MIDCOAST ENERGY RESOURCES INC, 424B1, 1996-08-13

MIDCOAST ENERGY RESOURCES INC
424B1, 1996-08-13
CRUDE PETROLEUM & NATURAL GAS

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<PAGE> 1

PROSPECTUS

1,000,000 Shares

[MIDCOAST ENERGY RESOURCES, INC. LOGO] MIDCOAST ENERGY RESOURCES, INC.

Common Stock

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

ALL OF THE SHARES OF COMMON STOCK OFFERED HEREBY (THE "COMMON STOCK") ARE BEING
SOLD BY THE COMPANY. PRIOR TO THIS OFFERING, THERE HAS BEEN NO PUBLIC
MARKET FOR THE COMMON STOCK. SEE "UNDERWRITING" FOR A DISCUSSION OF
THE FACTORS CONSIDERED IN DETERMINING THE OFFERING PRICE. THE
COMMON STOCK OF THE COMPANY HAS BEEN APPROVED FOR LISTING ON
THE AMERICAN STOCK EXCHANGE ("AMEX") UNDER THE SYMBOL
"MRS."

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

SEE "RISK FACTORS" ON PAGE 7 FOR CERTAIN INFORMATION
THAT SHOULD BE CONSIDERED BY
PROSPECTIVE INVESTORS.

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

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

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

<TABLE>
<CAPTION>
Underwriting
Price to Discounts and Proceeds to
Public Commissions(1) Company(2)
--------- -------------- -----------
<S> <C> <C> <C>
Per Share...................................... $10.00 $1.00 $9.00
Total(3)....................................... $10,000,000 $1,000,000 $9,000,000
</TABLE>

(1) Does not include additional compensation to Coleman and Company Securities,
Inc. (the "Representative") in the form of a non-accountable expense
allowance payable to the Representative. In addition, the Company has agreed
to indemnify the Underwriters against certain liabilities, including
liabilities under the Securities Act of 1933, as amended (the "Securities
Act"). See "Underwriting."

(2) Before deducting offering expenses payable by the Company, estimated at
$457,500, including the Representative's non-accountable expense allowance.

(3) The Company has granted the Underwriters a 30-day option to purchase up to
150,000 additional shares of Common Stock on the same terms as set forth
above for the purpose of covering over-allotments, if any. If the
Underwriters exercise such option in full, the total Price to Public,
Underwriting Discounts and Commissions, and Proceeds to Company will be
$11,500,000, $1,150,000, and $10,350,000, respectively. See "Underwriting."

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

The Common Stock is offered by the several Underwriters subject to prior
sale, when, as and if issued to and accepted by the Underwriters and on the
approval of certain legal matters by counsel for the Underwriters, and subject
to certain other conditions. It is expected that delivery of certificates
representing the securities will be made in New York, New York against payment
therefor on or about August 14, 1996.

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

COLEMAN AND COMPANY SECURITIES, INC.

DICKINSON & CO.

NOLAN SECURITIES CORPORATION

The date of this Prospectus is August 9, 1996

<PAGE> 2

IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK OF
THE COMPANY AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN
MARKET. SUCH TRANSACTIONS MAY BE EFFECTED IN THE AMERICAN STOCK EXCHANGE OR
OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.

AVAILABLE INFORMATION

The Company is subject to the information requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act") and, in accordance
therewith, files reports and other information with the Securities and Exchange
Commission (the "Commission"). Reports, proxy and information statements filed
by the Company with the Commission pursuant to the informational requirements of
the Exchange Act may be inspected and copied at the public reference facilities
maintained by the Commission, at Room 1024, Judiciary Plaza Building, 450 Fifth
Street, N.W., Washington, D.C. 20549, and the regional offices of the
Commission: Seven World Trade Center, Suite 1300, New York, New York 10048, and
at Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois
60661-2511. Copies of such material may be obtained at prescribed rates from the
Public Reference Section of the Commission at Room 1024, Judiciary Plaza
Building, 450 Fifth St., N.W. Washington, D.C. 20549. The Common Stock of the
Company has been approved for listing on the American Stock Exchange and its
reports and other Company information are available for inspection at the
offices of the American Stock Exchange, Inc., 86 Trinity Place, New York, New
York 10006-1881.

