation S Global Note and the 144A Global
Note collectively, the "Global Notes") which is expected to be deposited with
the Trustee as custodian for, and registered in the name of, a nominee of DTC.
Investors may hold beneficial interests in the Regulation S Permanent Global
Note through organizations other than Euroclear and Cedel Bank that are
Participants in DTC's system. Euroclear and Cedel Bank will hold interests in
the Regulation S Global Note on behalf of their Participants through customers'
securities accounts in their respective names on the books of their respective
depositaries, which are Morgan Guaranty Trust Company of New York, Brussels
office, as operator of Euroclear, and Citibank, N.A., as operator of Cedel
Bank. In turn, each of Euroclear and Cedel Bank will hold such interests in the
Regulation S Global Note in customers' securities accounts in its name on the
books of DTC.

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The Notes that are issued as described below under the caption "--
Certificated Notes" will be issued in the form of registered definitive
certificates (the "Certificated Notes"). Such Certificated Securities may,
unless the Global Notes have previously been exchanged for Certificated Notes,
be exchanged for an interest in a Global Note representing the principal amount
of Notes being transferred.

DTC is a limited-purpose trust company that was created to hold securities
for its participating organizations (collectively, the "Participants" or "DTC's
Participants") and to facilitate the clearance and settlement of transactions
in such securities between Participants through electronic book-entry changes
in accounts of its Participants. DTC's Participants include securities brokers
and dealers (including the Initial Purchaser), banks and trust companies,
clearing corporations and certain other organizations. Access to DTC's system
is also available to other entities such as banks, brokers, dealers and trust
companies (collectively, the "Indirect Participants" or "DTC's Indirect
Participants") that clear through or maintain a custodial relationship with a
Participant, either directly or indirectly. Persons who are not Participants
may beneficially own securities held by or on behalf of DTC only through DTC's
Participants or DTC's Indirect Participants.

The Company expects that, pursuant to procedures established by DTC, (i)
upon deposit of the Global Notes, DTC will credit the accounts of Participants
designated by the Initial Purchaser with portions of the principal amount of
the Global Notes and (ii) ownership of the Notes evidenced by the Global Notes
will be shown on, and the transfer of ownership thereof will be effected only
through, records maintained by DTC (with respect to the interests of DTC's
Participants), DTC's Participants and DTC's Indirect Participants. Prospective
purchasers are advised that the laws of some states require that certain
persons take physical delivery in definitive form of securities that they own.
Consequently, the ability to transfer Notes evidenced by the Global Notes will
be limited to such extent.

Beneficial interests in one Global Note may be transferred to a person who
takes delivery in the form of a beneficial interest in another Global Note only
upon receipt by the Trustee of a written certification (in the form provided in
the Indenture) to the effect that such transfer is being made in accordance
with the Indenture and with the Securities Act and any applicable securities
laws of any state of the United States or any other jurisdiction. Any
beneficial interest in one of the Global Notes that is transferred to a person
who takes delivery in the form of a beneficial interest in another Global Note
will, upon transfer, cease to be a beneficial interest in such Global Note and
become a beneficial interest in the other Global Note and accordingly, will
thereafter be subject to all transfer restrictions, if any, and other
procedures applicable to beneficial interests in such other Global Note for as
long as it remains such a beneficial interest.

So long as the Global Note holder is the registered owner of any Notes, the
Global Note holder will be considered the sole holder under the Indenture of
any Notes evidenced by the Global Notes. Beneficial owners of Notes evidenced
by the Global Notes will not be considered the owners or holders thereof under
the Indenture for any purpose, including with respect to the giving of any
directions, instructions or approvals to the Trustee thereunder. Neither the
Company nor the Trustee will have any responsibility or liability for any
aspect of the records of DTC or for maintaining, supervising or reviewing any
records of DTC relating to the Notes.

Payments in respect of the principal of and premium, interest and
Liquidated Damages, if any, on any Notes registered in the name of the Global
Note holder on the applicable record date will be payable by the Trustee to or
at the direction of the Global Note holder in its capacity as the registered
holder under the Indenture. Under the terms of the Indenture, the Company and
the Trustee may treat the persons in whose names Notes, including the Global
Notes, are registered as the owners thereof for the purpose of receiving such
payments. Consequently, neither the Company nor the Trustee has or will have
any responsibility or liability for the payment of such amounts to beneficial
owners of Notes. The Company believes, however, that it is currently the policy
of DTC to immediately credit the accounts of the relevant Participants with
such payments, in amounts proportionate to their respective holdings of
beneficial interests in the relevant security as shown on the records of DTC.
Payments by DTC's Participants and DTC's Indirect Participants to the
beneficial owners of Notes will be governed by standing instructions and
customary practice and will be the responsibility of DTC's Participants or
DTC's Indirect Participants.

ADDITIONAL INFORMATION CONCERNING EUROCLEAR AND CEDEL BANK

Euroclear and Cedel Bank hold securities for participating organizations
and facilitate the clearance and settlement of securities transactions between
their respective participants through electronic book-entry changes in accounts
of such participants. Euroclear and Cedel Bank provide to their participants,
among other things, services for safekeeping, administration, clearance and
settlement of internationally traded securities and securities lending and
borrowing. Euroclear and Cedel Bank interface with domestic securities
markets. Euroclear and Cedel Bank participants are financial institutions such
as underwriters, securities brokers and dealers, banks, trust companies and

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certain other organizations. Indirect access to Euroclear and Cedel Bank is
also available to others such as banks, brokers, dealers and trust companies
that clear through or maintain a custodian relationship with a Euroclear or
Cedel Bank participant, either directly or indirectly.

When beneficial interests are to be transferred from the account of a
Participant (other than Morgan Guaranty Trust Company of New York and Citibank,
N.A., as depositaries for Euroclear and Cedel Bank, respectively) to the
account of a Euroclear participant or a Cedel Bank participant, the purchaser
must send instructions to Euroclear or Cedel Bank through a participant at
least one business day prior to settlement. Euroclear or Cedel Bank, as the
case may be, will instruct Morgan Guaranty Trust Company of New York or
Citibank, N.A. to receive the beneficial interests against payment. Payment
will include interest and, if any, Liquidated Damages attributable to the
beneficial interest from and including the last payment date to and excluding
the settlement date, on the basis of a calendar year consisting of twelve
30-day calendar months. For transactions settling on the 31st day of the month,
payment will include interest and, if any, Liquidated Damages accrued to and
excluding the first day of the following month. Payment will then be made by
Morgan Guaranty Trust Company of New York or Citibank, N.A., as the case may
be, to the Participant's account against delivery of the beneficial interests.
After settlement has been completed, the beneficial interests will be credited
to the respective clearing systems and by the clearing system, in accordance
with its usual procedures, to the Euroclear participants' or Cedel Bank
participants' account. Credit for the beneficial interests will appear on the
next business day (European time) and the cash debit will be back-valued to,
and interest attributable to the beneficial interests will accrue from, the
value date (which would be the preceding business day when settlement occurs in
New York). If settlement is not completed on the intended value date (i.e., the
trade fails), the Euroclear or Cedel Bank cash debit will instead be valued as
of the actual settlement date.

Euroclear participants and Cedel Bank participants will need to make
available to the respective clearing systems the funds necessary to process
same-day funds settlement. The most direct means of doing so is to pre-position
funds for settlement, either from cash on hand or existing lines of credit, as
they would for any settlement occurring within Euroclear or Cedel Bank. Under
this approach, such participants may take on credit exposure to Euroclear or
Cedel Bank until the beneficial interests are credited to their accounts one
day later. Finally, day traders that use Euroclear or Cedel Bank and that
purchase beneficial interests from Participants for credit to Euroclear
participants or Cedel Bank participants should note that their trades would
automatically fall on the sale side unless affirmative action were taken to
avoid these potential problems.

Due to time zone differences in their favor, Euroclear participants and
Cedel Bank participants may employ their customary procedures for transactions
in which beneficial interests are to be transferred by the respective clearing
system, through Morgan Guaranty Trust Company of New York or Citibank, N.A., to
another Participant. The seller must send instructions to Euroclear or Cedel
Bank through a participant at least one business day prior to settlement. In
these cases, Euroclear or Cedel Bank will instruct Morgan Guaranty Trust
Company of New York or Citibank, N.A., as the case may be, to credit the
beneficial interests to the Participant's account against payment. Payment will
include interest and, if any, Liquidated Damages attributable to the beneficial
interest from and including the last payment date to and excluding the
settlement date, on the basis of a calendar year consisting of twelve 30-day
calendar months. For transactions settling on the 31st day of the month,
payment will include interest and Liquidated Damages, if any, accrued to and
excluding the first day of the following month. The payment will then be
reflected in the account of the Euroclear participant or Cedel Bank participant
the following business day, and receipt of the cash proceeds in the Euroclear
or Cedel Bank participant's account will be back-valued to the value date
(which would be the preceding business day, when settlement occurs in New
York). If the Euroclear participant or Cedel Bank participant has a line of
credit with its representative clearing system and elects to draw on such line
of credit in anticipation of receipt of the sale proceeds in its account, the
back-valuation may substantially reduce or offset any overdraft charges
incurred over that one-day period. If settlement is not completed on the
intended value date (i.e., if trade fails), receipt of the cash proceeds in the
Euroclear or Cedel Bank participant's account would instead be valued as of the
actual settlement date.

CERTIFICATED SECURITIES

Subject to certain conditions, any person having a beneficial interest in a
Global Note may, upon request to the Trustee, exchange such beneficial interest
for Notes in the form of Certificated Securities. Upon any such issuance, the
Trustee is required to register such Certificated Securities in the name of,
and cause the same to be delivered to, such person or persons (or the nominee
of any thereof). [All such certificated Notes would be subject to the legend
requirements described herein under the caption "Notice to Investors."] In
addition, if (i) the Company notifies the Trustee in writing that DTC is no
longer willing or able to act as a depositary and the Company is unable to
locate a qualified successor within 90 days or (ii) the Company, at its option,
notifies the Trustee in writing that it elects to cause the issuance of Notes
in the form of Certificated Securities under the Indenture, then, upon
surrender by the Global Note Holder of the Global Notes, Notes in such form
will be issued to each person that the Global Note Holder and DTC identify as
being the beneficial owner of the related Notes.

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Neither the Company nor the Trustee, nor any agent for either of them, will
be liable for any delay by the Global Note Holder or DTC in identifying the
beneficial owners of Notes, and the Company and the Trustee, and each agent of
any of them, may conclusively rely on, and will be protected in relying on,
instructions from the Global Note Holder or DTC for all purposes.

UNITED STATES FEDERAL INCOME TAX CONSIDERATIONS

The following is a summary of the material U.S. federal income tax
considerations relating to the exchange of the Old Notes for New Notes and the
ownership and disposition of the New Notes. This discussion is based upon the
Internal Revenue Code of 1986, as amended (the "Code"), Treasury Regulations,
Internal Revenue Service ("IRS") rulings and administrative pronouncements and
judicial decisions now in effect, all of which are subject to change (possibly
with retroactive effect) or different interpretations. This discussion does not
purport to deal with all aspects of federal income taxation that may be
relevant to a particular investor's decision to exchange the Old Notes for the
New Notes, and it is not intended to be wholly applicable to all categories of
investors, some of which, such as dealers in securities, banks, insurance
companies and tax-exempt organizations, may be subject to special rules. In
addition, this discussion is limited to persons that will hold the New Notes as
a "capital asset" within the meaning of section 1221 of the Code. EACH HOLDER
OF OLD NOTES IS URGED TO CONSULT ITS OWN TAX ADVISOR AS TO THE PARTICULAR TAX
CONSEQUENCES OF EXCHANGING OLD NOTES FOR NEW NOTES, INCLUDING THE APPLICABILITY
AND EFFECT OF ANY STATE, LOCAL OR FOREIGN LAWS.

EXCHANGE OFFER

The exchange of the New Notes for the Old Notes pursuant to the Exchange
Offer should not constitute a material modification of the terms of the Notes
and, therefore, such exchange should not constitute an exchange for U.S.
federal income tax purposes. Accordingly, such exchange should have no U.S.
federal income tax consequences to U.S. holders of the New Notes, and the
holding period of the New Notes will include the holding period of the Old
Notes. The adjusted tax basis of the New Notes will be the same as that of the
Old Notes immediately before the exchange.

STATED INTEREST AND ORIGINAL ISSUE DISCOUNT

The stated interest on the New Notes will be includable in the income of a
holder as ordinary income for United States federal income tax purposes at the
time it is received or accrued in accordance with the holder's method of tax
accounting. Failure of the Company to consummate the Exchange Offer or to file
or cause to be declared effective the Shelf Registration Statement will cause
Liquidated Damages calculated as additional interest to accrue on the Old Notes
in the manner described therein. According to U.S. Treasury regulations, the
possibility of a change in the interest rate will not affect the amount of
interest income recognized by a holder (or the timing of such recognition) if
the likelihood of the change, as of the date the Old Notes were issued, was
remote. The Company believes that the likelihood of a change in the interest
rate on the Old Notes was remote and does not intend to treat the possibility
of a change in the interest rate as affecting the yield to maturity of any
Note.

The Old Notes will be considered to have been issued with original issue
discount ("OID") because the stated redemption price at maturity of the Old
Notes (which, for these purposes, will be its stated principal amount)
exceeded the issue price of the Old Notes. The amount of OID on each Old Note
was initially $17.51 per $1,000 in principal amount of Old Notes.

A holder (regardless of its method of accounting) will be required to i
include in income the sum of the daily portions of OID with respect to each New
Note for each day during the taxable year or portion of a taxable year in which
such holder holds the Note (such sum, "Accrued OID"), with the result that a
holder will be required to include amounts in income without any current
corresponding receipt of cash. The daily portion is determined by allocating to
each day of any accrual period within a taxable year a pro rata portion of an
amount equal to the adjusted issue price of the New Note at the beginning of
the accrual period multiplied by the yield to maturity of the New Note. The
adjusted issue price of a New Note at the beginning of any accrual period is
the issue price of the New Note increased by the Accrued OID for all prior
accrual periods (less all payments made on the New Notes other than payments of
stated interest on the New Notes). The Company will annually furnish to record
holders of the New Notes and to the IRS information with respect to any OID
accruing during the calendar year as may be required by applicable regulations.

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MARKET DISCOUNT

Holders of the New Notes should note that the resale of the New Notes may be
adversely affected by the market discount provisions of sections 1276 through
1278 of the Code. Under the market discount rules, if a holder of an Old Note
(other than a holder who purchased the New Note upon original issuance)
purchases it at a market discount (i.e., at a price below its stated redemption
price at maturity) in excess of a statutorily-defined de minimis amount and
thereafter recognizes gain upon a disposition or retirement of the New Note,
then the lesser of the gain recognized or the portion of the market discount
that accrued on a ratable basis (or, if elected, on a constant interest rate
basis) generally will be treated as ordinary income at the time of the
disposition. Moreover, any market discount in a New Note may be taxable to an
investor to the extent of appreciation at the time of certain otherwise
non-taxable transactions (e.g., gifts). Absent an election to include market
discount in income as it accrues, a holder of a market discount debt instrument
may be required to defer a portion of any interest expense that otherwise may
be deductible on any indebtedness incurred or maintained to purchase or carry
such debt instrument until the holder disposes of the debt instrument in a
taxable transaction.

SALE, EXCHANGE OR RETIREMENT OF THE NEW NOTES

Each holder of New Notes generally will recognize gain or loss upon the
sale, exchange, repurchase, redemption, retirement or other disposition of those
New Notes measured by the difference (if any) between (i) the amount of cash and
the fair market value of any property received (except to the extent that such
cash or other property is attributable to the payment of accrued interest not
previously included in income, which amount will be taxable as ordinary income)
and (ii) the holder's adjusted tax basis in those New Notes (including any
market discount previously included in income by the holder). Any such gain or
loss recognized on the sale, exchange, repurchase, redemption, retirement or
other disposition of a New Note should be capital gain or loss (except as
discussed under "Market Discount" above), and would be long-term capital gain or
loss if the New Note had been held for more than one year at the time of the
sale or exchange. If the New Notes had been held by a noncorporate holder for
more than 12 months but not more than 18 months, such capital gains generally
shall be subject to tax at a maximum 28% rate. If the New Notes had been held by
a non-corporate holder for more than 18 months, however, such capital gain
generally will be subject to tax at a maximum 20% rate. An investor's initial
tax basis in a New Note will be the cash price it paid therefor.

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BACKUP WITHHOLDING

A holder of New Notes may be subject to "backup withholding" at a rate of
31% with respect to certain "reportable payments," including interest payments
and, under certain circumstances, principal payments on the New Notes. These
backup withholding rules apply if the holder, among other things, (i) fails to
furnish a social security number or other taxpayer identification number
("TIN") certified under penalties of perjury within a reasonable time after the
request therefor, (ii) furnishes an incorrect TIN, (iii) fails to report
properly interest, or (iv) under certain circumstances, fails to provide a
certified statement, signed under penalties of perjury, that the TIN furnished
is the correct number and that such holder is not subject to backup
withholding. A holder who does not provide the Company with its correct TIN
also may be subject to penalties imposed by the IRS. Any amount withheld from a
payment to a holder under the backup withholding rules is creditable against
the holder's federal income tax liability, provided that the required
information is furnished to the IRS. Backup withholding will not apply,
however, with respect to payments made to certain holders, including
corporations, tax-exempt organizations and certain foreign persons ("exempt
recipients"), provided their exemptions from backup withholding are properly
established.

The amount of any "reportable payments" including interest made to the
holders of New Notes (other than to holders which are exempt recipients) and the
amount of tax withheld, if any, with respect to such payments will be reported
to such holders and to the IRS for each calendar year.

FOREIGN HOLDERS

The following discussion is a summary of the principal U.S. federal income
and estate tax consequences to a Foreign Person that holds a New Note. The term
"Foreign Person" means a nonresident alien individual or foreign corporation,
but only if the income or gain on the New Note is not "effectively connected
with the conduct of a trade or business within the U.S." If the income or gain
on the New Note is "effectively connected with the conduct of a trade or
business within the U.S.," then the nonresident alien individual or foreign
corporation will be subject to tax on such income or gain in essentially the
same manner as a U.S. citizen or resident or a domestic corporation, as
discussed above, and in the case of a foreign corporation, may also be subject
to a 30% (or lower applicable treaty rate) branch profits tax.

Under the portfolio interest exception to the general rules for the
withholding of a tax on interest paid to a Foreign Person, a Foreign Person will
not be subject to U.S. federal income tax (or to withholding) on interest
payments on a New Note, provided that (i) the Foreign Person does not actually
or constructively own 10% or more of the total combined voting power of all
classes of stock of the Company entitled to vote and is not a controlled foreign
corporation with respect to the U.S. that is related to the Company through
stock ownership and (ii) the Company, its paying agent or the person who would
otherwise be required to withhold tax receives either (A) a statement (an
"Owner's Statement") signed under penalties of perjury by the beneficial owner
of the New Note in which the owner certifies that the owner is not a U.S.
person, or in the case of an individual, that he is neither a citizen nor a
resident of the United States, and which provides the owner's name and address,
or (B) a statement signed under penalties of perjury by the Financial
Institution holding the New Note on behalf of the beneficial owner, together
with a copy of the Owner's Statement. The term "Financial Institution" means a
securities clearing organization, bank or other financial institution that holds
customers' securities in the ordinary course of its trade or business and that
holds a New Note on behalf of the owner of the New Note. A Foreign Person who
does not qualify for the "portfolio interest" exception, would, under current
law, generally be subject to the U.S. federal withholding tax at a flat rate of
30% (or lower applicable treaty rate) on interest payments.