The Company has filed with the Commission a Registration Statement on Form
SB-2 (the "Registration Statement") under the Securities Act, with respect to
the Common Stock offered hereby. This Prospectus, filed as a part of the
Registration Statement, does not contain all the information set forth in the
Registration Statement and the exhibits and schedules thereto, certain portions
of which have been omitted in accordance with the rules and regulations of the
Commission. For further information with respect to the Company and the Common
Stock offered hereby, reference is made to the Registration Statement and to the
exhibits and schedules thereto, which may be inspected at the Commission's
offices without charge or copies of which may be obtained from the Commission
upon payment of the prescribed fees. Statements made in the Prospectus as to the
contents of any contract, agreement or document referred to are not necessarily
complete, and in each instance, reference is made to the copy of such contract
or other document filed as an exhibit to the Registration Statement, and each
such statement is qualified in its entirety by such reference.

The Company will provide its stockholders with annual reports containing
audited financial statements and interim quarterly reports containing unaudited
financial information. The Company will provide without charge to each person
who receives a copy of this Prospectus, upon written or oral request of such
person, a copy of any of the information that is incorporated by reference in
this Prospectus (not including exhibits to the information that is incorporated
by reference unless the exhibits are themselves specifically incorporated by
reference). Such request should be directed to: Midcoast Energy Resources, Inc.,
Attn: Dan C. Tutcher, 1100 Louisiana, Suite 2950, Houston, Texas 77002, (713)
650-8900.

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<PAGE> 3

PROSPECTUS SUMMARY

The following summary is qualified in its entirety by and should be read in
conjunction with the more detailed information and consolidated financial
statements and related notes appearing elsewhere in this Prospectus. Unless
otherwise indicated, all information in this Prospectus gives effect to a
4.460961 for 1 split in the Company's Common Stock was effected immediately
prior to the effective date of the Offering and assumes that the Underwriters'
over-allotment option is not exercised. For definitions of certain terms used in
this Prospectus see "Glossary."

THE COMPANY

The Company is a rapidly growing pipeline company primarily engaged in the
construction, acquisition, disposition, and operation of pipelines for
end-users, as well as the transmission and gathering of natural gas and crude
oil. Thirty-nine intrastate pipeline systems are owned or operated by the
Company in Alabama, Alaska, Kansas, Louisiana, Mississippi, New York, Oklahoma,
Tennessee and Texas, with 26 of the Company's pipelines being acquired or
constructed since June 1994. Natural gas marketing operations and, to a lesser
degree, oil and gas production supplement the Company's pipeline business. The
Company's principal growth and business strategy is to acquire or build
pipelines to serve the end-user market while also continuing to pursue
acquisition and divestiture opportunities in transmission and gathering of
natural gas, other hydrocarbons and nonhydrocarbon fluids or gases.

The natural gas industry has undergone dramatic change over the past decade
largely due to the course of deregulation by the federal government. This has
resulted in increased competition in the natural gas industry. The impact of
these changes has been particularly felt in the natural gas pipeline industry
over the last several years. The key part of this regulatory shift, to ensure a
more competitive natural gas market, was the implementation of the Federal
Energy Regulatory Commission's ("FERC") Order 636. This order generally opened
previously restricted access to interstate pipelines by requiring the operators
of such pipelines to "unbundle" their transportation services from their sales
services, allowing customers to choose their provider for such services as
gathering, storage, and transportation. This unbundling essentially eliminated
the pipeline's traditional merchant function and caused a major restructuring of
this relationship between the major interstate pipelines and their customers.
For the most part, regulators at the state level have followed the FERC's lead
and allowed increased competition with local distribution companies ("LDCs"),
and allowed the phenomenon of the construction of bypass pipelines to end-users.
In addition to the issuance of Order 636, the implementation of more stringent
environmental laws, such as the Clean Air Act of 1990 and the Energy Policy Act
of 1992, has also affected the overall demand for natural gas by encouraging the
use of cleaner burning fuels, such as natural gas. Accordingly, these regulatory
changes have impacted the growth in domestic consumption of natural gas which
has increased from approximately 16,200 billion cubic feet in 1986 to an
estimated 21,600 billion cubic feet in 1995. See "Business and
Properties -- Markets and Major Customers."

The Company believes that its experience in the strategic location, design,
engineering, construction and operation of pipelines, as well as in federal,
state and local regulatory matters involving pipelines, makes it well positioned
to continue to take full advantage of these changes in the natural gas industry,
primarily through aggressively pursuing the industrial end-user market by
acquiring and constructing new pipeline systems. The Company is currently one of
the few independent companies in the industry which has pursued supplying the
industrial end-user market by providing new pipeline connections to this market.
As more chemical and manufacturing companies seek alternative natural gas
suppliers other than their LDC's, the Company and its personnel will continue to
offer the expertise they have gained through their involvement in the regulatory
permitting, construction and operation of 15 end-user pipelines reaching
customers in six states. The Company will also continue to expand its current
market base by working with many of its existing customers, such as Mid-America
Pipeline Company ("Mapco"), a publicly traded company, Owens-Corning Fiberglas
Corporation ("Owens"), a publicly traded company, and Tyson Foods, Inc.
("Tyson"), a publicly traded company, to provide natural gas service to
additional facilities operated by these customers.

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<PAGE> 4

quickly increase their volumes with little capital expenditure should additional
demand develop in these areas. The Company also benefits from lower overhead
than major interstate carriers and LDCs and the resultant ability to offer
reduced rates which should allow it to compete effectively with entrenched LDCs
and gas transmission carriers for their existing and new end-user customers.

A secondary impact of these regulatory changes has been an overall
consolidation of the gathering and transmission pipeline segments in the
industry. These consolidations have resulted in increased opportunities for
pipeline acquisitions by the Company as major pipeline companies divest
themselves of pipeline systems only incidentally acquired by them in connection
with larger acquisitions or as a result of their divestitures of such pipeline
systems due to internal changes in their strategic focus. For example, in 1995
and 1996, the Company acquired ownership of, or interests in, 19 pipeline
systems, including gathering systems and transmission lines, from major pipeline
companies. Moreover, the Company's recent acquisitions of Magnolia Pipeline
Company ("Magnolia" or the "Magnolia System"), a former subsidiary of The
Williams Companies, Inc. ("Williams"), a publicly traded company, and Five Flags
Pipe Line Company ("Five Flags" or the "Five Flags System"), from an affiliate
of The Coastal Corporation ("Coastal"), a publicly traded company, the
acquisition, by an affiliate, of six pipeline systems from Seahawk Natural Gas
Company ("Seahawk"), a wholly-owned subsidiary of Tejas Power Corporation
("Tejas"), a publicly traded company, as well as the acquisition by the Company,
through its wholly-owned subsidiary, Magnolia, of ten pipeline systems from
Texas Southeastern Gas Gathering Company ("TSGGC") further illustrate the
existence of such opportunities in the market place and the Company's ability to
rapidly capitalize on them. Not only has the industry trend to consolidate
increased the availability of attractive acquisitions in the market place but
the overall consolidation in the industry has also presented the Company with
advantageous opportunities to sell pipeline systems which the Company owns, such
as the Five Flags System and the Tasco Cavasos System, which were divested by
the Company on favorable terms. The Company will continue to consider and
evaluate such divestiture opportunities as the Company receives favorable offers
for their existing systems or assets which are suited to other companys'
strategic focus. See "Business and Properties -- Pipeline Construction,
Acquisition and Disposition" and "Business and Properties -- Pipeline Systems."

The Company's principal executive offices are located at Suite 2950, 1100
Louisiana Street, Houston, Texas 77002, and its telephone number and fax numbers
are (713) 650-8900 and (713) 650-3232, respectively.

THE OFFERING

SECURITIES OFFERED...................... 1,000,000 shares of Common Stock

COMMON STOCK OUTSTANDING

PRIOR TO THE OFFERING................. 1,500,000

AFTER THE OFFERING.................... 2,500,000(1)

USE OF PROCEEDS......................... The Company anticipates that the
net proceeds of this offering (the
"Offering") will be used for: (i)
the purchase of the Olmitos System,
(ii) the repayment of interim
financing incurred in connection
with recent acquisitions, (iii) the
repayment of certain outstanding
indebtedness, and (iv) working
capital including the future
acquisition of pipelines and
related assets. See "Use of
Proceeds."