In general, gain recognized by a Foreign Person upon the redemption,
retirement, sale or exchange of a Note (including any gain representing accrued
market discount) will not be subject to U.S. federal income tax. However, a
Foreign Person may be subject to U.S. federal income tax at a flat rate of 30%
(unless exempt by an applicable treaty) on any such gain if the Foreign Person
is an individual present in the U.S. for 183 days or more during the taxable
year in which the New Note is redeemed, retired, sold or exchanged, and certain
other requirements are met.

Subject to applicable estate tax treaty provisions, New Notes held at the
time of death (or New Notes transferred before death but subject to certain
retained rights or powers) by an individual who at the time of death is a
nonresident alien for estate tax purposes will not be included in such
individual's gross estate for U.S. federal estate tax purposes provided that
the individual does not actually or constructively own 10% or more of the total
combined voting power of all classes of stock of the Company entitled to vote
or hold the New Notes in connection with a U.S. trade or business.

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DESCRIPTION OF CAPITAL STOCK

CAPITAL STOCK

The authorized capital stock of the Company consists of (i) 100,000,000
shares of common stock, par value $0.10 per share, and (ii) 50,000,000 shares
of preferred stock, par value $0.10 per share. There currently are 10,000
shares of the Company's common stock outstanding, all of which are owned of
record and beneficially by MHI. No shares of the Company's preferred stock are
outstanding.

The authorized capital stock of MHI consists of (i) 100,000,000 shares of
Common Stock, par value $.01 per share, and (ii) 50,000,000 shares of preferred
stock, par value $.01 per share ("Preferred Stock"). On March 31, 1998, there
were seven holders of record of Common Stock with 773,425 shares outstanding,
and no shares of Preferred Stock were outstanding.

COMMON STOCK

Holders of shares of Common Stock are entitled to share ratably in such
dividends as may be declared by the Board of Directors and paid by MHI out of
funds legally available therefor, subject to prior rights of any outstanding
shares of any preferred stock. In the event of any dissolution, liquidation or
winding up of MHI, holders of shares of Common Stock are entitled to share
ratably in assets remaining after payment of all liabilities and liquidation
preferences, if any.

Except as otherwise required by law or the Articles of Incorporation, the
holders of Common Stock are entitled to one vote per share on all matters voted
on by shareholders, including the election of directors.

Holders of shares of Common Stock have no preemptive, cumulative voting,
subscription, redemption or conversion rights. The rights, preferences and
privileges of holders of Common Stock are subject to the rights, preferences
and privileges granted to the holders of any series of preferred stock which
the Company may issue in the future.

The rights and privileges of the holders of the Company's common stock are
substantially similar to those of the holders of the Common Stock.

PREFERRED STOCK

The Board of Directors may, without further action by the shareholders of
MHI, from time to time, direct the issuance of fully authorized shares of
preferred stock in classes or series and may, at the time of issuance,
determine the powers, rights, preferences and limitations of each class or
series. Satisfaction of any dividend preferences on outstanding shares of
preferred stock may reduce the amount of funds available for the payment of
dividends on Common Stock. Also, holders of preferred stock may be entitled to
receive a preference payment in the event of any liquidation, dissolution or
winding up of MHI before any payment is made to the holders of Common Stock.
Under certain circumstances, the issuance of such preferred stock may render
more difficult or tend to discourage a merger, tender offer or proxy contest,
the assumption of control by a holder of a large block of MHI's securities or
the removal of incumbent management.

The rights and privileges of the holders of the Company's preferred stock
are substantially similar to those of the holders of the Preferred Stock.

SPECIAL PROVISIONS OF THE ARTICLES OF INCORPORATION AND BYLAWS

The Articles of Incorporation and Bylaws of MHI include certain provisions
that could have anti-takeover effects. The provisions enhance the likelihood
of continuity and stability in the composition of, and in the policies
formulated by, the Board of Directors.

Following is a summary of certain of the provisions contained in the
Articles of Incorporation and Bylaws of MHI.

Number of Directors; Filling Vacancies; Removal

The Bylaws provide that the Board of Directors will fix the number of
members of the Board of Directors, provided that no decrease will have the
effect of shortening the term of any incumbent Director, and that the number of
directors shall never be less than one. The Bylaws of MHI provide that the
Board of Directors, acting by majority

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vote of the directors then in office, may fill any newly created directorship
or vacancies on the Board of Directors; however, the Board of Directors may not
fill more than two such vacancies arising from an increase in the number of
directors during the period between any two successive annual meetings of
shareholders.

The Bylaws of MHI provide that any Director or the entire board of
directors may be removed with or without cause at any meeting of shareholders
called expressly for that purpose at which a quorum of shareholders is present,
by a vote of the holders of a majority of the shares then entitled to vote at
an election of directors.

Special Meetings

The Bylaws provide that special meetings of stockholders may be called by
the President of MHI, the Board of Directors or the Chairman of the Board of
Directors, or by written request signed by the holder or holders of at least
10% of all of the then issued and outstanding shares of the capital stock of
MHI entitled to vote at such meeting and stating the purpose or purposes of the
meeting.

Limitations Imposed by Texas Law

The Texas Business Corporation Act (the "TBCA") authorizes corporations to
limit or eliminate the personal liability of directors to corporations and
their shareholders for monetary damages for breach of their fiduciary duty as
directors except for liability of a director resulting from (i) a breach of
such director's duty of loyalty to the corporation or its shareholders, (ii) an
act or omission that is not in good faith or that involves intentional
misconduct or a knowing violation of laws, (iii) a transaction from which the
director received an improper personal benefit or (iv) an act or omission for
which the liability of the director is expressly provided by an applicable
statute. The Articles of Incorporation of MHI limit the liability of directors
(in their capacity as directors but not in their capacity as officers) to MHI
or its shareholders to the fullest extent permitted by the TBCA. The inclusion
of this provision in the Articles of Incorporation may reduce the likelihood of
derivative litigation against directors and may discourage or deter
shareholders from suing directors for breach of their duty of care, even though
such an action, if successful, might otherwise benefit MHI and its
shareholders. The inclusion of such provisions in the Articles of Incorporation
together with a provision requiring MHI to indemnify its directors, officers
and certain other individuals against certain liabilities, is intended to
enable MHI to attract qualified persons to serve as directors who might
otherwise be reluctant to do so. The SEC has taken the position that personal
liability of directors for violations of the federal securities laws cannot be
limited and that indemnification by the issuer for such violations is
unenforceable.

The Articles of Incorporation and Bylaws of the Company are substantially
the same as those of MHI.

WARRANTS

Upon the closing of the sale of the Old Notes, the repayment of the
indebtedness under the T.E.P. Financing and the purchase of the Net Profits
Interest on April 2, 1998, MHI and the Company canceled their existing warrants
previously granted to Cambrian in exchange for a Warrant to purchase 38,671
shares of Common Stock for an exercise price of $8.00 per share. The Warrant
expires August 12, 2001 and contains provisions for registration rights for the
shares of Common Stock acquired upon exercise (see "--Registration Rights"
below), as well as customary anti-dilution provisions, including provisions
providing for adjustments in the exercise price and number of shares in the
event MHI issues additional shares of Common Stock for cash or non-cash
consideration less than the exercise price then in effect. The terms of the
Warrant further provide that at any time after the Common Stock is traded on a
national securities exchange, the Warrant may be exercised by being exchanged
in whole or in part for a number of shares of Common Stock equal to the
difference between the fair market value of the designated number of shares of
Common Stock and the aggregate exercise price then in effect for those
designated shares. "Fair market value" for this purpose includes the last sale
price of the Common Stock reported on a national securities exchange or the
Nasdaq National Market.

In addition, during 1997 MHI granted a Warrant to an individual seller of
oil and natural gas properties which entitles the holder to purchase up to
2,900 shares of Common Stock for a purchase price equal to that price per share
which is 125% of the initial public offering price of the Common Stock. Unless
earlier terminated, the warrant expires on that date which is five years from
the date of the initial public offering.

REGISTRATION RIGHTS

In connection with the issuance to Cambrian of the Warrant to purchase up
to 38,671 shares of Common Stock, MHI granted registration rights regarding
such shares. If at any time prior to the expiration of the Warrant in August
2001, MHI registers any securities for sale pursuant to a registration
statement (with the exception of a Form S-8,

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S-4 or other similar form), upon request by any of the holders of the
outstanding shares underlying the Warrant, MHI shall be required, subject to
certain conditions, to include such securities as a part of such registration
statement. In addition, subject to certain conditions, the holders of not less
than 51% of the shares of Common Stock underlying the Warrant may request, on
one occasion at any time prior to August 2001, that MHI register such
securities for public sale pursuant to a registration statement under the
Securities Act. Individual holders of such shares shall also have certain
demand registration rights, but principally at such holder's cost.

The registration rights provisions in the Cambrian Warrant contain
provisions obligating MHI to indemnify Cambrian for certain liabilities
incurred by it or its successors, including liabilities under the federal
securities laws.

SHAREHOLDERS AGREEMENT

The current shareholders of MHI are parties to a shareholders agreement
dated as of December 4, 1996 (the "Shareholders Agreement"). Under the terms of
the Shareholders Agreement, if a shareholder wishes to sell shares pursuant to
a bona fide offer to purchase them, then the shareholders (other than the
selling shareholder) have the right to purchase those shares on the same terms
in accordance with the proportion of shares of those shareholders electing to
so purchase. If no shareholder exercises that right, then MHI has the right to
purchase those shares on the same terms as set forth in the bona fide offer. If
both MHI and the shareholders do not elect to purchase all of the shares that
are subject to the bona fide offer, then the selling shareholder may sell those
shares not purchased by MHI and the other shareholders pursuant to the terms of
the bona fide offer. If a shareholder is forced to make an involuntary transfer
of Common Stock (by divorce, judicial order or termination of employment), then
the shareholders (other than the transferring shareholder) have the right to
purchase those shares at a price determined in accordance with the Shareholders
Agreement in accordance with the proportion of shares of those shareholders
electing to so purchase. If no shareholder exercises that right, then MHI has
the right to purchase those shares in accordance with the Shareholders
Agreement. If both MHI and the shareholders do not elect to purchase all of the
shares that are subject to involuntary transfer, then the transfer may take
place. Upon the death of a shareholder, MHI is obligated to purchase the shares
owned by the deceased shareholder. The Shareholders Agreement also provides
that each of Messrs. Hart, Farmar, Holditch and Smith shall have the right to
designate one nominee for membership on MHI's Board of Directors and that the
shareholders of MHI will vote their shares of Common Stock for the election of
such nominees. The Shareholders Agreement terminates upon the bankruptcy of MHI
or any merger or consolidation of MHI in which MHI is not the surviving
corporation. Cambrian is not obligated to become a party to the Shareholders
Agreement if Cambrian exercises its Warrant.

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PLAN OF DISTRIBUTION

Based on an interpretation by the Commission's staff set forth in no-action
letters issued to third parties unrelated to the Company, the Company believes
that, with the exceptions set forth below, New Notes issued pursuant to the
Exchange Offer in exchange for Old Notes may be offered for resale, resold and
otherwise transferred by any person receiving such New Notes, whether or not
such person is the holder (other than any such holder or such other person
which is an "affiliate" of the Company within the meaning of Rule 405 under the
Securities Act), without compliance with the registration and prospectus
delivery provisions of the Securities Act; provided that, the New Notes are
acquired in the ordinary course of business of the holder or such other person
and neither the holder nor such other person is engaging or intends to engage
in a distribution of the New Notes or has an arrangement or understanding with
any person to participate in the distribution of such New Notes. The Company,
however, has not sought, and does not intend to seek, its own no-action letter
and there can be no assurance that the Commission's staff would make a similar
determination with respect to the Exchange Offer. Any holder who tenders in the
Exchange Offer for the purpose of participating in a distribution of the New
Notes cannot rely on this interpretation by the Commission's staff and must
comply with the registration and prospectus delivery requirements of the
Securities Act in connection with a secondary resale transaction.

Each broker-dealer that holds Old Notes that were acquired by that
broker-dealer as a result of market-making activities or other trading
activities may exchange such Old Notes (other than for Old Notes that were
acquired directly from the Company or any affiliate of the Company) pursuant to
the Exchange Offer; provided however, such broker-dealer may be deemed to be an
"underwriter" within the meaning of the Securities Act and must, therefore,
deliver a prospectus meeting the requirements of the Securities Act in
connection with its initial resale of each New Note received in the Exchange
Offer. This Prospectus, as it may be amended or supplemented from time to
time, may be used by a broker-dealer in connection with resales of New Notes in
such circumstances. The Company has agreed that it will make this Prospectus,
as amended or supplemented, available to any broker-dealer for use in
connection with any such resale for a period of one year following the
Expiration Date, or such shorter period ending on the date that all New Notes
received in the Exchange Offer have been resold by any such broker-dealer.

The Company will not receive any proceeds from any sale of New Notes by
broker-dealers. New Notes received by broker-dealers for their own account
pursuant to the Exchange Offer may be sold from time to time in one or more
transactions in the over-the-counter market, in negotiated transactions,
through the writing of options on the New Notes or a combination of such
methods of resale, at market prices prevailing at the time of resale, at prices
related to such prevailing market prices or negotiated prices. Any such resale
may be made directly to purchasers or to or through brokers or dealers who may
receive compensation in the form of commissions or concessions from any such
broker-dealer or the purchasers of any such New Notes. Because any
broker-dealer that resells New Notes that were received by it for its own
account pursuant to the Exchange Offer and any broker or dealer that
participates in a distribution of such New Notes may be deemed to be an
"underwriter" within the meaning of the Securities Act, any profit on any such
resale of New Notes and any commissions or concessions received by any such
persons may be deemed to be underwriting compensation under the Securities Act.
The Letter of Transmittal states that, by acknowledging that it will deliver,
and by delivering, a Prospectus, a broker-dealer will not be deemed to admit
that it is an "underwriter" within the meaning of the Securities Act.

The Company will promptly send additional copies of this Prospectus and any
amendment or supplement to this Prospectus to any broker-dealer that requests
such documents in the Letter of Transmittal for such period of time as such
persons must comply with such requirements in order to resell the New Notes.
The Company has agreed to pay all expenses relating to their performance under
the Registration Rights Agreement, including the costs of providing this
Prospectus, and to indemnify the holders of the Old Notes against certain
liabilities, including liabilities under the Securities Act.

TRANSFER RESTRICTIONS ON OLD NOTES

OFFERS AND SALES BY THE INITIAL PURCHASERS

The Old Notes have not been registered under the Securities Act and may not
be offered or sold in the United States, or to, or for the account or benefit
of, U.S. Persons except in accordance with an applicable exemption from the
registration requirements thereof. Accordingly the Old Notes were offered and
sold only (i) to QIBs under Rule 144A under the Securities Act and (ii) outside
the United States to persons other than U.S. Persons ("foreign purchasers,"
which term shall include dealers or other professional fiduciaries in the
United States acting on a discretionary basis for foreign beneficial owners
(other than an estate or trust) in offshore transactions meeting the
requirements of Rule 904 of Regulation S under the Securities Act ("Regulation
S")). As used herein, the terms "offshore transaction," "United States" and
"U.S. Person" have the respective meanings given to them in Regulation S.

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INVESTOR REPRESENTATIONS AND RESTRICTIONS ON RESALE

Each purchaser of the Old Notes was deemed to have represented and agreed
as follows:

(1) it was acquiring the Old Notes for its own account or for an account
with respect to which it exercises sole investment discretion, and that it or
such account was (a) a QIB or (b) a non-U.S. Person that is outside the United
States;

(2) it acknowledged that the Old Notes were not registered under the
Securities Act and may not be offered or sold within the United States or to,
or for the account or benefit of, U.S. Persons except as permitted below;

(3) it understood and agreed (x) that such Old Notes were being offered
only in a transaction not involving any public offering within the meaning of
the Securities Act, and (y) that (A) if within two years after the date of
original issuance of the Old Notes or if within three months after it ceases to
be an affiliate (within the meaning of Rule 144 under the Securities Act) of
the Company, it decides to resell, pledge or otherwise transfer the Old Notes
on which the legend set forth below appears, such Old Notes may be resold,
pledged or transferred only (i) to the Company, (ii) so long as such securities
are eligible for resale pursuant to Rule 144A, to a person whom the seller
reasonably believes is a QIB that purchases for its own account or for the
account of a QIB to whom notice is given that the resale, pledge or transfer is
being made in reliance on Rule 144A (as indicated by the box checked by the
transferor on the Certificate of Transfer on the reverse of the Old Note if
such Old Note is not in book entry form), (iii) pursuant to offers and sales
that occur outside the United States in a transaction meeting the requirements
of Rule 904 under the Securities Act, (iv) to an Institutional Accredited
Investor (as indicated by the box checked by the transferor on the Certificate
of Transfer on the reverse of the Old Note if such Old Note is not in
book-entry form) who has certified to the Company and the Trustee for the Old
Notes that such transferee is an Institutional Accredited Investor and is
acquiring the Old Notes for investment purposes and not for distribution, (v)
pursuant to an exemption from the registration requirements of the Securities
Act provided by Rule 144 (if applicable) under the Securities Act or (vi)
pursuant to an effective registration statement under the Securities Act, in
each case in accordance with any applicable securities laws of any state of the
United States, (B) the purchaser will, and each subsequent holder is required
to, notify any purchaser of the Old Notes from it of the resale restrictions
referred to in (A) above, if then applicable, and (C) with respect to any
transfer of the Old Notes by an Institutional Accredited Investor, such holder
will deliver to the Company and the Trustee such certificates and other
information as they may reasonably require to confirm that the transfer by it
complies with the foregoing restrictions;

(4) it is understood that the notification requirement referred to in (3)
above will be satisfied, in the case only of transfers by physical delivery of
Certificated Securities other than a Global Note by virtue of the fact that the
following legend will be placed on the Old Notes unless otherwise agreed by the
Company:

"THIS SECURITY HAS NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS
AMENDED (THE "SECURITIES ACT"), OR THE SECURITIES LAWS OF ANY STATE. THE HOLDER
HEREOF, BY PURCHASING THIS SECURITY, AGREES FOR THE BENEFIT OF THE COMPANY THAT
THIS SECURITY MAY NOT BE RESOLD, PLEDGED OR OTHERWISE TRANSFERRED (X) PRIOR TO
THE SECOND ANNIVERSARY OF THE ISSUANCE HEREOF (OR A PREDECESSOR SECURITY
HERETO) OR (Y) BY ANY HOLDER THAT WAS AN AFFILIATE OF THE COMPANY AT ANY TIME
DURING THE THREE MONTHS PRECEDING THE DATE OF SUCH TRANSFER, IN EITHER CASE
OTHER THAN (1) TO THE COMPANY (2) SO LONG AS THIS SECURITY IS ELIGIBLE FOR
RESALE PURSUANT TO RULE 144A UNDER THE SECURITIES ACT ("RULE 144A"), TO A
PERSON WHOM THE SELLER REASONABLY BELIEVES IS A QUALIFIED INSTITUTIONAL BUYER
WITHIN THE MEANING OF RULE 144A PURCHASING FOR ITS OWN ACCOUNT OR FOR THE
ACCOUNT OF A QUALIFIED INSTITUTIONAL BUYER TO WHOM NOTICE IS GIVEN THAT THE
RESALE, PLEDGE OR OTHER TRANSFER IS BEING MADE IN RELIANCE ON RULE 144A (AS
INDICATED BY THE BOX CHECKED BY THE TRANSFEROR ON THE CERTIFICATE OF TRANSFER
ON THE REVERSE OF THIS SECURITY), (3) PURSUANT TO OFFERS AND SALES TO NON-U.S.
PERSONS THAT OCCUR OUTSIDE THE UNITED STATES IN A TRANSACTION MEETING THE
REQUIREMENTS OF RULE 904 UNDER THE SECURITIES ACT, (4) TO AN INSTITUTION THAT
IS AN "ACCREDITED INVESTOR" AS DEFINED IN RULE 501(a)(1), (2), (3) OR (7) UNDER
THE SECURITIES ACT (AS INDICATED BY THE BOX CHECKED BY THE TRANSFEROR ON THE
CERTIFICATE OF TRANSFER ON THE REVERSE OF THIS SECURITY) THAT IS ACQUIRING THIS
SECURITY FOR INVESTMENT PURPOSES AND NOT FOR DISTRIBUTION, AND A CERTIFICATE IN
THE FORM ATTACHED TO THIS SECURITY IS DELIVERED BY THE TRANSFEREE TO THE
COMPANY AND THE TRUSTEE, (5) PURSUANT TO AN EXEMPTION FROM REGISTRATION UNDER
THE SECURITIES ACT PROVIDED BY RULE 144 (IF APPLICABLE) UNDER THE SECURITIES
ACT OR (6) PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES
ACT, IN EACH CASE IN ACCORDANCE WITH ANY APPLICABLE SECURITIES LAWS OF ANY
STATE OR THE UNITED STATES.