AMEX Symbol............................. MRS
- ---------------

(1) Does not include (i) 100,000 shares of Common Stock issuable upon the
exercise of the Representative's Warrants, (ii) 34,349 shares issuable upon
exercise of outstanding warrants to purchase Common Stock exercisable at
$7.85 per share ("Outstanding Warrants"), (iii) the issuance of up to
200,000 shares of Common Stock reserved for issuance in connection with the
Company's stock option plan, or (iv) the issuance of shares of Common Stock
on exercise of the over-allotment option granted to the Underwriters. See
"Management -- Executive Compensation," "Description of
Securities -- Outstanding Warrants," and "Underwriting."

4
<PAGE> 5

SUMMARY CONSOLIDATED FINANCIAL AND OPERATING DATA(1)

<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH
FOR THE YEAR ENDED DECEMBER 31, 31,
----------------------------------------- ------------------------
1993 1994 1995 1995 1996
----------- ----------- ----------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Statements of Operations Data:
Revenues:
Gas marketing,
transportation and
production sales.......... $13,029,421 $14,908,124 $11,529,440 $2,904,840 $5,141,266
Sale of pipeline............ 2,400,000 60,586 4,092,850 -- 22,500
Refined products revenue.... 2,327,258 -- -- -- --
----------- ----------- ----------- ---------- ----------
Total.................. 17,756,679 14,968,710 15,622,290 2,904,840 5,163,766
----------- ----------- ----------- ---------- ----------
Cost and Expenses:
Cost of natural gas,
transportation and
production................ 11,796,711 13,462,248 9,907,337 2,502,063 4,326,969
Cost of pipeline sold....... 1,244,217 48,606 1,909,624 -- 2,153
Cost of refined products.... 2,289,103 -- -- -- --
Depreciation, depletion and
amortization.............. 264,249 259,440 451,551 85,320 136,328
General and
administrative............ 888,965 849,002 784,653 181,809 190,720
----------- ----------- ----------- ---------- ----------
Total.................. 16,483,245 14,619,296 13,053,165 2,769,192 4,656,170
----------- ----------- ----------- ---------- ----------
Operating Income............... 1,273,434 349,414 2,569,125 135,648 507,596
Non-operating Expense.......... 455,635 201,689 375,724 70,259 133,914
----------- ----------- ----------- ---------- ----------
Income before income taxes and
cumulative effect of a
change in accounting
principle................... 817,799 147,725 2,193,401 65,389 373,682
Provision for income
taxes(6).................... (52,833) -- -- -- --
Cumulative effect of a change
in accounting
principle(2)................ -- (120,936) -- -- --
----------- ----------- ----------- ---------- ----------
Net Income..................... $ 764,966 $ 26,789 $ 2,193,401 $ 65,389 $ 373,682
=========== =========== =========== ========== ==========
5% Cumulative Preferred Stock
Dividends................... (59,183) (59,183) (59,183) (14,593) (14,755)
----------- ----------- ----------- ---------- ----------
Net Income (Loss) applicable to
Common Shareholders......... $ 705,783 $ (32,394) $ 2,134,218 $ 50,796 $ 358,927
=========== =========== =========== ========== ==========
Net Income (Loss) per common
share(3):
Operations..................... $ 0.52 $ 0.07 $ 1.48 $ 0.04 $ .24
Change in accounting
principle................... -- (0.09) -- -- --
----------- ----------- ----------- ---------- ----------
Net Income per common share.... $ 0.52 $ (0.02) $ 1.48 $ 0.04 $ .24
=========== =========== =========== ========== ==========
Weighted average number of
common shares
outstanding(3).............. 1,359,839 1,390,553 1,439,606 1,402,334 1,465,827
=========== =========== =========== ========== ==========
</TABLE>

5
<PAGE> 6
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31, 1996
---------------------------------------- -----------------------------
1993 1994 1995 ACTUAL AS ADJUSTED(4)
---------- ----------- ----------- ----------- --------------
<S> <C> <C> <C> <C> <C>
Balance Sheet Data:
Working capital (deficit).... $ (392,738) $(1,104,829) $ (98,870) $ (441,129) $ 5,083,556
Total assets................. $6,438,791 $ 7,272,330 $11,088,588 $11,887,041 $ 17,934,401
Long-term debt, excluding
current portion(5)........ $ 669,560 $ 1,780,771 $ 3,960,769 $ 3,442,410 $ 1,749,961
Shareholders' equity(6)...... $2,028,809 $ 2,006,555 $ 4,157,436 $ 4,522,363 $ 12,946,497
</TABLE>

<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
-------------------------------------- ----------
1993 1994 1995 1996
--------- --------- ---------- ----------
<S> <C> <C> <C> <C>
Operating Data:
Miles of pipeline (end of period)(7).... 39.0 51.1 162.1 247.2
Volumes transported and sold, net
(MMBtu)(8)........................... 5,077,538 9,577,787 14,602,371 10,303,579(9)
Number of operating systems
(end of period)...................... 15 20 21 27
</TABLE>

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

(1) The summary historical consolidated financial information for the fiscal
years ended December 31, 1993, 1994 and 1995, and for the three month
periods ended March 31, 1995 and 1996, set forth above is derived from and
should be read in conjunction with the Company's Consolidated Financial
Statements and accompanying notes appearing elsewhere in this Prospectus.
The data for the three month periods ended March 31, 1995 and 1996 are
derived from and qualified by reference to the Company's consolidated
financial statements appearing elsewhere herein and, in the opinion of
management of the Company includes all adjustments that are of a normal
recurring nature and necessary for a fair presentation. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
and "Consolidated Financial Statements."

(2) See Note 3 to the Company's "Consolidated Financial Statements."

(3) Share amounts have been adjusted for the 4.460961 to 1 stock split was
completed prior to the effective date of the Offering.

(4) As adjusted gives effect to the Offering, the 4.460961 to 1 stock split,
the application of the net proceeds of the Offering, and the redemption of
the Company's 5% cumulative preferred stock for $118,367 in May 1996, but
excludes the exercise of the Underwriter's over-allotment option. See "Use
of Proceeds," "Capitalization," and "Underwriting."

(5) See Note 7 to the Company's "Consolidated Financial Statements."

(6) As of December 31, 1995, the Company had net operating loss ("NOL")
carryforwards of approximately $15,071,000 expiring in various amounts from
1999 through 2008, and investment tax credit ("ITC") carryforwards of
approximately $354,000 which principally expire in 1997. These
carryforwards were generated by the Company's predecessor. The Company
believes, however, that the amount of the NOL carryforwards will be reduced
after consideration of the income generated by the Company for the tax year
ending April 30, 1996. The ability of the Company to utilize the
carryforwards is dependent upon the Company generating sufficient taxable
income and avoiding limitations on the use of such carryforwards due to a
change in stockholder control under the Internal Revenue Code. See "Risk
Factors -- Limits of Use of Net Operating Losses and Credit Carryovers."

(7) Includes all of the miles of pipeline of the various pipelines that the
Company owns an interest in or operates. However, such amounts do not
include the ten systems comprising 113 miles of pipeline acquired by the
Company through its wholly-owned subsidiary, Magnolia, from TSGGC or the
Company's two systems presently under construction.

(8) Includes only volumes transported or sold through the Company's pipeline
systems since the Company's ownership of any system. Transported oil
volumes have been converted to an equivalent unit basis which is 6 MMBtu to
1 bbl, consistent with industry standards.

(9) Includes only volumes transported or sold through the Company's pipeline
systems for the three month period ended March 31, 1996.

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<PAGE> 7

RISK FACTORS

In addition to the other information contained in this Prospectus,
prospective investors should carefully consider each of the following risk
factors in evaluating an investment in the Company.

Dependence on Key Systems. The Company derived over 32%, 18% and 14%,
respectively, of its operating income for the three month period ended March 31,
1996 from the Magnolia System, Lake Charles System and Cook Inlet System. The
loss of operating income from any one of these systems for any appreciable
period, whether or not from insured causes, could have an immediate and adverse
effect on the Company's business and financial condition. See "Business and
Properties -- Pipeline Systems."

Integration of Acquired and Constructed Pipelines. The Company has
experienced substantial growth since June 1994 due to its acquisition and
construction of a number of pipelines. The Company's growth strategy is capital
intensive in nature and depends in large measure on its ability to successfully
acquire or construct additional pipeline systems. The financial position and
results of operations of the Company will depend to a large extent on the
Company's ability to integrate these acquired operations effectively and to
realize expected efficiencies and economies of scale. There can be no assurance
that the Company's efforts to integrate these acquired operations will be
effective, or that expected efficiencies and economies of scale will be
realized. Failure to effectively integrate acquired operations could have a
material adverse effect on the Company's future results of operations. As the
Company continues to pursue its acquisition and construction strategy in the
future, its financial position and results of operations may fluctuate
significantly from period to period. See "Business and Properties -- Business
Growth and Strategy" and "Business and Properties -- Pipeline Construction,
Acquisition and Disposition."