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AN INSTITUTIONAL ACCREDITED INVESTOR HOLDING THIS SECURITY AGREES IT WILL
FURNISH TO THE COMPANY AND THE TRUSTEE SUCH CERTIFICATES AND OTHER INFORMATION
AS THEY MAY REASONABLY REQUIRE TO CONFIRM THAT ANY TRANSFER BY IT OF THIS
SECURITY COMPLIES WITH THE FOREGOING RESTRICTIONS. THE HOLDER HEREOF, BY
PURCHASING THIS SECURITY, REPRESENTS AND AGREES FOR THE BENEFIT OF THE COMPANY
THAT IT IS (1) A QUALIFIED INSTITUTIONAL BUYER WITHIN THE MEANING OF RULE 144A
OR (2) IT IS NOT A U.S. PERSON AND IS ACQUIRING THIS SECURITY IN AN OFFSHORE
TRANSACTION IN COMPLIANCE WITH REGULATION S UNDER THE SECURITIES ACT.

(5) it (i) had such knowledge and experience in financial and business
matters as to be capable of evaluating the merits and risks of its prospective
investment in the Old Notes and (ii) had the ability to bear the economic risks
of its prospective investment and can afford the complete loss of such
investment;

(6) it received a copy of the Offering Memorandum relating to the offering
and acknowledges that it has had access to such financial and other
information, and has been afforded the opportunity to ask questions of the
Company and receive answers thereto, as it deemed necessary in connection with
its decision to purchase the Old Notes; and

(7) it understood that the Company, the Initial Purchasers and others
relied upon the truth and accuracy of the foregoing acknowledgments,
representations and agreements and agreed that if any of the acknowledgments,
representations and warranties deemed to have been made by it by its purchase
of the Old Notes are no longer accurate, it shall promptly notify the Company
and the Initial Purchasers. If it acquired the Old Notes as a fiduciary or
agent for one or more investor accounts, it represented that it had sole
investment discretion with respect to each such account and had full power to
make the foregoing acknowledgments, representations and agreements on behalf of
such account.

LEGAL MATTERS

The validity of the New Notes offered hereby will be passed upon for the
Company by Haynes and Boone, L.L.P., Houston, Texas.

EXPERTS

INDEPENDENT PUBLIC ACCOUNTANTS

The financial statements of the Company as of December 31, 1996 and 1997
and for each of the three years in the period ended December 31, 1997, included
in this Prospectus or elsewhere in this Registration Statement on Form S-4 of
which this Prospectus is a part, have been included herein in reliance on the
report of Coopers & Lybrand L.L.P., independent accountants, given on the
authority of that firm as experts in accounting and auditing.

The historical statements of revenues and direct operating expenses of the
properties that are the subject of the Enron Acquisition and the Conoco
Acquisition for the years ended December 31, 1996 and 1997, and the historical
statement of revenues and direct operating expenses of the properties that were
the subject of the Lobo Acquisition for the year ended December 31, 1995 and
the seven-month period ended July 31, 1996, included in this Prospectus or
elsewhere in this Registration Statement on Form S-4 of which this Prospectus
is a part, have been included herein in reliance on the report of Coopers &
Lybrand L.L.P., independent accountants, given on the authority of that firm as
experts in accounting and auditing.

RESERVE ENGINEERS

Information relating to the estimates of proved oil and natural gas
reserves and related future net revenues and the present value thereof as of
December 31, 1996 and 1997, included in this Prospectus and in the Notes to the
Financial Statements, have been derived from the report of Huddleston & Co.,
Inc., independent petroleum engineers. All of such information has been so
included herein in reliance upon the authority of such firm as experts in such
matters.

Information relating to the estimates of proved oil and natural gas
reserves and related future net revenues and the present value thereof as of
December 31, 1995, included in this Prospectus and in the Notes to the
Financial Statements, have been derived from the report of Mohajir &
Associates, Inc., independent petroleum engineers. All of such information has
been so included herein in reliance upon the authority of such firm as experts
in such matters.

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AVAILABLE INFORMATION

The Company has filed with the Commission a registration statement under
the Securities Act with respect to the New Notes offered hereby. As permitted
by the rules and regulations of the Commission, this Prospectus does not
contain all of the information set forth in the Registration Statement. For
further information with respect to the Company and the New Notes offered
hereby, reference is made to the Registration Statement, including the exhibits
and schedules filed therewith. Statements contained in this Prospectus
concerning the provisions of any contract, agreement or other document referred
to herein or therein are not necessarily complete, but contain a summary of the
material terms of such contracts, agreements or other documents. With respect
to each contract, agreement or other document filed as an exhibit to the
Registration Statement, reference is made to the exhibit for the complete
contents of the exhibit, and each statement concerning its provisions is
qualified in its entirety by such reference. The Registration Statement may be
inspected, without charge, at the offices of the Commission at 450 Fifth
Street, N.W., Washington, D.C. 20549 and at its regional offices at 7 World
Trade Center, New York, New York, 10048 and Citicorp Center, 500 West Madison
Street, Chicago, Illinois 60661-2551. Copies of such materials may also by
obtained by mail at prescribed rates from the Public Reference Section of the
Commission at its principal office at 450 Fifth Street, N.W., Washington, D.C.
20549. Copies of such materials may also be obtained from the web site that
the Commission maintains at www.sec.gov.

As a result of the Exchange Offer, the Company will become subject to the
informational requirements of the Exchange Act. Pursuant to the Indenture, the
Company has agreed that, whether or not required by the rules and regulations
of the Commission, so long as any Notes are outstanding, the Company shall
furnish to the registered holders of Notes copies of (i) all quarterly and
annual financial information that would be required to be contained in a filing
with the Commission on Forms 10-Q and 10-K if the Company were required to file
such Forms, including a "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and, with respect to the annual
information only, a report thereon by the Company's certified independent
accountants and (ii) all current reports that would be required to be filed
with the Commission on Form 8-K if the Company were required to file such
reports. In addition, whether or not required by the rules and regulations of
the Commission, the Company will file a copy of all such information and
reports with the Commission for public availability (unless the Commission will
not accept such a filing) within the time periods that would have been
applicable had the Company been subject to such rules and regulation and make
such information available to securities analysts and prospective investors
upon request.

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GLOSSARY OF CERTAIN INDUSTRY TERMS

The definitions set forth below shall apply to the indicated terms as used
in this Prospectus. All volumes of natural gas referred to herein are stated at
the legal pressure base of the state or area where the reserves exist and at 60
degrees Fahrenheit and in most instances are rounded to the nearest major
multiple.

Bbl. One stock tank barrel, or 42 U.S. gallons liquid volume, used herein
in reference to crude oil or other liquid hydrocarbons.

Bbls/d. Stock tank barrels per day.

Bcf. Billion cubic feet.

Bcfe. Billion cubic feet equivalent, determined using the ratio of six Mcf
of natural gas to one Bbl of crude oil, condensate or natural gas liquids.

Boe. Barrel of oil equivalent, determined using the ratio of one Bbl of
crude oil, condensate or natural gas liquids to six Mcf of natural gas.

Btu. British thermal unit, which is the heat required to raise the
temperature of a one-pound mass of water from 58.5 to 59.5 degrees Fahrenheit.

Developed acreage. The number of acres which are allocated or assignable to
producing wells or wells capable of production.

Development well. A well drilled within the proved area of an oil or
natural gas reservoir to the depth of a stratigraphic horizon known to be
productive.

Dry hole or well. A well found to be incapable of producing hydrocarbons in
sufficient quantities such that proceeds from the sale of such production
exceed production expenses and taxes.

Exploratory well. A well drilled to find and produce oil or natural gas
reserves not classified as proved, to find a new reservoir in a field
previously found to be productive of oil or natural gas in another reservoir or
to extend a known reservoir.

Gross acres or gross wells. The total acres or wells, as the case may be,
in which a working interest is owned.

MBbls. One thousand barrels of crude oil or other liquid hydrocarbons.

MBbls/d. One thousand barrels of crude oil or other liquid hydrocarbons per
day.

Mcf. One thousand cubic feet.

Mcf/d. One thousand cubic feet per day.

Mcfe. One thousand cubic feet equivalent, determined using the ratio of six
Mcf of natural gas to one Bbl of crude oil, condensate or natural gas liquids.

Mmbtu. One million Btus.

Mmcf. One million cubic feet.

Mmcf/d. One million cubic feet per day.

Mmcfe. One million cubic feet equivalent, determined using the ratio of six
Mcf of natural gas to one Bbl of crude oil, condensate or natural gas liquids,
which approximates the relative energy content of crude oil, condensate and
natural gas liquids as compared to natural gas. Prices have historically been
higher or substantially higher for crude oil than natural gas on an energy
equivalent basis.

Net acres or net wells. The sum of the fractional working interests owned
in gross acres or gross wells.

-87-
<PAGE> 92
Present value. When used with respect to oil and natural gas reserves, the
estimated future gross revenue to be generated from the production of proved
reserves, net of estimated production and future development costs, using
prices and costs in effect as of the date indicated, without giving effect to
nonproperty-related expenses such as general and administrative expenses, debt
service and future income tax expense or to depreciation, depletion and
amortization, discounted using an annual discount rate of 10%.

Productive well. A well that is found to be capable of producing
hydrocarbons in sufficient quantities such that proceeds from the sale of such
production exceed production expenses and taxes.

Proved developed reserves. Proved reserves that can be expected to be
recovered from existing wells with existing equipment and operating methods.

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

Proved undeveloped location. A site on which a development well can be
drilled consistent with spacing rules for purposes of recovering proved
undeveloped reserves.

Proved undeveloped reserves. Reserves that are expected to be recovered from
new wells on undrilled acreage, or from existing wells where a relatively major
expenditure is required for recompletion; proved reserves for other undrilled
units are claimed only where it can be demonstrated with certainty that there is
continuity of production from the existing productive formation.

PV-10 Value. When used with respect to oil and natural gas reserves, the
estimated future gross revenue to be generated from the production of proved
reserves, net of estimated production and future development costs, using
prices and costs in effect as of the date indicated, without giving effect to
nonproperty-related expenses such as general and administrative expenses, debt
service and future income tax expense or to depreciation, depletion and
amortization, discounted using an annual discount rate of 10%.

Recompletion. The completion for production of an existing well bore in
another formation from that in which the well has been previously completed.

Reservoir. A porous and permeable underground formation containing a
natural accumulation of producible oil and/or natural gas that is confined by
impermeable rock or water barriers and is individual and separate from other
reservoirs.

Royalty interest. An interest in an oil and natural gas property entitling
the owner to a share of oil or natural gas production free of costs of
production.

3-D seismic. Advanced technology method of detecting accumulations of
hydrocarbons identified through a three- dimensional picture of the subsurface
created by the collection and measurement of the intensity and timing of sound
waves transmitted into the earth as they reflect back to the surface.

Undeveloped acreage. Lease acreage on which wells have not been drilled or
completed to a point that would permit the production of commercial quantities
of oil and natural gas regardless of whether such acreage contains proved
reserves.

Working interest. The operating interest that gives the owner the right to
drill, produce and conduct operating activities on the property and a share of
production.

Workover. Operations on a producing well to restore or increase production.

-88-
<PAGE> 93
INDEX TO FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Unaudited Pro Forma Financial Statements:

Unaudited Pro Forma Statement of Operations for
the Year Ended December 31, 1997 ...................................................................... F-3

Unaudited Pro Forma Statement of Operations for
the Three Months Ended March 31, 1998 ................................................................. F-4

Unaudited Pro Forma Balance Sheet as of
March 31, 1998 ........................................................................................ F-5

Notes to Unaudited Pro Forma Financial Statements ...................................................... F-6

Unaudited Pro Forma Supplementary Financial Information ................................................ F-9

Financial Statements of Michael Petroleum Corporation:

Report of Independent Accountants ...................................................................... F-11

Balance Sheet as of March 31, 1998 (Unaudited) and at December 31, 1997 and 1996 ....................... F-12

Statement of Operations for the Three Months Ended March 31, 1998 and 1997 (Unaudited)
and each of the Three Years in the Period Ended December 31, 1997 ..................................... F-13

Statement of Stockholder's Deficit for the Three Months Ended March 31, 1998 (Unaudited)
and each of the Three Years in the Period ended December 31, 1997 ..................................... F-14

Statement of Cash Flows for the Three Months Ended March 31, 1998 and 1997 (Unaudited)
and each of the Three Years in the Period Ended December 31, 1997 ..................................... F-15

Notes to Financial Statements .......................................................................... F-16

Financial Statements of Acquired Properties:

Enron Properties:

Report of Independent Accountants ............................................................. F-34

Statement of Revenues and Direct Operating Expenses
of the Enron Properties for the Three Months Ended March 31, 1998 and 1997
(Unaudited) and the Years Ended December 31, 1996 and 1997 .................................. F-35

Notes to Financial Statement of the Enron Properties .......................................... F-36

Supplementary Financial Information (Unaudited) ............................................... F-37

Conoco Properties:

Report of Independent Accountants ............................................................. F-40

Statement of Revenues and Direct Operating Expenses
of the Conoco Properties for the Three Months Ended March 31, 1998 and 1997
(Unaudited) and the Years Ended December 31, 1996 and 1997 .................................. F-41

Notes to Financial Statement of the Conoco Properties ......................................... F-42

Supplementary Financial Information (Unaudited) ............................................... F-43

Lobo Properties:

Report of Independent Accountants ............................................................. F-46

Statement of Revenues and Direct Operating Expenses
of the Lobo Properties for the Three Months Ended March 31, 1998 and 1997
(Unaudited) and the Year Ended December 31, 1995 and the Seven Months Ended
July 31, 1996 ............................................................................... F-47

Notes to Financial Statement of the Lobo Properties ........................................... F-48

Supplementary Financial Information (Unaudited) ............................................... F-49
</TABLE>

F-1
<PAGE> 94

UNAUDITED PRO FORMA FINANCIAL STATEMENTS

The following unaudited pro forma statement of operations for the year ended
December 31, 1997 includes pro forma adjustments that give effect to the
issuance of $135 million of senior note obligations and the application of the
net proceeds therefrom to the repayment of the T.E.P. Financing, the purchase of
the Net Profits Interest and the acquisition of the Enron Properties and the
Conoco Properties as if such transactions had been completed January 1, 1997.
Similarly, the unaudited pro forma statement of operations for the three months
ended March 31, 1998 includes pro forma adjustments that give effect to the
issuance of $135 million of senior note obligations and the application of the
net proceeds therefrom to the repayment of the T.E.P. Financing, the purchase of
the Net Profits Interest and the acquisition of the Enron Properties and the
Conoco Properties as if such transitions had been completed January 1, 1998. The
Lobo Lease does not effect the pro forma statement of operations as it is an
acquisition of undeveloped leases. The unaudited pro forma balance sheet has
been prepared as if such transactions occurred on March 31, 1998.

The unaudited pro forma financial statements are based on the assumptions set
forth in the notes to such unaudited pro forma financial statements. Management
believes that the pro forma adjustments and the underlying assumptions
reasonably present the significant effects of the acquisitions and other
transactions. Such pro forma information should be read in conjunction with the
Company's financial statements and related notes thereto and the statements of
revenues and direct operating expenses and related notes thereto of the Enron
Properties and the Conoco Properties included elsewhere herein and is not
necessarily indicative of the operating results or financial position that
actually would have occurred had the acquisitions and other transactions
occurred as of the dates indicated above, nor do they purport to indicate
operating results or financial position which may be attained in the future.

F-2
<PAGE> 95

MICHAEL PETROLEUM CORPORATION
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
(In thousands of dollars)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997
----------------------------------------------------------------------------------
PRO FORMA ADJUSTMENTS
-------------------------------------------------
THE THE
ENRON CONOCO OTHER
HISTORICAL PROPERTIES PROPERTIES ADJUSTMENTS PRO FORMA
---------- ---------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Revenues .......................... $ 9,139 $ 15,166(a) $ 6,904(a) $ $ 31,209
---------- ---------- ---------- ---------- ----------

Operating expenses:
Production costs ............... 1,870 2,339(a) 906(a) 5,115
Depreciation, depletion
and amortization ............ 3,889 4,398(b) 1,690(b) 620 (b) 10,597
Exploration .................... 333 333
General and administrative
expenses .................... 980 980
---------- ---------- ---------- ----------

Total operating
expenses .................. 7,072 6,737 2,596 17,025
---------- ---------- ---------- ----------

Operating income .................. 2,067 $ 8,429 $ 4,308 14,184
========== ==========
(16,554)(c)
Other income (expense) ............ (2,063) 2,179 (c) (16,438)
---------- ----------

Income (loss) before income
tax provision .................. 4 (2,254)(1)
Income tax provision (benefit) .... 11 (800)(d) (789)
---------- ----------

Net loss .......................... $ (7) $ (1,465)(1)
========== ==========
</TABLE>

(1) Pro forma net income excludes (i) the extraordinary loss of $534,000,
net of taxes, on extinguishment of the T.E.P. Financing, and (ii) the
loss of approximately $1,170,000, net of taxes, on termination of the
Company's current hedging contracts.

The accompanying notes are an integral part of the unaudited pro forma financial
statements.