Reliance on Officers, Directors and Key Employees. The Company is dependent
on the services of certain key management personnel, the loss of whose services
could have a material adverse effect on the Company. In particular, the Company
depends on the services of Dan C. Tutcher, Chairman of the Board, Chief
Executive Officer and President, Richard A. Robert, Chief Financial Officer and
Treasurer, and I. J. Berthelot, II, Vice President of Operations and Chief
Engineer, with whom the Company has employment contracts. There can be no
assurance that any of these persons will remain employed by the Company, or that
these persons will not participate in businesses that compete with the Company
in the future. In seeking qualified personnel, the Company will be required to
compete with companies having greater financial and other resources than the
Company. Since the Company's future success will be dependent on its ability to
attract and retain qualified personnel, the inability to do so could have a
materially adverse affect on its business. See "Management."

Limits of Use of Net Operating Losses and Credit Carryovers. As of December
31, 1995, the Company had NOL carryforwards of approximately $15,071,000
expiring in various amounts from 1999 through 2008, and ITC carryforwards of
approximately $354,000 which principally expire in 1997. These NOLs were
generated by the Company's predecessor. The Company believes, however, that the
amount of the NOL carryforwards will be reduced after consideration of the
income generated by the Company for the tax year ending April 30, 1996. The
ability of the Company to utilize the carryforwards is dependent upon the
Company generating sufficient taxable income and avoiding limitations on the use
of such carryforwards due to a change in stockholder control under the Internal
Revenue Code. The Offering is not expected to result in a limitation on the
Company's annual use of its NOL and credit carryovers under Section 382 of the
Internal Revenue Code of 1986, as amended (the "Code"). However, the Company's
future issuances of equity securities beyond the requirements of the Offering
could trigger such a limitation, which might allow all or a material part of
such carryovers to expire unused. Thus, there is no assurance that the Company
will be able to utilize its NOL and credit carryovers prior to expiration, due
to the lack of sufficient income to absorb such carryovers, a future limitation
under Section 382 of the Code, or both.

Hazards and Operating Risks of Pipeline Operations. The Company's
operations are subject to the many hazards inherent in the natural gas
transmission industry. These include damage to pipelines, related equipment and
surrounding properties caused by hurricanes, floods, fires and other acts of
God, inadvertent damage from construction and farm equipment, leakage of natural
gas and other hydrocarbons, fires and explosions, and other hazards that could
also result in personal injury and loss of life, pollution and suspension

7
<PAGE> 8

of operations. The Company maintains such insurance protection as it believes to
be adequate against normal risks in its operations. There is no assurance that
any such insurance protection will be sufficient or effective under all
circumstances or against all hazards to which the Company may be subject. The
occurrence of a significant event not fully insured against could materially and
adversely affect the Company's operations and financial condition. No assurance
can be given that the Company will be able to maintain adequate insurance in the
future at rates it considers reasonable. See "Business and
Properties -- Insurance." Should catastrophic conditions occur which interrupt
delivery of gas for any reason, such occurrence could have a material impact on
the profitability of the Company's operations. See "Business and
Properties -- Markets and Major Customers."

Risks of Inadequate Gas Supplies. The Company has historically purchased
substantially all of its gas from unaffiliated third parties. These purchase
contracts may be affected by factors beyond both the Company's and the gas
suppliers' control such as capacity restraints, temporary regional supply
shortages, and with regard to its gathering systems, other parties having
control over the drilling of new wells, inability of wells to deliver gas at
required pipeline quality and pressure, and depletion of reserves. The future
performance of the Company will depend to a great extent on the throughput
levels achieved by the Company with respect to its existing pipelines and the
pipelines acquired or constructed by it in the future. In order to maintain its
throughput at currently adequate levels, the Company must access new natural gas
supplies to offset the natural decline in reserves as such supplies are
utilized. See "Business and Properties -- Gas Supply."