F-3
<PAGE> 96

MICHAEL PETROLEUM CORPORATION
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
(In thousands of dollars)

<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31, 1998
----------------------------------------------------------------------------------
PRO FORMA ADJUSTMENTS
-------------------------------------------------
THE THE
ENRON CONOCO OTHER
HISTORICAL PROPERTIES PROPERTIES ADJUSTMENTS PRO FORMA
---------- ---------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Revenues .......................... $ 3,260 $ 2,576(e) $ 1,319(e) $ $ 7,155
---------- ---------- ---------- ---------- ----------

Operating expenses:
Production costs ............... 475 624(e) 105(e) 1,204
Depreciation, depletion
and amortization ............ 1,349 527(f) 224(f) 155(f) 2,255
Exploration ....................
General and administrative
expenses .................... 261 261
---------- ---------- ---------- ----------

Total operating
expenses .................. 2,085 1,151 329 3,720
---------- ---------- ---------- ----------

Operating income .................. 1,175 $ 1,425 $ 990 3,435
========== ==========
(4,139)(g)
Other income (expense) ............ (874) 858 (g) (4,155)
---------- ----------

Income (loss) before income
tax provision .................. 301 (720)(1)
Income tax provision (benefit) .... 105 (357)(d) (252)
---------- ----------

Net income (loss).................. $ 196 $ (468)(1)
========== ==========
</TABLE>

(1) Pro forma net income excludes (i) the extraordinary loss of $495,000
net of taxes, on extinguishment of the T.E.P. Financing, and (ii) the
loss of approximately $1,170,000, net of taxes, on termination of the
Company's current hedging contracts.

The accompanying notes are an integral part of the unaudited pro forma financial
statements.

F-4
<PAGE> 97

MICHAEL PETROLEUM CORPORATION
UNAUDITED PRO FORMA BALANCE SHEET
(In thousands of dollars)

<TABLE>
<CAPTION>
MARCH 31, 1998
---------------------------------------------------
PRO FORMA
HISTORICAL ADJUSTMENTS PRO FORMA
------------ ------------ ------------
<S> <C> <C> <C>
ASSETS

Current Assets:
Cash and cash equivalents .......................................... $ 657 $ 10,980 (h) $ 11,637
Receivables ........................................................ 3,569 3,569
Prepaid expenses and other ......................................... 112 10,000 (j) 10,112
------------ ------------ ------------

Total current assets ............................................. 4,338 20,980 25,318

Oil and gas properties (successful efforts) ............................ 82,882 43,500 (i) 126,382
Less accumulated depreciation, depletion and
amortization ....................................................... (8,286) (8,286)
------------ ------------ ------------

74,596 43,500 118,096

Other assets ........................................................... 776 4,487 (h) 5,263
------------ ------------ ------------

Total assets ..................................................... $ 79,710 $ 68,967 $ 148,677
============ ============ ============

LIABILITIES AND STOCKHOLDER'S DEFICIT

Current liabilities:
Accounts payable ................................................... $ 6,072 $ 6,072
Accrued liabilities ................................................ 553 $ 1,800 (l) 12,353
10,000 (j)
Short-term notes payable............................................ 45,813 (45,813)(h)
Current portion of long-term debt .................................. 7,326 (7,326)(h)
------------ ------------ ------------

Total current liabilities ........................................ 59,764 (41,339) 18,425

Long-term debt ......................................................... 19,769 132,636 (h) 132,636
(19,769)(h)
Deferred income taxes .................................................. 1,896 (266)(k) 1,000
(630)(l)
------------ ------------ ------------

Total liabilities ................................................ 81,429 70,632 152,061
------------ ------------ ------------

Commitments and contingencies

Stockholder's deficit:
Preferred stock ($.10 par value, 50,000,000 shares authorized,
no shares issued).................................................
Common stock ($.10 par value, 100,000,000 shares authorized,
10,000 shares issued)............................................. 1 1
Additional paid-in capital ......................................... 610 610
Accumulated deficit ................................................ (2,330) (495)(k) (3,995)
(1,170)(l)
------------ ------------ ------------

Total stockholder's deficit ...................................... (1,719) (1,665) (3,384)
------------ ------------ ------------

Total liabilities and stockholder's deficit ...................... $ 79,710 $ 68,967 $ 148,677
============ ============ ============
</TABLE>

The accompanying notes are an integral part of the unaudited pro forma financial
statements.

F-5
<PAGE> 98
MICHAEL PETROLEUM CORPORATION
NOTES TO UNAUDITED PRO FORMA FINANCIAL STATEMENTS
(Tables in thousands of dollars)

The following unaudited pro forma statement of operations for the year
ended December 31, 1997 includes pro forma adjustments that give effect to the
issuance of $135 million of senior note obligations (issued at a discount of
1.751%) and the application of the net proceeds therefrom to the repayment of
the T.E.P. Financing, the purchase of the Net Profits Interest and the
acquisition of the Enron Properties and the Conoco Properties as if such
transactions had been completed January 1, 1997. Similarly, the unaudited pro
forma statement of operations for the three months ended March 31, 1998 includes
pro forma adjustments that give effect to the issuance of $135 million of senior
note obligations and the application of the net proceeds therefrom to the
repayment of the T.E.P. Financing, the purchase of the Net Profits Interest and
the acquisition of the Enron Properties and the Conoco Properties as if such
transactions had been completed January 1, 1998. The Lobo Lease does not effect
the pro forma statement of operations as it is an acquisition of an undeveloped
lease. The unaudited pro forma balance sheet has been prepared as if such
transactions occurred on March 31, 1998.

(a) To reflect the recognition of revenues and direct operating expenses
from the acquisitions for the year ended December 31, 1997.

(b) To reflect additional estimated depreciation, depletion and
amortization ("DD&A") attributable to the acquisition of the Enron
Properties, the Conoco Properties and the Net Profits Interest as if
such acquisitions had occurred on January 1, 1997. The additional DD&A
amounts were calculated on the units-of-production method based on pro
forma capitalized costs and estimates of pro forma proved developed and
undeveloped reserves. The Company's actual and pro forma DD&A for the
year ended December 31, 1997 were approximately $1.00 and $.84 per Mcfe
produced, respectively.

(c) To eliminate the historical interest expense of approximately $2.2
million related to the T.E.P. Financing and to reflect the interest
expense which results from the issuance of $135 million of senior note
obligations with a stated interest rate of 11.50%. Interest expense
also includes one year of amortization of $4.8 million of deferred loan
costs and one year amortization of the $2.4 million discount on senior
notes, which are being amortized on a straight-line basis over the
seven year term of the notes.

<TABLE>
<S> <C>
Interest expense - $135 million senior note obligations................ $ 15,525
Amortization of discount - senior note obligations..................... 343
Amortization of deferred loan costs - senior note obligations.......... 686
------------
$ 16,554
============
</TABLE>

A 1/8% change in interest rates would have the impact of increasing
total pro forma interest expense by approximately $169,000.

(d) To reflect income taxes on the pro forma adjustments at an estimated
effective tax rate of 35%.

(e) To reflect the recognition of revenues and direct operating expenses
from the acquisitions for the three months ended March 31, 1998.

(f) To reflect additional estimated depreciation, depletion and
amortization ("DD&A") attributable to the acquisition of the Enron
Properties, the Conoco Properties and the Net Profits Interest as if
such acquisitions had occurred on January 1, 1998. The additional DD&A
amounts were calculated on the units-of-production method based on pro
forma capitalized costs and estimates of pro forma proved developed and
undeveloped reserves. The Company's actual and pro forma DD&A for the
three months ended March 31, 1998 were approximately $.87 and $.61 per
Mcfe produced, respectively.

(g) To eliminate the historical interest expense of approximately $900,000
related to the T.E.P. financing and to reflect the interest expense
which results from the issuance of $135 million senior note obligations
with a stated interest rate of 11.50%. Interest expense also includes
three months of amortization of $4.8 million of deferred loan costs and
three months amortization of the $2.4 million discount on senior notes,
which are being amortized on a straight-line basis over the seven year
term of the notes.

<TABLE>
<S> <C>
Interest expense - $135 million senior note obligations............... $ 3,881
Amortization of discount - senior note obligations.................... 86
Amortization of deferred loan costs - senior note obligations......... 172
-----------
$ 4,139
===========
</TABLE>

A 1/8% change in interest rates would have the impact of increasing
total pro forma interest expense by approximately $42,000.

F-6
<PAGE> 99

(h) To reflect the issuance of $135 million of senior note obligations and
the application of the $127.8 million of net proceeds therefrom, and
the adjustments associated with deferred loan costs related to the
senior note obligations and the T.E.P. Financing as follows:

<TABLE>
<S> <C>
Net proceeds .............................................................. $ 127,836
Repayment of T.E.P. Financing and other long-term debt:
Current portion ........................................................ (7,326)
Long-term portion ...................................................... (19,769)
Unamortized discount on T.E.P. Financing ............................... (448)
Prepayment for 4 Bcf of gas to be delivered from May 1, 1998
to December 31, 1998 to Mobil as consideration for the Lobo Lease ...... (10,000)
Acquisitions:
Repayment of short-term acquisition indebtedness incurred in
connection with the Acquisition of the Enron Properties ............. (45,813)
Conoco Properties for cash ............................................. (22,500)
Net Profits Interest for cash .......................................... (11,000)
------------
$ 10,980
============

Write-off of deferred loan costs - T.E.P. Financing ....................... $ (313)
Deferred loan costs - senior note obligations ............................. 4,800
------------
$ 4,487
============
</TABLE>

(i) To reflect the acquisition of the Conoco Properties, the Lobo Lease
and the purchase of the Net Profits Interest as follows:

<TABLE>
<S> <C>
Conoco Properties for cash ................................................ 22,500
Lobo Lease for 4 Bcf of gas to be delivered from May 1, 1998 to
December 31, 1998 to Mobil ............................................. 10,000
Net Profits Interest for cash ............................................. 11,000
------------
$ 43,500
============
</TABLE>

(j) To reflect the $10 million prepayment to a gas marketing company for 4
Bcf of gas and the related delivery obligation to Mobil.

(k) To reflect the extraordinary loss on extinguishment of the T.E.P.
Financing as follows:

<TABLE>
<S> <C>
Write-off of deferred loan costs .......................................... $ 313
Unamortized discount on T.E.P. Financing .................................. 448
Deferred tax benefit ...................................................... (266)
------------
Extraordinary loss ..................................................... $ 495
============
</TABLE>

The extraordinary loss is not reflected in the unaudited pro forma
statement of operations.

F-7
<PAGE> 100

(l) To reflect the loss on termination of the Company's current hedging
contract as follows:

<TABLE>
<S> <C>
Hedge contract termination costs .......................... $ 1,800
Deferred tax benefit ...................................... (630)
------------
Loss ................................................... $ 1,170
============
</TABLE>

The loss is not reflected in the unaudited pro forma statement of
operations.

F-8
<PAGE> 101

MICHAEL PETROLEUM CORPORATION
UNAUDITED PRO FORMA SUPPLEMENTARY FINANCIAL INFORMATION
SUPPLEMENTARY OIL AND GAS DISCLOSURES (UNAUDITED)

The following pro forma estimated reserve quantities show the effect of the
acquisitions of the Enron Properties, Conoco Properties and the Lobo Lease:

<TABLE>
<CAPTION>
PRO FORMA ADJUSTMENTS
-----------------------------------------
THE ENRON THE CONOCO THE LOBO
DECEMBER 31, 1997: HISTORICAL PROPERTIES PROPERTIES LEASE PRO FORMA
---------- ---------- ---------- -------- ---------
<S> <C> <C> <C> <C> <C>
Proved:
Oil and condensate (MBbls).......... 265 2,094 1,311 1,775 5,445
Gas (MMcf).......................... 51,165 51,162 24,082 32,289 158,698

Proved developed:
Oil and condensate (MBbls).......... 108 639 424 1,171
Gas (MMcf).......................... 22,937 18,778 7,941 49,656
</TABLE>

F-9
<PAGE> 102

MICHAEL PETROLEUM CORPORATION
UNAUDITED PRO FORMA SUPPLEMENTARY FINANCIAL INFORMATION
SUPPLEMENTARY OIL AND GAS DISCLOSURES (UNAUDITED)

The following pro forma estimated standardized measure of discounted future net
cash flows shows the effects of the acquisition of the Enron Properties, Conoco
Properties, Lobo Lease and the Net Profits Interest ("NPI"):

<TABLE>
<CAPTION>
PRO FORMA ADJUSTMENTS
----------------------------------------------------------
THE ENRON THE CONOCO THE LOBO
DECEMBER 31, 1997: HISTORICAL PROPERTIES PROPERTIES LEASE NPI PRO FORMA
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Future cash inflows ................ $ 115,766 $ 154,881 $ 78,702 $ 105,747 $ 12,135 $ 467,231
Less related future:
Production costs ............. (20,226) (27,299) (13,077) (13,621) (2,120) (76,343)
Development costs ............ (17,295) (21,862) (11,199) (22,400) (72,756)
Income tax expense............ (22,497) (20,027) (10,894) (20,904) 345 (73,977)
---------- ---------- ---------- ---------- ---------- ----------

Future net cash flows .............. 55,748 85,693 43,532 48,822 10,360 244,155
10% annual discount for
estimating timing of cash
flows .......................... (19,109) (29,490) (15,379) (20,191) (3,845) (88,014)
---------- ---------- ---------- ---------- ---------- ----------

Standardized measure of
discounted future net cash
flows .......................... $ 36,639 $ 56,203 $ 28,153 $ 28,631 $ 6,515 $ 156,141
========== ========== ========== ========== ========== ==========
</TABLE>

F-10
<PAGE> 103

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholder of
Michael Petroleum Corporation:

We have audited the accompanying balance sheet of Michael Petroleum Corporation
as of December 31, 1996 and 1997, and the related statements of operations,
stockholder's deficit, and cash flows for each of the three years in the period
ended December 31, 1997. 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 audits.

We conducted our audits 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 audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Michael Petroleum Corporation
as of December 31, 1996 and 1997, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1997 in
conformity with generally accepted accounting principles.

As discussed in Note 1 to the financial statements, the Company changed its
method of accounting for impairment of long-lived assets in 1996.

Coopers & Lybrand L.L.P.

Houston, Texas
March 6, 1998 (except for Note 12
for which the date is June 16, 1998)

F-11
<PAGE> 104
MICHAEL PETROLEUM CORPORATION
BALANCE SHEET
(In thousands of dollars, except share data)

<TABLE>
<CAPTION>
DECEMBER 31, March 31,
------------------------------ ---------
1996 1997 1998
------------ ------------ ---------
<S> <C> <C> <C>
ASSETS (Unaudited)
Current assets:
Cash and cash equivalents ........................................................ $ 1,181 $ 782 $ 657
Receivables:
Accrued oil and gas sales ..................................................... 2,078 3,991 3,378
Joint interest and other ...................................................... 1,043 481 191
Prepaid expenses and other ....................................................... 73 1 112
------------ ------------ ---------

Total current assets ...................................................... 4,375 5,255 4,338

Oil and gas properties, (successful efforts method), at cost ........................ 19,413 34,977 82,882
Less: accumulated depreciation, depletion and amortization ......................... (3,205) (6,966) (8,286)
------------ ------------ ---------

16,208 28,011 74,596

Other assets ........................................................................ 418 351 776
------------ ------------ ---------

Total assets .............................................................. $ 21,001 $ 33,617 $ 79,710
============ ============ =========

LIABILITIES AND STOCKHOLDER'S DEFICIT

Current liabilities:
Accounts payable:
Trade ......................................................................... $ 2,571 $ 3,746 $ 5,038
Revenue distribution .......................................................... 1,460 1,756 1,034
Accrued liabilities .............................................................. 412 298 553
Short-term notes payable ......................................................... 45,813
Current portion of long-term debt ................................................ 4,902 8,056 7,326
------------ ------------ ---------

Total current liabilities ................................................. 9,345 13,856 59,764

Long-term debt ...................................................................... 11,784 19,885 19,769
Deferred income taxes ............................................................... 1,780 1,791 1,896
------------ ------------ ---------

Total liabilities ......................................................... 22,909 35,532 81,429
------------ ------------ ---------

Commitments and contingencies (Note 10)

Stockholder's deficit:
Preferred stock ($.10 par value, 50,000,000 shares authorized, no shares
issued)
Common stock ($.10 par value, 100,000,000 shares authorized,
10,000 shares issued) ....................................................... 1 1 1
Additional paid-in capital ....................................................... 610 610 610
Accumulated deficit .............................................................. (2,519) (2,526) (2,330)
------------ ------------ ---------

Total stockholder's deficit ............................................... (1,908) (1,915) (1,719)
------------ ------------ ---------

Total liabilities and stockholder's deficit ............................... $ 21,001 $ 33,617 $ 79,710
============ ============ =========
</TABLE>

The accompanying notes are an integral part of the financial statements.

F-12
<PAGE> 105

MICHAEL PETROLEUM CORPORATION
STATEMENT OF OPERATIONS
(In thousands of dollars)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
-------------------------------------- ------------------------
1995 1996 1997 1997 1998
---------- ---------- ---------- ---------- ----------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Revenues:
Oil and natural gas sales .................................. $ 2,109 $ 3,594 $ 9,139 $ 1,850 $ 3,260
Gain on sale of oil and natural gas properties ............. 828 182
---------- ---------- ---------- ---------- ----------

2,937 3,776 9,139 1,850 3,260
---------- ---------- ---------- ---------- ----------

Operating expenses:
Production costs ........................................... 1,228 1,931 1,870 426 475
Depreciation, depletion and amortization ................... 1,272 1,180 3,889 986 1,349
Exploration ................................................ 850 46 333 28
General and administrative ................................. 763 424 980 159 261
---------- ---------- ---------- ---------- ----------

4,113 3,581 7,072 1,599 2,085
---------- ---------- ---------- ---------- ----------

Operating (loss) income ........................................ (1,176) 195 2,067 251 1,175
---------- ---------- ---------- ---------- ----------

Other income (expenses):
Interest income and other .................................. 67 30 46 14 16
Interest expense and other ................................. (1,084) (924) (2,109) (370) (890)
---------- ---------- ---------- ---------- ----------

(1,017) (894) (2,063) (356) (874)
---------- ---------- ---------- ---------- ----------

(Loss) income from continuing operations before income taxes ... (2,193) (699) 4 (105) 301

(Benefit) provision for income taxes ........................... (79) 1,780 11 (37) 105
---------- ---------- ---------- ---------- ----------

(Loss) income from continuing operations ....................... (2,114) (2,479) (7) (68) 196

Discontinued operations:
Equity loss in unconsolidated affiliates ................... (59)
Gain on sale of unconsolidated affiliates,
net of state income taxes of $96 ......................... 2,146
---------- ---------- ---------- ---------- ----------

Net (loss) income .............................................. $ (27) $ (2,479) $ (7) $ (68) $ 196
========== ========== ========== ========== ==========
</TABLE>

The accompanying notes are an integral part of the financial statements.

F-13
<PAGE> 106

MICHAEL PETROLEUM CORPORATION
STATEMENT OF STOCKHOLDER'S DEFICIT

For the years ended December 31, 1995, 1996 and 1997 and the three months ended
March 31, 1998 (Unaudited)

(In thousands of dollars, except per share data)

<TABLE>
<CAPTION>
RETAINED
ADDITIONAL EARNINGS
COMMON PAID-IN (ACCUMULATED
SHARES STOCK CAPITAL DEFICIT) TOTAL
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1994 .................. 10 $ 1 $ 455 $ 655 $ 1,111

Dividends paid .............................. (465) (465)

Distribution of overriding royalty
interest and interests in equity
investees to stockholders ............... (194) (194)

Net loss .................................... (27) (27)
---------- ---------- ---------- ---------- ----------

Balance, December 31, 1995 .................. 10 1 455 (31) 425

Dividend to MHI ............................. (9) (9)

Issuance of warrants in conjunction
with T.E.P. Financing ................... 155 155

Net loss .................................... (2,479) (2,479)
---------- ---------- ---------- ---------- ----------

Balance, December 31, 1996 .................. 10 1 610 (2,519) (1,908)

Net loss .................................... (7) (7)
---------- ---------- ---------- ---------- ----------

Balance, December 31, 1997 .................. 10 $ 1 $ 610 $ (2,526) $ (1,915)
========== ========== ========== ========== ==========
Unaudited:
Net Income .................................. 196 196
---------- ---------- ---------- ---------- ----------
Balance March 31, 1998 ...................... 10 $ 1 $ 610 $ (2,330) $ (1,719)
========== ========== ========== ========== ==========
</TABLE>

The accompanying notes are an integral part of the financial statements.

F-14
<PAGE> 107
MICHAEL PETROLEUM CORPORATION
STATEMENT OF CASH FLOWS
(In thousands of dollars)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
-------------------------------- ------------------
1995 1996 1997 1997 1998
-------- -------- -------- -------- --------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net (loss) income ..................................................... $ (27) $ (2,479) $ (7) $ (68) $ 196
Adjustments to reconcile net loss to net cash (used in) provided by
operating activities:
Depreciation, depletion and amortization ......................... 1,272 1,180 3,889 986 1,349
Deferred income taxes ............................................ 15 1,780 11 (37) 105
Gain on sale of oil and gas properties ........................... (828) (182)
Abandonment of oil and gas properties ............................ 635 249
Noncash interest expense ......................................... 100
Amortization of discount on T.E.P. Financing ..................... 43 131 33 33
Equity loss in unconsolidated affiliates ......................... 59
Gain on sale of unconsolidated affiliates ........................ (2,242)
Changes in assets and liabilities:
Decrease (increase) in receivables, accrued oil and gas sales . 492 (1,189) (2,333) 456 613
(Increase) decrease in receivables, joint interest and other .. (88) (682) 562 (87) 290
(Increase) decrease in prepaid expenses and other ............. (20) 2 72 40 (24)
(Decrease) increase in accounts payable, trade ................ (1,203) 1,350 710 (1,072) 1,293
(Decrease) increase in accounts payable, revenue distribution . (285) 846 296 (302) (722)
(Decrease) increase in accrued liabilities .................... (219) 179 (114) (15) 254
------- -------- -------- ------- -------

Net cash (used in) provided by operating activities ...... (2,339) 848 3,466 (66) 3,387
------- -------- -------- ------- -------

Cash flows from investing activities:
Additions to oil and gas properties ................................... (672) (14,981) (14,963) (801) (2,093)
Proceeds from sale of oil and gas properties .......................... 953 228
Contributions to unconsolidated affiliates ............................ (482)
Proceeds from sale of unconsolidated affiliates ....................... 1,190
Proceeds from payment of related party note receivable ................ 302
------- -------- -------- ------- -------

Net cash provided by (used in) investing activities ...... 1,291 (14,753) (14,963) (801) (2,093)
------- -------- -------- ------- -------

Cash flows from financing activities:
Proceeds from long-term debt .......................................... 2,222 17,329 14,238 1,131 967
Payments on long-term debt ............................................ (392) (2,130) (3,114) (802) (1,933)
Dividend to MHI ....................................................... (9)
Dividends paid ........................................................ (465)
Additions to deferred loan costs ...................................... (440) (26) (453)
------- -------- -------- ------- -------

Net cash provided by (used in) financing activities ...... 1,365 14,750 11,098 329 (1,419)
------- -------- -------- ------- -------

Net increase (decrease) in cash and cash equivalents ...................... 317 845 (399) (538) (125)

Cash and cash equivalents, beginning of period ............................ 19 336 1,181 1,181 782
------- -------- -------- ------- -------

Cash and cash equivalents, end of period .................................. $ 336 $ 1,181 $ 782 $ 643 $ 657
======= ======== ======== ======= =======
</TABLE>

The accompanying notes are an integral part of the financial statements.

F-15

<PAGE> 108

MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Information for the three month period ended
March 31, 1997 and 1998 is unaudited)

1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

NATURE OF OPERATIONS AND BASIS OF PRESENTATION

Michael Petroleum Corporation (the "Company" or "MPC") is engaged in
the acquisition, exploration and development of oil and natural gas
properties principally located in the Lobo Trend of South Texas. The
Company was incorporated in June 1982. The Company, which was owned by
the stockholders of Michael Holdings, Inc. ("MHI"), became a
wholly-owned subsidiary of MHI on July 1, 1996 in a transaction
accounted for at historical cost as a reorganization of entities under
common control.

The Company was merged with and into Michael Gas Production Company
("MGPC"), which was also a wholly-owned subsidiary of MHI. Following
the merger, MGPC changed its name to MPC. This transaction was
accounted for at historical cost as a reorganization of entities under
common control. The financial statements reflect the financial
position, results of operations and cash flows of the combined
companies for all periods presented as if the merger had occurred on
December 31, 1994. All significant intercompany transactions have been
eliminated.

CASH AND CASH EQUIVALENTS

Cash equivalents consist of short-term highly liquid investments that
have an original maturity of three months or less. The Company
maintains its cash primarily with one financial institution located in
Houston, Texas. The Company periodically assesses the financial
condition of the institution and believes that any possible credit risk
is minimal.

OIL AND GAS PROPERTIES

The Company follows the successful efforts method of accounting for its
oil and gas properties. Under this method of accounting, all property
acquisition costs and costs of exploratory and development wells are
capitalized when incurred, pending determination of whether the well
has found proved reserves. If an exploratory well has not found proved
reserves, the costs of drilling the well are charged to expense. The
costs of development wells are capitalized whether productive or
nonproductive.

Geological and geophysical costs on exploratory prospects and the costs
of carrying and retaining unproved properties are expensed as incurred.
An impairment allowance is provided to the extent that capitalized
costs of unproved properties, on a property-by-property basis, are
considered to be not realizable.

F-16
<PAGE> 109
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

OIL AND GAS AND OTHER PROPERTIES, CONTINUED

Depletion, depreciation and amortization ("DD&A") of development costs
and acquisition costs of proved oil and gas properties is provided
using the units-of-production method based on proved developed reserves
and proved reserves, respectively. The computation of DD&A takes into
consideration restoration, dismantlement and abandonment costs and the
anticipated proceeds from equipment salvage. The estimated restoration,
dismantlement and abandonment costs are expected to be offset by the
estimated residual value of lease and well equipment.

Gains and losses are recognized on sales of entire interests in proved
and unproved properties. Sales of partial interests are generally
treated as recoveries of costs.

IMPAIRMENT OF OIL AND GAS PROPERTIES

Effective January 1, 1996, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 121 which requires that long-lived
assets held and used by an entity be reviewed for impairment whenever
events or changes indicate that the net book value of the asset may not
be recoverable. The net book value of an asset is reduced to fair value
if the sum of expected undiscounted future net cash flows from the use
of the asset is less than the net book value of the asset. Under SFAS
No. 121, the Company evaluates impairment of its oil and gas properties
on a field basis. The Company recorded impairment losses of $156,000
and $238,000 during the years ended December 31, 1996 and 1997,
respectively, which is included in DD&A. Prior to the adoption of SFAS
No. 121, the Company recognized an impairment loss if the Company's
total net capitalized costs exceeded the sum of expected undiscounted
future net cash flows.

NATURAL GAS BALANCING

The Company incurs natural gas production volume imbalances in the
ordinary course of business on jointly owned properties. The Company
follows the sales method to account for such imbalances. Under this
method, revenue is recorded based on the Company's net revenue interest
in production taken for delivery. The Company records a liability if
its sales of gas volumes in excess of its entitlements from a jointly
owned reservoir exceed its interest in the remaining estimated natural
gas reserves of such reservoir. Volumetric production is monitored to
minimize imbalances, and such imbalances were not significant at
December 31, 1996 and 1997.

F-17
<PAGE> 110
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

INCOME TAXES

Through June 30, 1996, the Company was taxed under the provisions of
"Subchapter S" of the Internal Revenue Code, which provides that the
individual shareholders are liable for federal income taxes on the
Company's taxable income. Accordingly, no provision for federal income
taxes is reflected in the statement of operations for periods ending
prior to June 30, 1996. Effective July 1, 1996, the Company began
filing a consolidated federal income tax return with MHI.

Deferred income taxes are provided to reflect the tax consequences in
future years of differences between the financial statement and tax
bases of assets and liabilities. Tax credits are accounted for under
the flow-through method, which reduces the provision for income taxes
in the year the tax credits are earned. A valuation allowance is
established to reduce deferred tax assets if it is more likely than not
that the related tax benefits will not be realized. The Company
calculates current and deferred taxes on an individual company basis.

PRICE RISK MANAGEMENT ACTIVITIES

The Company periodically uses swap contracts to hedge or otherwise
reduce the impact of natural gas price fluctuations. Gains and losses
resulting from changes in the market value of the financial instruments
utilized as hedges are deferred and recognized in the statement of
operations, together with the gain or loss on the hedged transaction,
as the physical production is sold under the relevant contracts. Cash
flows resulting from the Company's risk management activities are
classified in the accompanying statement of cash flows in the same
category as the item being hedged.

These instruments are measured for effectiveness on an enterprise basis
both at the inception of the contract and on an ongoing basis. If these
instruments are terminated prior to maturity, resulting gains or losses
continue to be deferred until the hedged item is recognized in income.

In connection with these hedging transactions, the Company may be
exposed to nonperformance by other parties to such agreements, thereby
subjecting the Company to current natural gas prices. However, the
Company only enters into hedging contracts with large financial
institutions and does not anticipate nonperformance.

CONCENTRATION OF CREDIT RISK

Substantially all of the Company's receivables are within the oil and
gas industry, primarily from purchasers of oil and gas and joint
venture participants. Collectibility is dependent upon the general
economic conditions of the purchasers and the oil and gas industry. The
receivables are not collateralized and to date, the Company has had
minimal bad debts.

F-18
<PAGE> 111
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

FAIR VALUE OF FINANCIAL INSTRUMENTS

The carrying amounts reported in the balance sheet for cash and cash
equivalents, receivables, and accounts payable approximate their fair
value. The carrying value of the Company's long-term debt approximates
fair market value as the debt accrues interest at variable rates which
approximate market conditions. The fair value of derivative financial
instruments is estimated using current market quotes.

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 and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. The Company's most
significant estimates relate to the assessment of impairment of proved
and unproved oil and gas properties, depreciation, depletion, and
amortization expense, and proved oil and gas reserves (see Note 13).
Actual results could differ from these estimates.

UNAUDITED FINANCIAL STATEMENTS

In the opinion of management, the accompanying unaudited financial
statements contain all adjustments necessary to present fairly the
financial position of the Company as of March 31, 1998 and the results
of operations and cash flows for the periods presented. All such
adjustments are of normal recurring nature. Certain information and
footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the SEC's rules and
regulations. The results of operations for the periods presented are
not necessarily indicative of the results for the full year.

2. OIL AND GAS PROPERTY TRANSACTIONS:

In August 1996, the Company acquired oil and gas properties for
approximately $11.8 million in cash, net of post closing adjustments
totaling $420,000 which were received in 1997. Accordingly, revenues
and expenses from the properties have been included in the Company's
statement of operations from the date of purchase. The pro forma
results of operations, assuming the properties were acquired on January
1 of each respective year are as follows (in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
1995 1996
-------- --------
(Unaudited)
<S> <C> <C>
Pro forma:
Revenues ...................................... $ 9,598 $ 8,730
Income from continuing operations ............. 2,573 2,497
</TABLE>

F-19

<PAGE> 112

MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

3. LONG-TERM DEBT:

Long-term debt consisted of the following (in thousands):

<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
1996 1997
------------ ------------
<S> <C> <C>
Notes payable under the comprehensive credit agreement
described below, net of unamortized discount of $612
in 1996 and $481 in 1997 ................................................ $ 16,507 $ 27,785

Installment notes to financial institutions, payable monthly,
interest at rates ranging from 5.9% to 11.26%, due April 1996 to
September 2000, collateralized by vehicles and
office equipment ........................................................ 144 139

Note payable to an insurance company, payable monthly,
interest at 7.85%, due January 1997, unsecured .......................... 12

Note payable to an individual, payable monthly, interest at
8%, due February 2000, unsecured ........................................ 23 17
------------ ------------

Total long-term debt ...................................................... 16,686 27,941

Less: current portion .................................................... (4,902) (8,056)
------------ ------------

Long-term debt ....................................................... $ 11,784 $ 19,885
============ ============
</TABLE>

Estimated annual principal payments at December 31, 1997 are as follows
(in thousands):

<TABLE>
<S> <C>
1998 ....................................................... $ 8,056
1999 ....................................................... 9,647
2000 ....................................................... 9,647
2001 ....................................................... 591
------------

$ 27,941
============
</TABLE>

T.E.P. FINANCING

On August 13, 1996, the Company entered into a comprehensive credit
agreement (the "T.E.P. Financing") with a limited partnership. Under
the T.E.P. Financing, total available credit amounted to approximately
$42.2 million, of which $16.3 million was available for oil and gas
property acquisitions and $25.9 million for development costs. As of
December 31, 1997, $14 million was available for future property
acquisitions and development costs. The T.E.P. Financing expires August
12, 2001.

F-20
<PAGE> 113
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

T.E.P. FINANCING, CONTINUED

The Company utilized loan proceeds of approximately $14.9 million to
acquire proved oil and gas properties located in South Texas (the "Lobo
Properties"). Through December 31, 1996 and 1997, loan proceeds of
approximately $1.8 million and $11.8 million, respectively, have been
used to develop those properties. In conjunction with entering into the
T.E.P. Financing, the Company conveyed to an affiliate of the lender a
net profits interest in all of the Company's oil and gas properties,
including the acquired properties ("Net Profits Interest"). The Net
Profits Interest grants the affiliate 30% of the net profits, as
defined, beginning the earlier of August 12, 2001, or the date of
repayment of all amounts due and occurring pursuant to the T.E.P.
Financing. The Net Profits Interest reduces to 15% of the net profits,
as defined, after payment of $10,000,000 pursuant to the interest. As
part of the T.E.P. Financing, the Company also granted to the lender a
warrant to purchase up to five percent of the Company's common stock at
an exercise price of $625 per share until August 12, 2001. The value
assigned to the Net Profits Interest and warrant was recorded as a
discount to the loan proceeds.

Under the terms of the T.E.P. Financing, principal is payable as a
percentage of net revenue, as defined. As of December 31, 1996 and
1997, the Company had repaid approximately $63,000 and $2.9 million of
principal under the T.E.P. Financing, respectively. Interest is payable
monthly and accrues at a combination of LIBOR plus 4.5% and New York
prime plus certain basis points based on the specific borrowing. At
December 31, 1996 and 1997, the blended effective interest rate
accruing on the loans was 14% and 15%, respectively. The loan is
collateralized by the oil and gas properties and the stock of the
Company.

The T.E.P. Financing contains financial covenants, the most restrictive
of which pertain to the payment of dividends, distributions to
shareholders and the Company's working capital ratio. The T.E.P.
Financing also contains administrative covenants. Except for violations
of certain administrative covenants during the years ended December 31,
1996 and 1997, the Company was in compliance with the covenants of the
T.E.P. Financing. Regarding the violations of such administrative
covenants, the Company obtained a waiver from the lender of the T.E.P.
Financing which agreed not to assert any default based upon such
violations unless they exist after April 15, 1998. The Company plans to
use proceeds from the Private Placement (see Note 12) to repay the
outstanding borrowings under the T.E.P. Financing and repurchase the
Net Profits Interest for $11 million. Upon repayment of the borrowings
under the T.E.P. Financing, the lender will cancel the warrants.

NOTES PAYABLE TO A LIMITED PARTNERSHIP

In August 1996, the Company utilized $2.0 million of the T.E.P.
Financing loan proceeds to pay down certain notes payable to a limited
partnership. The remaining balance on the notes payable of $4.9
million, including accrued interest, was paid through the transfer of
oil and gas properties with a net book value of $4.7 million, resulting
in a gain on the sale of approximately $182,000.

F-21
<PAGE> 114
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

4. FEDERAL INCOME TAXES:

The components of the net deferred tax liability are as follows (in
thousands):

<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
1996 1997
------------ ------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforward .................... $ 3,242
Other .............................................. $ 6 30
------------ ------------

Total deferred tax asset ................... 6 3,272
------------ ------------

Deferred tax liabilities:
Oil and gas properties ............................. (1,418) (5,063)
Other .............................................. (368)
------------ ------------

Total deferred tax liability ............... (1,786) (5,063)
------------ ------------

Net deferred tax liability ................. $ (1,780) $ (1,791)
============ ============
</TABLE>

At December 31, 1997, the Company had a net operating loss carryforward
of approximately $9.3 million, which begins expiring in 2017.
Utilization of the net operating loss carryforward is subject to annual
limitations due to certain stock ownership changes that have occurred
or may occur. The Company does not believe a deferred tax asset
valuation allowance is necessary at December 31, 1997 as all tax
carryforwards are expected to be fully utilized.

For the year ended December 31, 1995, the Company was not subject to
federal income taxes (see Note 1) and had a state tax benefit totaling
$79,000.

Income tax expense differs from the amount that would be provided by
applying the statutory U.S. federal income tax rate to (loss) income
before income taxes for the following reasons (in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1996 1997
---------- ----------
<S> <C> <C>
Computed statutory tax (benefit) expense at 35% ....... $ (245) $ 2
Changes in taxes resulting from:
Section 29 credits ................................. (13)
Conversion to C corporation status ................. 2,032
Other .............................................. 6 9
---------- ----------

Total income tax expense ...................... $ 1,780 $ 11
========== ==========
</TABLE>

F-22
<PAGE> 115
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

5. HEDGING ACTIVITIES:

In 1996, in conjunction with the T.E.P. Financing, the Company entered
into a gas swap contract to hedge or otherwise reduce the impact of
natural gas price fluctuations for other than trading purposes. Under
the terms of the swap agreement, the Company is a fixed-price receiver
on approximately 89,000 Mmbtu per month from January 1998 through
August, 2001. The Swap Agreement covered approximately 72% of the
Company's 1997 natural gas volumes. The average fixed price under the
agreement is $1.90 per Mmbtu. The estimated fair value of the swap
agreement was approximately $(1.1 million) at December 31, 1996 and
1997. This swap contract reduced natural gas revenues by approximately
$313,000 and $1.2 million for the years ended December 31, 1996 and
1997, respectively. The Company is exposed to credit-related losses in
the event of nonperformance by the counterparty, but it does not expect
the counterparty to fail to meet its obligations based on existing
credit ratings (See Note 12).

6. EMPLOYEE BENEFIT PLAN:

The Company sponsors a 401(k) profit sharing plan (the "401(k) Plan")
under Section 401(k) of the Internal Revenue Code ("IRS"). This plan
covers all employees of the Company. The Company, at its discretion,
matches $1.00 for each $1.00 of employee deferral, with the Company's
contribution not to exceed 8% of an employee's salary, subject to
limitations imposed by the IRS. The Company did not make any
contributions to the 401(k) Plan during the years ended December 31,
1995, 1996 and 1997.