Risks of Competition from Larger Competitors. The Company's competitors
include major integrated oil companies, affiliates of major interstate and
intrastate pipelines and national and local natural gas gatherers, brokers,
marketers and distributors. Many of these competitors, particularly those
affiliated with major integrated oil and interstate and intrastate pipeline
companies, have financial resources substantially greater than those of the
Company and have access to supplies of natural gas substantially greater than
those available to the Company. See "Business and Properties -- Competition."

Risk of Adverse Price Changes or Gas Imbalancing on Gas Marketing
Operations. The Company buys natural gas on the spot market for customers served
by pipeline systems owned by the Company and for sales to those customers.
Generally, gas is purchased under contracts that contain terms allowing prices
to be determined by prevailing market conditions. Concurrently, the Company
resells the gas at higher prices under sales contracts which are compatible as
to term, price escalation, renegotiation and other material matters. The Company
earns the difference between the gas purchase price it pays and the sales price
it receives. Gas marketing is characterized by a high degree of competition and
narrow margins. The profitability of the natural gas marketing operations of the
Company depends in large part on the ability of the Company's management to
assess and respond to changing market conditions in negotiating these natural
gas purchase and sales agreements. As a consequence of the increase in
competition in the industry and volatility of natural gas prices there has been
a reluctance of end-users to enter into long-term purchase contracts. Moreover,
consumers have shown an increased willingness to switch fuels between gas and
oil in response to relative price fluctuations in the market. To adapt there has
been a growing use of gas purchase contracts that require price adjustments in
response to market conditions. The inability of management to respond
appropriately to changing market conditions could have a negative effect on the
Company's profitability. The Company's gas marketing activities which utilize
third-party transporters also exposes the Company to economic risk resulting
from imbalances or nominated volume discrepancies which can result either in
penalties having a negative impact on earnings or a transaction gain, depending
on how and when imbalances are corrected. See "Business and
Properties -- Markets and Major Customers."

Fluctuations in Demand Due to Weather. The Company has had quarter to
quarter fluctuations in its results in the past due to the fact that the
Company's natural gas sales and transportation fees can be affected by changes
in demand for natural gas primarily because of weather. There can be no
assurances that the Company's efforts to minimize such effects will have any
impact on future quarter to quarter fluctuations occurring from time to time due
to changes in demand resulting from adverse weather conditions. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operation -- General."

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<PAGE> 9

Broad Discretion in Application of Proceeds. Approximately $4,993,000 (58%)
of the estimated net proceeds from this Offering has been allocated to working
capital. Accordingly, the Company's management will have broad discretion as to
the application of such proceeds.

Risks of Changes in Government Regulation and Continuing Industry
Transition. Recent changes in the regulatory environment for the natural gas
transportation industry, most notably FERC Order 636, have profoundly affected
the economics and structure of the natural gas transmission industry, and may
continue to do so in the future. There can be no assurance that such evolution
will ultimately result in greater opportunities for smaller gas pipeline
companies. There can be no assurance that such regulations will be effective in
meeting their goals of creating a level playing field for all natural gas buyers
and sellers. FERC could issue new regulations which may subject the Company or
some portion of the Company's business activity to FERC regulation or adversely
affect the conduct of the Company's business. The construction, operation,
maintenance and safety of the Company's pipelines are typically regulated by the
state regulatory commissions with jurisdictional authority. As in the case of
potential federal regulatory changes, there can be no assurances that state
regulatory measures will not adversely affect the Company's business and
financial condition. In such events, the state's regulatory authorities could
temporarily suspend or hinder operations in a particular state, depending on the
authority's view of its jurisdiction. Regulators at the state level have
generally followed the FERC's lead by allowing increased competition behind
LDCs. There can be no assurance that every state will follow this practice
without the pressure of litigation. See "Business and Properties -- Government
Regulation."