7. DISCONTINUED OPERATIONS:

At January 1, 1995, the Company owned a 50% equity interest in two non
oil and gas limited liability companies which were accounted for under
the equity method. On January 20, 1995, the Company obtained a loan of
$2 million from a private lender, the proceeds of which were used to
pay trade obligations. The note provided for interest at 6% above the
reference prime rate. As consideration for making the loan, a 5%
interest in the Company's ownership in the two limited liability
companies was transferred to the lender. The net book value which
approximated fair value of the interest transferred of $100,000 was
recorded as interest expense. The note was collateralized by the
Company's entire interest in the two limited liability companies.

F-23
<PAGE> 116
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

In April 1995, the Company sold a 42% equity interest in each of the
limited liability companies to the private lender for cash proceeds of
approximately $1.2 million plus repayment of the remaining principal
balance of $1.75 million on the loan discussed above, resulting in a
gain of approximately $2.1 million (net of state income taxes of
$96,000). In September 1995, the Company distributed all of its
remaining interest in each of the limited liability companies to its
stockholders. The distribution was recorded at the net book value of
$134,000. The Company's investment in these two companies has been
accounted for as a discontinued operation.

8. RELATED PARTY TRANSACTIONS:

Beginning in April 1996, the Company entered into a two year agreement,
continuing thereafter on a quarterly basis subject to termination by
either party, with Upstream Energy Corporation ("Upstream") whereby
Upstream purchases all of the gas produced by the Company at spot
market prices. Under the terms of the agreement, the Company pays
Upstream a marketing fee of $.03 per Mmbtu which totaled approximately
$57,000, $106,000, and $220,000 for the years ended December 31, 1995,
1996, and 1997, respectively. During the years ended December 31, 1995,
1996 and 1997, Upstream purchased gas produced by the Company for
approximately $668,000, $3.2 million and $9.7 million, respectively. At
December 31, 1996 and 1997, receivables from Upstream of approximately
$2.1 million and $3.9 million, respectively, were included in accrued
oil and gas sales in the balance sheet. The chief executive officer of
the Company had an ownership interest in Upstream until August, 1997.
The Company believes the revenues received were equivalent to those
that would be paid under an arms-length transaction in the normal
course of business.

In July 1997, the Company executed in writing a ten year old verbal
agreement which granted to the Vice President of Exploration of the
Company a 1.5% of 8/8ths overriding royalty interest in leases acquired
either directly or indirectly by the Company or its affiliates in Webb
County or Zapata County, Texas. This overriding royalty interest
expires upon the death of the vice president or upon his termination,
resignation or retirement from the Company. The overriding royalty
interest does not apply to any producing properties acquired by the
Company except for deepenings or sidetracks of existing wells and/or
all new wells drilled on the acquired producing properties.

During the year ended December 31, 1995, the Company distributed its
overriding royalty interest in certain oil and gas properties to the
stockholders. The distribution was recorded at the net book value of
$60,000.

From May to July of 1995 the Company made loans to the Chairman of the
Board and Chief Executive Officer of the Company, in an aggregate
principal amount of $314,700. Interest on the indebtedness accrued at a
rate of 5% per annum and $302,055 of such indebtedness was repaid to
the Company in December 1995. The remaining balance, together with
interest, was paid in May 1997.

F-24
<PAGE> 117
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

9. SUPPLEMENTAL CASH FLOW INFORMATION:

Cash payments for interest are as follows (in thousands):

<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
---------------------------------- ---------------------
1995 1996 1997 1997 1998
-------- -------- -------- ---------- ---------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Interest payments (net of interest
capitalized of $0, $217, $574, $130 and $64
during 1995, 1996, 1997, and the three
months ended 1997 and 1998, respectively) .... $ 1,081 $ 833 $ 1,626 $ 364 $ 878
</TABLE>

Non-cash investing and financing transactions not reflected in the
statement of cash flows include the following (in thousands):

<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
---------------------------------- ---------------------
1995 1996 1997 1997 1998
-------- -------- -------- ---------- ---------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Changes in accounts payable
related to capital expenditures............... $ 238 $ 465
Distribution to stockholders of overriding
royalty interest.............................. $ 60
Distribution to stockholders of interests in
equity investees.............................. 134
Transfer of interests in equity investees as
repayment of note payable to private
lender........................................ 1,750
Transfer of oil and gas properties as
repayment of note payable to a limited
partnership................................... 4,791
Adjustment to purchase price of certain oil
and gas properties............................ 420
Issuance of short-term note payable for purchase
of oil and gas properties..................... $ 45,813
Issuance of note payable for financing of
insurance policy.............................. $ 88 87
</TABLE>

10. COMMITMENTS AND CONTINGENCIES:

LEASES

The Company has entered into a noncancelable operating lease agreement
for office space in Houston, Texas. The lease term expires in 2001,
with two options to renew the lease for a period of five years each.
Future minimum lease payments required as of December 31, 1997 related
to noncancelable operating leases are as follows:

F-25

<PAGE> 118
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
<S> <C>
1998...................................... $ 92,500
1999...................................... 67,000
2000...................................... 67,000
2001...................................... 11,000
-----------

$ 237,500
===========
</TABLE>

Rent expense for the years ended December 31, 1995, 1996 and 1997 was
approximately $90,000, $49,700, and $69,000, respectively
(See Note 12).

LEGAL PROCEEDINGS

The Company has been and may in the future be involved as a party in
various legal proceedings, which are incidental to the ordinary course
of business. Management regularly analyzes current information and, as
necessary, provides accruals for probable liabilities on the eventual
disposition of these matters. In the opinion of management and legal
counsel, as of December 31, 1997, there were no threatened or pending
legal matters which would have a material impact on the Company's
results of operations, financial position or cash flows.

YEAR 2000

The Company has reviewed its computer systems and hardware to locate
potential operational problems associated with the year 2000 issue. The
Company believes that all year 2000 problems in its internal
information processing computer systems have been resolved and have not
caused and will not cause disruption of its operations, or have a
material adverse effect on its financial condition or results of
operations. The Company is in the process of contacting and receiving
verification of year 2000 issue compliance from its vendors,
purchasers, suppliers, transporters of its production and its financial
service providers. At this time, the Company does not anticipate any
material disruption in its operations as a result of any year 2000
compliance issues, but will continue to monitor the situation with
third parties.

11. RECENT ACCOUNTING PRONOUNCEMENTS:

In June 1997, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 130, Reporting Comprehensive Income, which is effective for
fiscal years beginning after December 15, 1997. SFAS No. 130
establishes standards for reporting and display of comprehensive income
and its components (revenues, expenses, gains and losses) in a full set
of general-purpose financial statements. It requires (a) classification
of items of other comprehensive income by their nature in a financial
statement and (b) display of the accumulated balance of other
comprehensive income separate from retained earnings and additional
paid-in capital in the equity section of a statement of financial
position. The adoption of SFAS No. 130 did not have a material effect
on the Company's financial position, results of operations or cash
flows. (See Note 12 -- Recent Accounting Pronouncements).

F-26

<PAGE> 119

MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

In June 1997, the FASB issued SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information, which is effective
for fiscal years beginning after December 15, 1997. SFAS No. 131
establishes standards for reporting information about operating
segments in annual financial statements and requires selected
information about operating segments in interim financial reports
issued to shareholders. It also establishes standards for related
disclosures about products and services, geographic areas and major
customers. This statement supersedes SFAS No. 14, Financial Reporting
for Segments of a Business Enterprise, but retains the requirement to
report information about major customers. Because the Company operates
in only one segment, management does not expect the adoption of SFAS
No. 131 to have a material affect on the Company's financial statement
disclosures.

In March 1998, the FASB issued SFAS No. 132, Employers' Disclosures
about Pensions and Other Postretirement Benefits, which is effective
for fiscal years beginning after December 15, 1997. SFAS No. 132
revises employers' disclosures about pension and other postretirement
benefit plans. It standardizes the disclosure requirements for pensions
and other postretirement benefits to the extent practicable, requires
additional information on changes in the benefits obligations and fair
values of plan assets that will facilitate financial analysis, and
eliminates certain disclosures that are no longer as useful as they
were when SFAS No. 87, Employers' Accounting for Pensions, and SFAS No.
88, Employers' Accounting for Settlements and Curtailments of Deferred
Benefit Pension Plans and for Termination Benefits, were issued.
Because the Company does not currently have pension or other
postretirement benefits, management does not expect the adoption of
SFAS No. 132 to have a material affect on the Company's financial
statement disclosures.

12. SUBSEQUENT EVENTS:

PRIVATE PLACEMENT

On April 2, 1998, the Company issued $135 million of senior notes (the
"Notes") at a discount of 1.751% in a transaction exempt from
registration under federal and state securities laws (the "Offering").
The Notes mature in April 2005 and bear interest at a rate of
approximately 11.5% per annum, payable semi-annually in April and
October of each year, commencing October 1998. The Notes are redeemable
at the option of the Company, in whole or in part, at any time after
April 2003, at specified redemption prices, plus accrued and unpaid
interest and liquidated damages, as defined. The Company is required to
comply with certain covenants, which limit, among other things, the
ability of the Company to incur additional indebtedness, pay dividends,
repurchase equity interests, sell assets or enter into mergers and
consolidations.

The Company completed the acquisitions discussed below with proceeds
from the Offering.

F-27
<PAGE> 120
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

ENRON ACQUISITION

On February 5, 1998, the Company entered into a purchase and sale
agreement with Enron Oil & Gas Company ("Enron") (the "Enron
Acquisition"). The purchase and sale agreement provides that Enron will
convey to the Company interests in certain oil and natural gas leases
in Webb County, Hidalgo County and Zapata County, Texas, and all
seismic data owned by Enron covering the properties. The Enron
Acquisition was closed on March 31, 1998.

The purchase price for the Enron Acquisition was $45.8 million, subject
to post-closing adjustments, and the conveyance by the Company to Enron
of all of the Company's interests in certain oil and natural gas
properties in Webb County, Texas. The purchase price was paid in the
form of a promissory note dated March 31, 1998 bearing an interest rate
of 8% per annum and maturing on April 2, 1998. The Company utilized a
portion of the net proceeds of the Offering to repay the promissory
note.

CONOCO ACQUISITION

On February 20, 1998, the Company entered into a purchase and sale
agreement with Conoco Inc. ("Conoco") (the "Conoco Acquisition"). The
purchase and sale agreement provides that Conoco will convey to the
Company certain oil and natural gas leases covering approximately
39,000 acres in Webb County, Texas. On April 2, 1998, the Company paid
$22.5 million, subject to post-closing adjustments, as consideration
for the rights and property conveyed by Conoco as described above.

LOBO LEASE ACQUISITION

On April 20, 1998, the Company entered into a lease with Mobil
effective as of January 1, 1998 covering Mobil's interest in
approximately 40,000 acres in the Lobo Trend (the "Lobo Lease").
Consideration for the Lobo Lease is in the form of future deliveries of
4 Bcf of gas, commencing May 1, 1998 and terminating December 31, 1998.
On April 23, 1998, the Company entered into a contract to secure
delivery of this volume of gas for consideration of $9.98 million.

LINE OF CREDIT

On May 15, 1998, the Company executed a credit agreement with
Christiania Bank og KreditKasse ("Christiania"), for a new reducing
revolving credit facility (the "Credit Facility") which provides for a
maximum loan amount of $50 million with an initial borrowing base of
$30 million. Under the Credit Facility, the principal outstanding will
be due and payable in May 2002 with interest payable monthly. The
interest rate for borrowings will be calculated at the Eurodollar Rate
plus 1.75% or ABR rate at the election of the Company. The ABR rate is
the highest of (i) the interest rate publicly announced by Christiania,
(ii) the secondary market rate for three-month certificates of deposit
plus 1% and (iii) the federal funds rate plus 0.5%. The Credit Facility
is collateralized by virtually all of the Company's oil and natural
gas properties.

F-28
<PAGE> 121

MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

HEDGE CONTRACTS

The Company terminated the gas swap agreement discussed in Note 5 on
April 2, 1998 for a cash payment of $1.8 million.

During April 1998, the Company purchased a gas put option with a strike
price of $2.25 per Mmbtu for approximately $230,000. The put option has
a notional volume of 150,000 Mmbtu per month from May 1, 1998 to April
30, 1999. The Company also entered into a collar contract with a floor
price of $2.25 per Mmbtu and a ceiling price of $2.99 per Mmbtu. The
collar has a notional volume of 450,000 Mmbtu per month from May 1,
1998 to April 30, 1999.

LEASES

On May 1, 1998, the Company executed an amendment to the noncancelable
operating lease agreement (See Note 10) to acquire additional office
space and extend the lease term for three years. The extended lease
term expires in 2004 and increases noncancelable lease commitments by
approximately $2,200 per month from July 31, 1998 through April 30,
2001 and by approximately 3,700 per month from May 1, 2001 through
June 30, 2004. The amended lease has two options to renew the lease for
a period of five years each.

RECENT ACCOUNTING PRONOUNCEMENTS

As discussed in Note 5 to the Financial Statements, the company has
historically hedged a portion of its future gas production using gas
swap contracts. These contracts are a hedge of the Company's exposure
to the variability of future cash flows due to potential decreases in
gas prices. For a derivative designated as hedging the exposure to
variable cash flows of a forecasted transaction (referred to as a cash
flow hedge), the effective portion of the derivative gain or loss is
initially reported as a component of other comprehensive income
(outside earnings) and subsequently reclassified into earnings when the
forecasted transaction affects earnings. The ineffective portion of the
gain or loss is reported in earnings immediately. The extent of the
impact of adopting SFAS #133 on the Company's financial position,
results of operations, or cash flows will be a function of the open
derivative contracts at the date of adoption. If the Company had
adopted the standard as of March 31, 1998, the Company would have
recorded an unrealized loss of approximately $1.2 million (net of tax)
as a component of other comprehensive income.

13. DISCLOSURES ABOUT OIL AND GAS PRODUCING ACTIVITIES:

CAPITALIZED COSTS RELATED TO OIL AND GAS PRODUCING ACTIVITIES

Capitalized costs related to oil and gas producing activities:

<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------
1996 1997
---------- ----------
<S> <C> <C>
Unproved oil and gas properties ............. $ 3,775 $ 1,247
Proved oil and gas properties ............... 15,638 33,730
---------- ----------

$ 19,413 $ 34,977
========== ==========
</TABLE>

COSTS INCURRED IN OIL AND GAS PRODUCING ACTIVITIES

Costs incurred for oil and gas property acquisition, exploration and
development activities, whether capitalized or expensed, are as follows
(in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Property acquisition:
Unproved .................. $ 30 $ 2,929 $ 355
Proved .................... 10 9,554 2,425
Exploration .................. 177
Development .................. 632 2,757 12,074
Interest capitalized ......... 217 574
---------- ---------- ----------

Total costs incurred ...... $ 849 $ 15,457 $ 15,428
========== ========== ==========
</TABLE>

SALES OF OIL AND GAS

Substantially all of the Company's natural gas is sold to one purchaser
(see Note 8). Substantially all of the Company's oil and condensate is
sold to two customers.

F-29
<PAGE> 122
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

OIL AND GAS RESERVE QUANTITIES (UNAUDITED)

Users of this information should be aware that the process of
estimating quantities of "proved" and "proved developed" natural gas
and crude oil reserves is very complex, requiring significant
subjective decisions in the evaluation of all available geological,
engineering and economic data for each reservoir. The data for a given
reservoir may also change substantially over time as a result of
numerous factors including, but not limited to, additional development
activity, evolving production history and continual reassessment of the
viability of production under varying economic conditions.
Consequently, material revisions to existing reserve estimates occur
from time to time. Although every reasonable effort is made to ensure
that reserve estimates reported represent the most accurate assessments
possible, the significance of the subjective decisions required and
variances in available data for various reservoirs make these estimates
generally less precise than other estimates presented in connection
with financial statement disclosures.

The reserve information as of December 31, 1994 and 1995 was prepared
by Mohajir & Associates, Inc. The reserve information as of December
31, 1996 and 1997 was prepared by Huddleston & Co., Inc. The Company
emphasizes that reserve estimates are inherently imprecise and that
estimates of new discoveries are more imprecise than those of proved
producing oil and gas properties. Accordingly, these estimates are
expected to change as future information becomes available.

Proved reserves are estimated quantities of natural gas, crude oil and
condensate that 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 proved reserves that can be expected to be
recovered through existing wells with existing economic and operating
methods.

No major discovery or other favorable or adverse event subsequent to
December 31, 1997 is believed to have caused a material change in the
estimates of proved or proved developed reserves as of that date.

The following table sets forth the Company's net proved reserves,
including the changes therein, and proved developed reserves (all
within the United States) at the end of each of the three years in the
period ended December 31, 1997:

F-30
<PAGE> 123

MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

December 31, 1995 ............................ 2,260 5,909
Revision of previous estimates ............. 5,920
Extensions, discoveries and other additions. 9 2,299
Production ................................. (37) (1,324)
Purchases of reserves in place ............. 189 36,442
Sales of minerals in place ................. (2,182)
--------- -----------

December 31, 1996 ............................ 239 49,246
Revision of previous estimates ............. (38) (6,848)
Extensions, discoveries and other additions. 70 9,105
Production ................................. (21) (3,685)
Purchases of reserves in place ............. 15 3,347
--------- -----------

December 31, 1997 ............................ 265 51,165
========= ===========
</TABLE>

<TABLE>
<CAPTION>
CRUDE OIL NATURAL GAS
(MBbl) (MMcf)
--------- -----------
<S> <C> <C>
Proved developed reserves:
January 1, 1995 .............................. 963 4,502
December 31, 1995 ............................ 689 2,627
December 31, 1996 ............................ 79 16,924
December 31, 1997 ............................ 108 22,937
</TABLE>

STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO
PROVED OIL AND GAS RESERVES (UNAUDITED)

SFAS No. 69 prescribes guidelines for computing a standardized measure
of future net cash flows and changes therein relating to estimated
proved reserves. The Company has followed these guidelines which are
briefly discussed below.

F-31
<PAGE> 124
MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

Future cash inflows and future production and development costs are
determined by applying year-end prices and costs to the estimated
quantities of oil and gas to be produced. Estimated future income taxes
are computed using current statutory income tax rates, including
consideration for estimated future statutory depletion and alternative
fuels tax credits. The resulting future net cash flows are reduced to
present value amounts by applying a 10% annual discount factor.

The assumptions used to compute the standardized measure are those
prescribed by the Financial Accounting Standards Board and, as such do
not necessarily reflect the Company's expectations of actual revenues
to be derived from those reserves nor their present worth. The
limitations inherent in the reserve quantity estimation process, as
discussed previously, are equally applicable to the standardized
measure computations since these estimates are the basis for the
valuation process.

The standardized measure of discounted future net cash flows relating
to proved oil and gas reserves is as follows (in thousands):

<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Future cash inflows .......................................... $ 53,284 $ 129,588 $ 115,766
Less related future:
Production costs ........................................ (15,890) (19,319) (20,226)
Development costs ....................................... (9,586) (16,070) (17,295)
Income tax expense ...................................... (8,409) (28,715) (22,497)
---------- ---------- ----------

Future net cash flows ........................................ 19,399 65,484 55,748
10% annual discount for estimating timing of cash flows ...... (6,522) (23,135) (19,109)
---------- ---------- ----------

Standardized measure of discounted future net cash flows ..... $ 12,877 $ 42,349 $ 36,639
========== ========== ==========
</TABLE>

F-32
<PAGE> 125

MICHAEL PETROLEUM CORPORATION
NOTES TO FINANCIAL STATEMENTS, CONTINUED

A summary of the changes in the standardized measure of discounted
future net cash flows applicable to proved oil and gas reserves is as
follows (in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Beginning of the period .................................... $ 14,825 $ 12,877 $ 42,349
---------- ---------- ----------

Revisions of previous estimates:
Changes in prices and costs ............................. 2,118 17,803 (9,701)
Changes in quantities ................................... (1,822) 9,108 (12,789)
Changes in future development costs ..................... 1,153 (147) (2,566)
Development costs incurred during the period ............... 25 243 4,402
Additions to proved reserves resulting from extensions
and discoveries, less related costs ...................... 1,909 2,051 11,172
Purchases of reserves in place ............................. 31,082 3,894
Sales of reserves in place ................................. (3,683) (11,983)
Accretion of discount ...................................... 1,928 1,851 6,073
Sales of oil and gas, net of production costs .............. (881) (1,663) (7,269)
Net change in income taxes ................................. (1,176) (12,744) 3,530
Production timing and other ................................ (1,519) (6,129) (2,456)
---------- ---------- ----------
Net increase (decrease) .................................... (1,948) 29,472 (5,710)
---------- ---------- ----------

End of the period .......................................... $ 12,877 $ 42,349 $ 36,639
========== ========== ==========
</TABLE>

F-33
<PAGE> 126
REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholder of
Michael Petroleum Corporation:

We have audited the accompanying statement of revenues and direct operating
expenses of the Enron Properties for the years ended December 31, 1996 and 1997.
This financial statement is the responsibility of the Company's management. Our
responsibility is to express an opinion on this financial statement based on our
audits.

We conducted our audits 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 statement is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statement. 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 audits provide a reasonable basis for our opinion.

The accompanying financial statement reflects the revenues and direct operating
expenses of the Enron Properties as described in Note 1 and is not intended to
be a complete presentation of the financial position, results of operations or
cash flows of the Enron Properties.

In our opinion, the financial statement referred to above presents fairly, in
all material respects, the revenues and direct operating expenses of the Enron
Properties as described in Note 1 for the years ended December 31, 1996 and 1997
in conformity with generally accepted accounting principles.

COOPERS & LYBRAND L.L.P.

Houston, Texas
March 9, 1998

F-34
<PAGE> 127

THE ENRON PROPERTIES
STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES
Year Ended December 31,
(In thousands)

<TABLE>
<CAPTION>
Three Months Ended
March 31,
--------------------------
1996 1997 1997 1998
---------- ---------- ---------- ----------
(Unaudited)
<S> <C> <C> <C> <C>
Revenues .............................................. $ 18,973 $ 15,166 $ 4,367 $ 2,576
Direct operating expenses ............................. (2,547) (2,339) (561) (624)
---------- ---------- ---------- ---------

Excess of revenues over direct operating expenses ..... $ 16,426 $ 12,827 $ 3,806 $ 1,952
========== ========== ========== =========
</TABLE>

The accompanying notes are an integral part of this financial statement.

F-35
<PAGE> 128

THE ENRON PROPERTIES
NOTES TO FINANCIAL STATEMENT

1. BASIS OF PRESENTATION:

The accompanying financial statement reflects the revenues and direct
operating expenses relating to certain oil and gas properties located
in South Texas (the "Enron Properties").

The historical financial statements reflecting financial position,
results of operations and cash flows required by generally accepted
accounting principles are not presented, as such information is neither
readily available on an individual property basis nor meaningful for
the properties. During the periods presented, the Enron Properties were
not accounted for as a separate entity. This financial statement does
not include depreciation, depletion and amortization, general and
administrative, interest or federal income tax expense. Accordingly,
the accompanying financial statement is not intended to represent the
financial position, results of operations or cash flows in conformity
with generally accepted accounting principles. This financial statement
may not be representative of future operations.

2. INTERIM FINANCIAL INFORMATION:

The accompanying financial information for the three-month periods
ended March 31, 1997 and 1998 is unaudited but reflects, in the
opinion of the Company's management, all adjustments (which include
only normal recurring adjustments) necessary to present fairly the
revenues and direct operating expenses of the Enron Properties for
such periods. The revenues and direct operating expenses for such
interim periods are not necessarily indicative of results to be
expected for the full year.

F-36
<PAGE> 129

THE ENRON PROPERTIES
SUPPLEMENTARY FINANCIAL INFORMATION
SUPPLEMENTARY OIL AND GAS DISCLOSURES (UNAUDITED)

OIL AND GAS RESERVE QUANTITIES

Users of this information should be aware that the process of estimating
quantities of "proved" and "proved developed" natural gas and crude oil reserves
is very complex, requiring significant subjective decisions in the evaluation of
all available geological, engineering and economic data for each reservoir. The
data for a given reservoir may also change substantially over time as a result
of numerous factors including, but not limited to, additional development
activity, evolving production history and continual reassessment of the
viability of production under varying economic conditions. Consequently,
material revisions to existing reserve estimates occur from time to time.
Although every reasonable effort is made to ensure that reserve estimates
reported represent the most accurate assessments possible, the significance of
the subjective decisions required and variances in available data for various
reservoirs make these estimates generally less precise than other estimates
presented in connection with financial statement disclosures.

The reserve information was prepared by the Company and Huddleston & Co., Inc.
The Company emphasizes that reserve estimates are inherently imprecise and that
estimates of new discoveries are more imprecise than those of proved producing
oil and gas properties. Accordingly, these estimates are expected to change as
future information becomes available.

Proved reserves are estimated quantities of natural gas, crude oil and
condensate that 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 proved
reserves that can be expected to be recovered through existing wells with
existing economic and operating methods.

ESTIMATED NET QUANTITIES OF OIL AND GAS RESERVES ATTRIBUTED TO THE ENRON
PROPERTIES

No major discovery or other favorable or adverse event subsequent to December
31, 1997 is believed to have caused a material change in the estimates of proved
or proved developed reserves as of that date.

The following table sets forth the net proved reserves, including the changes
therein, and proved developed reserves (all within the United States) at the end
of each of the two years in the period ended December 31, 1997:

F-37
<PAGE> 130

<TABLE>
<CAPTION>
CRUDE OIL NATURAL GAS
(MBbl) (MMcf)
--------- -----------
<S> <C> <C>
Proved developed and undeveloped reserves:
January 1, 1996 .................................... 2,486 63,564
Revision of previous estimates
Extensions, discoveries and other additions
Production ...................................... (226) (6,976)
--------- -----------
December 31, 1996 .................................. 2,260 56,588
Revision of previous estimates
Extensions, discoveries and other additions
Production ...................................... (166) (5,426)
--------- -----------
December 31, 1997 .................................. 2,094 51,162
========= ===========
Proved developed reserves:
January 1, 1996 .................................... 1,031 31,179
December 31, 1996 .................................. 805 24,204
December 31, 1997 .................................. 639 18,778
</TABLE>

STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES

SFAS No. 69 prescribes guidelines for computing a standardized measure of future
net cash flows and changes therein relating to estimated proved reserves. The
Company has followed these guidelines which are briefly discussed below.

Future cash inflows and future production and development costs are determined
by applying year-end prices and costs to the estimated quantities of oil and gas
to be produced. The resulting future net cash flows are reduced to present value
amounts by applying a 10% annual discount factor.

The assumptions used to compute the standardized measure are those prescribed by
the Financial Accounting Standards Board and, as such do not necessarily reflect
the Company's expectations of actual revenues to be derived from those reserves
nor their present worth. The limitations inherent in the reserve quantity
estimation process, as discussed previously, are equally applicable to the
standardized measure computations since these estimates are the basis for the
valuation process.

F-38
<PAGE> 131

The standardized measure of discounted future net cash flows relating to proved
oil and gas reserves attributed to the Enron Properties is as follows (in
thousands):

<TABLE>
<CAPTION>
AS OF AS OF
DECEMBER 31, DECEMBER 31,
1996 1997
------------ ------------
<S> <C> <C>
Future cash inflows ....................................................... $ 246,578 $ 154,881
Less related future:
Production costs ....................................................... (29,638) (27,299)
Development costs ...................................................... (21,863) (21,862)
Income tax expense ..................................................... (51,302) (20,027)
------------ ------------
Future net cash flows ..................................................... 143,775 85,693
10% annual discount for estimated timing of cash flows .................... (43,321) (29,490)
------------ ------------
Standardized measure of discounted future net cash flows for
proved reserves ........................................................ $ 100,454 $ 56,203
============ ============
</TABLE>

A summary of the changes in the standardized measure of discounted future net
cash flows applicable to proved oil and gas reserves is as follows (in
thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1996 1997
------------ ------------
<S> <C> <C>
Beginning of the period ................................................... $ 69,850 $ 100,454
------------ ------------
Revisions of previous estimates:
Changes in prices and costs ............................................ 62,746 (65,363)
Changes in quantities...................................................
Changes in future development costs.....................................
Development costs incurred during the period...............................
Additions to proved reserves resulting from extensions and discoveries,
less related costs......................................................
Accretion of discount ..................................................... 7,972 13,401
Sales of oil and gas, net of production costs ............................. (16,426) (12,827)
Net change income taxes ................................................... (23,688) 20,538
Production timing and other................................................
------------ ------------
Net increase (decrease) ................................................... 30,604 (44,251)
------------ ------------
End of the period ......................................................... $ 100,454 $ 56,203
============ ============
</TABLE>

F-39
<PAGE> 132

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholder of
Michael Petroleum Corporation:

We have audited the accompanying statement of revenues and direct operating
expenses of the Conoco Properties for the years ended December 31, 1996 and
1997. This financial statement is the responsibility of the Company's
management. Our responsibility is to express an opinion on this financial
statement based on our audits.

We conducted our audits 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 statement is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statement. 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 audits provide a reasonable basis for our opinion.

The accompanying financial statement reflects the revenues and direct operating
expenses of the Conoco Properties as described in Note 1 and is not intended to
be a complete presentation of the financial position, results of operations or
cash flows of the Conoco Properties.

In our opinion, the financial statement referred to above presents fairly, in
all material respects, the revenues and direct operating expenses of the Conoco
Properties as described in Note 1 for the years ended December 31, 1996 and 1997
in conformity with generally accepted accounting principles.

COOPERS & LYBRAND L.L.P.

Houston, Texas
March 9, 1998

F-40
<PAGE> 133

THE CONOCO PROPERTIES
STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES
Year Ended December 31,
(In thousands)

<TABLE>
<CAPTION>
Three Months Ended
March 31,
------------------------------
1996 1997 1997 1998
------------ ------------ ------------ ------------
(Unaudited)
<S> <C> <C>
Revenues .............................................. $ 5,109 $ 6,904 $ 1,462 $ 1,319
Direct operating expenses ............................. (646) (906) (146) (105)
------------ ------------ ------------ ------------

Excess of revenues over direct operating expenses ..... $ 4,463 $ 5,998 $ 1,316 $ 1,214
============ ============ ============ ============
</TABLE>

The accompanying notes are an integral part of this financial statement.

F-41
<PAGE> 134

THE CONOCO PROPERTIES
NOTES TO FINANCIAL STATEMENT

1. BASIS OF PRESENTATION:

The accompanying financial statement reflects the revenues and direct
operating expenses relating to certain oil and gas properties located
in South Texas (the "Conoco Properties").

The historical financial statements reflecting financial position,
results of operations and cash flows required by generally accepted
accounting principles are not presented, as such information is neither
readily available on an individual property basis nor meaningful for
the properties. During the periods presented, the Conoco Properties
were not accounted for as a separate entity. The financial statement
does not include depreciation, depletion and amortization, general and
administrative, interest or federal income tax expenses. Accordingly,
the accompanying financial statement is not intended to represent the
financial position, results of operations or cash flows in conformity
with generally accepted accounting principles. This financial statement
may not be representative of future operations.

2. INTERIM FINANCIAL INFORMATION:

The accompanying financial information for the three-month periods
ended March 31, 1997 and 1998 is unaudited but reflects, in the opinion
of the Company's management, all adjustments (which include only normal
recurring adjustments) necessary to present fairly the revenues and
direct operating expenses of the Conoco Properties for such periods.
The revenues and direct operating expenses for such interim periods are
not necessarily indicative of results to be expected for the full year.

F-42
<PAGE> 135

THE CONOCO PROPERTIES
SUPPLEMENTARY FINANCIAL INFORMATION
SUPPLEMENTARY OIL AND GAS DISCLOSURES (UNAUDITED)

OIL AND GAS RESERVE QUANTITIES

Users of this information should be aware that the process of estimating
quantities of "proved" and "proved developed" natural gas and crude oil reserves
is very complex, requiring significant subjective decisions in the evaluation of
all available geological, engineering and economic data for each reservoir. The
data for a given reservoir may also change substantially over time as a result
of numerous factors including, but not limited to, additional development
activity, evolving production history and continual reassessment of the
viability of production under varying economic conditions. Consequently,
material revisions to existing reserve estimates occur from time to time.
Although every reasonable effort is made to ensure that reserve estimates
reported represent the most accurate assessments possible, the significance of
the subjective decisions required and variances in available data for various
reservoirs make these estimates generally less precise than other estimates
presented in connection with financial statement disclosures.

Proved reserves are estimated quantities of natural gas, crude oil and
condensate that geological and engineering data demonstrate, with reasonable
certainty, to be recoverable in the future years from known reservoirs under
existing economic and operating conditions. Proved developed reserves are proved
reserves that can be expected to be recovered through existing wells with
existing economic and operating methods.

ESTIMATED NET QUANTITIES OF OIL AND GAS RESERVES ATTRIBUTED TO THE CONOCO
PROPERTIES

No major discovery or other favorable or adverse event subsequent to December
31, 1997 is believed to have caused a material change in the estimates of proved
or proved developed reserves as of that date.

F-43

<PAGE> 136

<TABLE>
<CAPTION>
CRUDE OIL NATURAL GAS
(MBbl) (MMcf)
--------- -----------
<S> <C> <C>
Proved developed and undeveloped reserves:
January 1, 1996 .................................... 1,728 27,895
Revision of previous estimates...................
Extensions, discoveries and other additions......
Production ...................................... (182) (1,621)
--------- -----------
December 31, 1996 .................................. 1,546 26,274
Revision of previous estimates...................
Extensions, discoveries and other additions......
Production ...................................... (235) (2,192)
--------- -----------
December 31, 1997 .................................. 1,311 24,082
========= ===========
Proved developed reserves:
January 1, 1996 .................................... 841 11,754
December 31, 1996 .................................. 658 10,133
December 31, 1997 .................................. 424 7,941
</TABLE>

STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES

SFAS No. 69 prescribes guidelines for computing a standardized measure of future
net cash flows and changes therein relating to estimated proved reserves. The
Company has followed these guidelines which are briefly discussed below.

The assumptions used to compute the standardized measure are those prescribed by
the Financial Accounting Standards Board and, as such do not necessarily reflect
the Company's expectations of actual revenues to be derived from those reserves
nor their present worth. The limitations inherent in the reserve quantity
estimation process, as discussed previously, are equally applicable to the
standardized measure computations since these estimates are the basis for the
valuation process.

F-44
<PAGE> 137

The standardized measure of discounted future net cash flows relating to proved
oil and gas reserves attributed to the Conoco Properties is as follows (in
thousands):

<TABLE>
<CAPTION>
AS OF AS OF
DECEMBER 31, DECEMBER 31,
1996 1997
------------ ------------
<S> <C> <C>
Future cash inflows ....................................................... $ 144,813 $ 78,702
Less related future:
Production costs ....................................................... (13,983) (13,077)
Development costs ...................................................... (11,199) (11,199)
Income tax expense...................................................... (33,715) (10,894)
------------ ------------
Future net cash flows ..................................................... 85,916 43,532
10% annual discount for estimated timing of cash flows .................... (26,071) (15,379)
------------ ------------
Standardized measure of discounted future net cash flows
for proved reserves .................................................... $ 59,845 $ 28,153
============ ============
</TABLE>

A summary of the changes in the standardized measure of discounted future net
cash flows applicable to proved oil and gas reserves is as follows (in
thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
1996 1997
------------ ------------
<S> <C> <C>
Beginning of the period ................................................... $ 34,738 $ 59,845
------------ ------------
Revisions of previous estimates:
Changes in prices and costs ............................................ 42,483 (47,942)
Changes in quantities...................................................
Changes in future development costs.....................................
Development costs incurred during the period...............................
Additions to proved reserves resulting from extensions and discoveries,
less related costs......................................................
Purchases of reserves in place.............................................
Accretion of discount ..................................................... 3,913 8,107
Sales of oil and gas, net of production costs ............................. (4,463) (5,998)
Net change in income taxes ................................................ (16,826) 14,141
Production timing and other................................................
------------ ------------
Net increase (decrease) ................................................... 25,107 (31,692)
------------ ------------
End of the period ......................................................... $ 59,845 $ 28,153
============ ============
</TABLE>

F-45
<PAGE> 138
REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholder of
Michael Petroleum Corporation:

We have audited the accompanying statement of revenues and direct operating
expenses of the Lobo Properties for the year ended December 31, 1995 and the
seven-month period ended July 31, 1996. This financial statement is the
responsibility of the Company's management. Our responsibility is to express an
opinion on this financial statement based on our audits.

We conducted our audits 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 statement is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statement. 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 audits provide a reasonable basis for our opinion.

The accompanying financial statement reflects the revenues and direct operating
expenses of the Lobo Properties as described in Note 1 and is not intended to be
a complete presentation of the financial position, results of operations or cash
flows of the Lobo Properties.

In our opinion, the financial statement referred to above presents fairly, in
all material respects, the revenues and direct operating expenses of the Lobo
Properties as described in Note 1 for the year ended December 31, 1995 and the
seven-month period ended July 31, 1996 in conformity with generally accepted
accounting principles.

COOPERS & LYBRAND L.L.P.

Houston, Texas
March 27, 1998

F-46
<PAGE> 139

THE LOBO PROPERTIES
STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES
(In thousands)

<TABLE>
<CAPTION>
SEVEN MONTHS
YEAR ENDED ENDED
DECEMBER 31, JULY 31,
1995 1996
------------ ------------
<S> <C> <C>
Revenues .............................................. $ 6,661 $ 4,954
Direct operating expenses ............................. (974) (651)
------------ ------------

Excess of revenues over direct operating expenses ..... $ 5,687 $ 4,303
============ ============
</TABLE>

The accompanying notes are an integral part of this financial statement.

F-47
<PAGE> 140

THE LOBO PROPERTIES
NOTES TO FINANCIAL STATEMENT

1. BASIS OF PRESENTATION:

The accompanying financial statement reflects the revenues and direct
operating expenses relating to certain oil and gas properties located
in South Texas (the "Lobo Properties").

The historical financial statements reflecting financial position,
results of operations and cash flows required by generally accepted
accounting principles are not presented, as such information is neither
readily available on an individual property basis nor meaningful for
the properties. During the periods presented, the Lobo Properties were
not accounted for as a separate entity. This financial statement does
not include depreciation, depletion and amortization, general and
administrative, interest or federal income tax expenses. Accordingly,
the accompanying financial statement is not intended to represent the
financial position, results of operations or cash flows in conformity
with generally accepted accounting principles. This financial statement
may not be representative of future operations.

F-48
<PAGE> 141

THE LOBO PROPERTIES
SUPPLEMENTARY FINANCIAL INFORMATION
SUPPLEMENTARY OIL AND GAS DISCLOSURES (UNAUDITED)

OIL AND GAS RESERVE QUANTITIES

Users of this information should be aware that the process of estimating
quantities of "proved" and "proved developed" natural gas and crude oil reserves
is very complex, requiring significant subjective decisions in the evaluation of
all available geological, engineering and economic data for each reservoir. The
data for a given reservoir may also change substantially over time as a result
of numerous factors including, but not limited to, additional development
activity, evolving production history and continual reassessment of the
viability of production under varying economic conditions. Consequently,
material revisions to existing reserve estimates occur from time to time.
Although every reasonable effort is made to ensure that reserve estimates
reported represent the most accurate assessments possible, the significance of
the subjective decisions required and variances in available data for various
reservoirs make these estimates generally less precise than other estimates
presented in connection with financial statement disclosures.

Proved reserves are estimated quantities of natural gas, crude oil and
condensate that 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 proved
reserves that can be expected to be recovered through existing wells with
existing economic and operating methods.

ESTIMATED NET QUANTITIES OF OIL AND GAS RESERVES ATTRIBUTED TO THE 1996 LOBO
ACQUISITION

The following table sets forth the Company's net proved reserves, including the
changes therein, and proved developed reserves (all within the United States)
for the year ended December 31, 1995 and the seven months ended July 31, 1996:

F-49
<PAGE> 142

<TABLE>
<CAPTION>
CRUDE OIL NATURAL GAS
(MBbl) (MMcf)
--------- -----------
<S> <C> <C>
Proved developed and undeveloped reserves:
January 1, 1995 .................................... 217 40,601
Revision of previous estimates...................
Extensions, discoveries and other additions......
Production ...................................... (21) (2,925)
--------- -----------
December 31, 1995 .................................. 196 37,676
Revision of previous estimates...................
Extensions, discoveries and other additions......
Production ...................................... (8) (1,416)
--------- -----------
July 31, 1996 ...................................... 188 36,260
========= ===========
Proved developed reserves:
January 1, 1995 .................................... 89 14,981
December 31, 1995 .................................. 68 12,056
July 31, 1996 ...................................... 60 10,639
</TABLE>

STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES

SFAS No. 69 prescribes guidelines for computing a standardized measure of future
net cash flows and changes therein relating to estimated proved reserves. The
Company has followed these guidelines which are briefly discussed below.

The assumptions used to compute the standardized measure are those prescribed by
the Financial Accounting Standards Board and, as such do not necessarily reflect
the Company's expectations of actual revenues to be derived from those reserves
nor their present worth. The limitations inherent in the reserve quantity
estimation process, as discussed previously, are equally applicable to the
standardized measure computations since these estimates are the basis for the
valuation process.

F-50

<PAGE> 143

The standardized measure of discounted future net cash flows relating to proved
oil and gas reserves attributed to the Lobo Properties is as follows (in
thousands):

<TABLE>
<CAPTION>
SEVEN MONTHS
YEAR ENDED ENDED
DECEMBER 31, JULY 31,
1995 1996
------------ ------------
<S> <C> <C>
Future cash inflows ....................................................... $ 74,510 $ 83,952
Less related future:
Production costs ....................................................... (18,181) (17,388)
Development costs ...................................................... (12,601) (12,601)
Income tax expense ..................................................... (11,105) (14,687)
------------ ------------
Future net cash flows ..................................................... 32,623 39,276
10% annual discount for estimated timing of cash flows .................... (11,419) (13,747)
------------ ------------
Standardized measure of discounted future net cash flows
for proved reserves .................................................... $ 21,204 $ 25,529
============ ============
</TABLE>

A summary of the changes in the standardized measure of discounted future net
cash flows applicable to proved oil and gas reserves is as follows (in
thousands):

<TABLE>
<CAPTION>
SEVEN MONTHS
YEAR ENDED ENDED
DECEMBER 31, JULY 31,
1995 1996
------------ ------------
<S> <C> <C>
Beginning of the period ........................................................ $ 18,391 $ 21,204
------------ ------------
Revisions of previous estimates:
Changes in prices and costs ................................................. 8,379 7,400
Changes in quantities........................................................
Changes in future development costs..........................................
Development costs incurred during the period....................................
Additions to proved reserves resulting from extensions and discoveries,
less related costs...........................................................
Accretion of discount .......................................................... 2,410 2,920
Sales of oil and gas, net of production costs .................................. (5,687) (4,303)
Net change in income taxes ..................................................... (2,289) (1,692)
Production timing and other.....................................................
------------ ------------
Net increase ................................................................... 2,813 4,325
------------ ------------
End of the period .............................................................. $ 21,204 $ 25,529
============ ============
</TABLE>

F-51
<PAGE> 144
PART II

INFORMATION NOT REQUIRED IN PROSPECTUS

ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS.

Article 2.02-1 of the Texas Business Corporation Act (the "TBCA") permits
the Company, in certain circumstances, to indemnify any present or former
director, officer, employee or agent of the Company against judgments,
penalties, fines, settlements and reasonable expenses incurred in connection
with a proceeding in which any such person was, is or is threatened to be, made
a party by reason of holding such office or position, but only to a limited
extent for obligations resulting from a proceeding in which the person is found
liable on the basis that a personal benefit was improperly received or in
circumstances in which the person is found liable in a derivative suit brought
on behalf of the Company.

The Articles of Incorporation of the Company (the "Articles of
Incorporation") provide that a director of the Company is not liable to the
Company or its shareholders for damages for an act or omission made in the
director's capacity as a director, except for (a) a breach of the director's
duty of loyalty to the Company or its shareholders; (b) an act or omission not
in good faith that involves intentional misconduct or a knowing violation of the
law; (c) a transaction from which the director received an improper benefit,
whether or not the benefit resulted from an action taken within the scope of the
director's office; (d) an act or omission for which the liability of a director
is expressly provided by statute; or (e) an act related to an unlawful stock
repurchase or payment of dividend. The Articles of Incorporation further
provide that a director, officer, or member of a committee shall not be liable
for acts, if the TBCA excuses such persons from liability.

The Company's Bylaws provide that the Company may indemnify any person who
was, is or is threatened to be made a named defendant or respondent in any
proceeding because the person is or was a director only if it is found that such
person (a) conducted him or herself in good faith; (b) reasonably believed (i)
in the case of conduct in an official capacity as a director of the Company,
that the conduct was in the Company's best interests, and (ii) in all other
cases, that the conduct was at least not opposed to the Company's best
interests; and (c) in the case of any criminal proceeding, had no reasonable
cause to believe the conduct was unlawful. A director may not be indemnified
for a proceeding in which he or she shall have been found liable for willful
or intentional misconduct in the performance of such director's duty to the
Company, however if such director is found liable on the basis that personal
benefit was improperly received by him or her, or in which the director is found
liable to the Company, that person may be indemnified for reasonable expenses
actually incurred.

Before the Company indemnifies a director, authorization must be made by
the Board of Directors by a majority vote of directors who are not named
defendants or respondents in the proceeding; if such quorum cannot be obtained,
then by a majority vote of a committee of the Board of Directors, which shall
consist solely of two or more directors who are not named defendants or
respondents in the proceeding, or by special legal counsel, or by the
shareholders. If a director wishes to challenge a decision made by the
preceding procedure, such director may apply to a court of competent
jurisdiction. If that court determines that the director is fairly and
reasonably entitled to indemnification in view of all the relevant
circumstances, whether or not such director has met the standard of conduct or
has been found liable as set forth above, the court may order such
indemnification as the court determines is proper and equitable.

The Bylaws mandate that a director who has been wholly successful, on the
merits or otherwise, in the defense of any proceeding in which the director is a
party because he or she is or was a director, shall be indemnified by the
Company against reasonable expenses incurred by the director in connection with
the proceeding.

II-1
<PAGE> 145

Pursuant to the Company's Bylaws, reasonable expenses incurred by a
director, who was, is, or is threatened to be made a named defendant or
respondent to a proceeding may be paid or reimbursed by the Company in advance
of the final disposition of such proceeding and without the determination
specified above, after receipt by the Company of a written affirmation by the
director of such director's good faith belief that he or she has met the
standard of conduct necessary for indemnification by the Company as authorized
in the Bylaws, and a written undertaking by or on behalf of the director to
repay the amount paid or reimbursed if it shall ultimately be determined that
such director has not met that standard, or if it is ultimately determined that
indemnification of the director against expenses incurred by him or her in
connection with that proceeding is prohibited by the Bylaws. The written
undertaking required above must be an unlimited general obligation of the
director but need not be secured and may be accepted without reference to
financial ability to make repayment. Any indemnification of, or advance of
expenses to a director in accordance with the Company's Bylaws must be reported
in writing to the shareholders with or before the notice or waiver of notice of
the next shareholders' meeting or with or before the next submission to
shareholders of a consent to action without a meeting pursuant to Section A,
Article 9.10 of the TBCA, and in any case, within the 12-month period
immediately following the date of the indemnification or advance.

The indemnification provided by the Company's Bylaws is not deemed
exclusive of any other rights to which those indemnified may be entitled under
any statute, including, but not limited to, Article 2.02-1 of the TBCA, any
agreement, insurance policy, vote of shareholders or disinterested directors or
otherwise, both as to action in their official capacity and as to action in
another capacity while holding such office, and shall continue as to a person
who has ceased to be a director, officer, employee or agent and shall inure to
the benefit of the heirs, executors and administrators of such a person;
provided, however, any such provision must be consistent with the Company's
Bylaws and the Company's Articles of Incorporation.

The Company's Bylaws provide that an officer of the Company and persons
who are not or were not officers, employees or agents of the Company but who
are or were serving at the request of the Company as a director, officer,
partner, venturer, proprietor, trustee, employee, agent or similar functionary
of another foreign or domestic corporation, partnership or joint venture, sole
proprietorship, trust, other enterprise, or employee benefit plan shall, in
most cases, be indemnified as a director and shall be entitled to the same
extent as a director to seek indemnification pursuant to the Bylaws and that the
Company may indemnify and advance expenses to an officer, employee or agent of
the Company to the same extent that it may do so to directors, unless limited
by the Articles of Incorporation.

The Bylaws of the Company allow the Company to purchase and maintain
insurance or another arrangement on behalf of any person who is or was a
director, officer, employee or agent of the Company, or who is or as serving at
the request of the Company as a director, officer, partner, venturer,
proprietor, trustee, employee, agent or similar functionary of another foreign
or domestic corporation, partnership, joint venture, sole proprietorship, trust,
other enterprise or employee benefit plan, against any liability asserted
against such person and incurred by him or her in any such a capacity or arising
out of his or her status as such a person, whether or not the Company would have
the power to indemnify him or her against such liability under the provisions of
the TBCA or the Company's Bylaws. If the insurance or other arrangement is with
a person or entity that is not regularly engaged in the business of providing
insurance coverage, the insurance or arrangement may provide for a payment of a
liability with respect to which the Company would not have the power to
indemnify the person only if such coverage has been approved by the shareholders
of the Company. Without limiting the power of the Company to procure or
maintain any kind of insurance or other arrangement, a Company may, for the
benefit of persons

II-2
<PAGE> 146

indemnified by the Company, (a) create a trust fund, (b) establish any form of
self-insurance, (c) secure its indemnity obligation by grant of a security
interest or other lien on the assets of the Company, or (d) establish a letter
of credit, guaranty, or surety arrangement. The insurance or other arrangement
may be procured, maintained, or established within the Company or with any
insurer or other person deemed appropriate by the Board of Directors regardless
of whether all or part of the stock or other securities of the insurer or other
person are owned in whole or in part by the Company.

MHI has entered into Indemnity Agreements with each of the directors of
MHI (who also serve as the directors of the Company), pursuant to which MHI has
agreed to indemnify each director to the fullest extent permitted under the
TBCA. In addition, pursuant to the Indemnity Agreements, MHI shall advance
reasonable expenses incurred by each director under certain circumstances in
any proceeding in which each director was, is or is threatened to be named a
defendant.

II-3
<PAGE> 147
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.

(a)

<TABLE>
<CAPTION>
Exhibit
Number Description
------ -----------
<S> <C>
3.1* Articles of Incorporation of the Company.

3.2* By-Laws of the Company.

4.1* Purchase Agreement, dated as of April 30, 1998, by and among the Company, Michael Holdings,
Inc., Bear, Stearns & Co. Inc., Jefferies & Company, Inc. and Raymond James & Associates,
Inc.

4.2* Indenture, dated as of April 2, 1998, between the Company and State Street Bank and Trust
Company, as Trustee.

4.3* Registration Rights Agreement dated March 30, 1998, by and among the Company, Bear, Stearns
& Co. Inc, Jefferies & Company, Inc. and Raymond James & Associates, Inc.

5.1**** Opinion of Haynes and Boone, L.L.P.

10.1**** Michael Holdings, Inc. 1998 Stock Option Plan.

10.2** Employment Agreement dated April 1, 1998 between the Company and Glenn D. Hart.

10.3** Employment Agreement dated April 1, 1998 between the Company and Michael G. Farmar.

10.4** Employment Agreement dated April 1, 1998 between the Company and Jerry F. Holditch.

10.5* Purchase and Sale Agreement dated February 20, 1998 by and between the Company and Conoco
Inc.

10.6* Purchase and Sale Agreement dated February 5, 1998 by and between the Company and Enron Oil
and Gas Company.

10.7* Stock Purchase Warrant granted by Michael Holdings, Inc. to Cambrian Capital Partners,
L.P., dated April 2, 1998.

10.8* Form of Indemnification Agreement by and between the Company and its directors.

10.9* Assets Agreement dated April 20, 1998 by and between the Company and Mobil Exploration &
Producing U.S. Inc. acting as Agent for Mobil Producing Texas & New Mexico Inc.

10.10* Oil and Gas Lease dated April 20, 1998 by and between the Company and Mobil Producing Texas
& New Mexico Inc.

10.11* Warrant to Purchase Shares of Common Stock granted by Michael Holdings, Inc. to Dale L.
Schwartzhoff.

10.12* First Amended and Restated Shareholders Agreement of the Company.

10.13**** Credit Agreement dated May 15, 1998 among the Company,
Christiania and the lenders named therein.

10.14**** Master Commodity Swap Agreement dated May 15, 1998 between
Christiania and the Company.

10.15**** General Terms and Conditions Agreement dated November 6, 1996
between the Company and Upstream Energy Services, L.L.C.

12.1**** Statement regarding computation of ratio of earnings to fixed charges.

23.1**** Consent of Haynes and Boone, L.L.P. (included in Exhibit 5.1).

23.2**** Consent of Coopers & Lybrand L.L.P.

23.3**** Consent of Huddleston & Co., Inc.

23.4**** Consent of Mohajir & Associates, Inc.

25.1* Statement of Eligibility and Qualification on Form T-1 of Trustee.
</TABLE>

II-4
<PAGE> 148
<TABLE>
<S> <C>
27.1* Financial Data Schedule.

99.1*** Form of Letter of Transmittal.

99.2*** Form of Notice of Guaranteed Delivery.
</TABLE>

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

* Previously filed.

** Management compensation or incentive plan previously filed.

*** To be filed by amendment.

**** Filed herewith.

ITEM 22. UNDERTAKINGS.

The undersigned Registrant hereby undertakes:

(1) to file, during any period in which offers or sales are being made, a
post-effective amendment to this Registration Statement:

(i) to include any prospectus required by section 10(a)(3)
of the Securities Act of 1933 (the "Securities Act");

(ii) to reflect in the prospectus any facts or events arising
after the effective date of this Registration Statement (or the most
recent post-effective amendment hereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in this Registration Statement. Notwithstanding the foregoing, any
increase or decrease in volume of securities offered (if the total
dollar value of securities offered would not exceed that which was
registered) and any deviation from the low or high end of the
estimated maximum offering range may be reflected in the form of
prospectus filed with the Securities and Exchange Commission pursuant
to rule 424(b) if, in the aggregate, the changes in volume and price
represent no more than a 20% change in the maximum aggregate offering
price set forth in the "Calculation of Registration Fee" table in this
Registration Statement when it becomes effective;

(iii) to include any material information with respect to the
plan of distribution not previously disclosed in this Registration
Statement or any material change to such information in this
Registration Statement;

(2) that, for the purpose of determining any liability under the
Securities Act, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.

(3) to remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the termination
of the offering.

Insofar as indemnification for liabilities arising under the
Securities Act may be permitted to directors, officers and controlling persons
of the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the
Securities Act and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
Registrant of expenses incurred or paid by a director, officer or controlling
person of the Registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act and will be governed by the final adjudication of such issue.

The undersigned Registrant hereby undertakes to file an application
for the purpose of determining the eligibility of the trustee to act under
subsection (a) of Section 310 of the Trust Indenture Act in accordance with the
rules and regulations prescribed by the Commission under Section 305(b)(2) of
the Trust Indenture Act.

The undersigned Registrant hereby undertakes to respond to requests
for information that is incorporated by reference into the prospectus pursuant
to Items 4, 10(b), 11 or 13 of this Form, within one business day of receipt of
such request, and to send the incorporated documents by first class mail or
other equally prompt means. This includes information contained in documents
filed subsequent to the effective date of this Registration Statement through
the date of responding to the request.

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<PAGE> 149
The undersigned Registrant hereby undertakes to supply by means of a
post-effective amendment all information concerning a transaction, and the
company being acquired involved therein, that was not the subject of and
included in this Registration Statement when it became effective.

II-6

<PAGE> 150
SIGNATURES

Pursuant to the requirements of the Securities Act of 1933, as
amended, the Company has duly caused this Amendment No. 1 to Registration
Statement on Form S-4 to be signed on its behalf by the undersigned, thereunto
duly authorized, in the City of Houston, State of Texas, on the 26th day of
June, 1998.

MICHAEL PETROLEUM CORPORATION

By: /s/ MICHAEL G. FARMAR
-------------------------------------
Michael G. Farmar
President and Chief Operating Officer

Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities indicated on the 26th day of June, 1998.

NAME: CAPACITIES:
<S> <C>
/s/ GLENN D. HART* Chairman of the Board and Chief Executive Officer
------------------------------------ (Principal Executive Officer)
Glenn D. Hart

/s/ MICHAEL G. FARMAR* President, Chief Operating Officer and Director
------------------------------------
Michael G. Farmar

/s/ JERRY F. HOLDITCH* Vice President-Exploration and Director
------------------------------------
Jerry F. Holditch

/s/ ROBERT L.SWANSON* Vice President-Finance
------------------------------------ (Principal Accounting and Financial Officer)
Robert L. Swanson

/s/ JIM R. SMITH* Director
------------------------------------
Jim R. Smith

</TABLE>

II-7
<PAGE> 151

/s/ JACK I. TOMPKINS* Director
------------------------------------
Jack I. Tompkins

/s/ BRYANT H. PATTON* Director
------------------------------------
Bryant H. Patton

Michael G. Farmar, by signing his name hereto, does sign and execute
Amendment No. 1 to this Registration Statement on Form S-4 on behalf of each of
the above-named officers and directors of the Registrant on the 26th day of
June, 1998, pursuant to powers of attorneys executed on behalf of each of such
officers and directors, and filed with the Securities and Exchange Commission.

* /s/ MICHAEL G. FARMAR Attorney-in-Fact
------------------------------------
Michael G. Farmar

II-8
<PAGE> 152

INDEX TO EXHIBITS