Risks of Liabilities and Costs Under Environmental Laws. The Company is
subject to federal, state and local laws, regulations and ordinances relating to
the environment, health and safety, waste management, and transportation of
hydrocarbons and chemical products. Various governmental authorities have the
power to enforce compliance with these regulations and the permits issued
pursuant to them, and violators are subject to civil and criminal penalties,
including civil fines, injunctions, or both. Private parties, including the
owners of property through which the Company's pipelines pass, may also have the
right to pursue legal actions to enforce compliance and seek damages for
noncompliance with environmental laws and regulations. The Company will make
expenditures in connection with environmental matters as part of its normal
operations and capital expenditures and the possibility exists that stricter
laws, regulations or enforcement policies could significantly increase the
Company's compliance costs and the cost of any remediation which may become
necessary. There is inherent risk of the incurrence of environmental costs and
liabilities in the Company's business due to its handling of oil, gas and
petroleum products. There can be no assurance that material environmental costs
and liabilities will not be incurred by the Company. Furthermore, there can be
no assurance that the Company's environmental impairment insurance will provide
sufficient coverage in the event an environmental claim were made against the
Company. An uninsured or underinsured claim of sufficient magnitude could have a
material adverse effect on the Company's financial condition. See "Business and
Properties -- Government Regulation" and "Business and Properties -- Insurance."

Absence of Dividends. The Company has historically paid dividends on its 5%
cumulative preferred stock which was redeemed in May 1996, but has not paid
dividends on its Common Stock since its inception. The Board of Directors (the
"Board") intends to declare a dividend of $.08 per share of Common Stock for the
first fiscal quarter after the completion of the Offering. It is the Company's
policy to continue to pay a quarterly dividend, however, the ability of the
Company to pay regular quarterly dividends will depend on the earnings and
financial condition of the Company, and payment of future dividends may be
restricted by the Company's financial condition and the Company's credit
agreements. Therefore, there can be no assurances that future dividends will be
paid. Under Magnolia's revolving line of credit with Compass Bank, N.A.
("Compass"), Magnolia is precluded from declaring or making dividend payments
unless consent is obtained by Compass. See "Dividend Policy," and "Description
of Securities -- Common Stock."

No Assurance of Market for Common Stock; Arbitrary Offering Price. There
has been no public market for the Common Stock before this Offering. The Common
Stock of the Company has been approved for listing on AMEX under the symbol
"MRS." There can be no assurance as to the liquidity of any markets that may
develop for the Common Stock, or the price at which holders may be able to sell
Common Stock. The public offering price of the Common Stock was determined by
negotiations between the Company and the

9
<PAGE> 10

Representative and may not be indicative of the prices that may prevail in the
public market. The factors considered in determining the public offering price
and such terms, in addition to prevailing market conditions, were the history of
and prospects for the industry in which the Company competes, the market for the
Company's Common Stock, an assessment of the Company's management, the prospects
of the Company, and the demand for similar securities of comparable companies.
See "Market for the Company's Common Stock" and "Underwriting."

Control by Certain Stockholders. Prior to the Offering, approximately 86.4%
of the Common Stock is owned by members of the Board, officers or their
affiliates. All such stockholders, if they vote together, will likely be able to
influence the outcome of all matters submitted to a vote of the Company's
stockholders. See "Description of Securities," "Potential Adverse Effect of
Shares Eligible for Future Sale on Price of Common Stock" and "Underwriting."

Potential Adverse Effect of Issuance of Representative's Warrants and
Potential Adverse Effect on Future Financing. The Company will sell to the
Representative, for nominal consideration, warrants to purchase up to an amount
equal to 10% of the total number of shares of Common Stock sold in this Offering
for a period of three years, commencing 24 months from the effective date of the
Registration Statement, at an exercise price of 142% of the public offering
price per share of Common Stock. The holders of the Representative's Warrants
are likely to exercise or convert them at a time when the Company would be able
to obtain additional equity capital on terms more favorable than those provided
by such Representative's Warrants. The Representative's Warrants also grant to
the holders certain demand registration rights and piggyback registration
rights. These obligations may hinder the Company's ability to obtain future
financing. See "Underwriting."

Potential Adverse Effect of Shares Eligible for Future Sale on Price of
Common Stock. A substantial number of outstanding shares of Common Stock and
shares of Common stock issuable upon exercise of Outstanding Warrants will
become eligible for future sale in the public market at prescribed times. Sales
of significant amounts of Common Stock in the public market following this
Offering could adversely affect prevailing market prices. Holders of
approximately 92% of the outstanding Common Stock and the Company (including all
officers and directors of the Company), have agreed not to sell such shares for
18 months after the date of this Prospectus. Upon the expiration of such
agreements, approximately 1,352,530 shares will be eligible for sale pursuant to
Rule 144 under the Securities Act and 32,697 and 4,014 shares will be eligible
for sale pursuant to Rule 144 after 24 and 30 months, respectively, from the
date of this Prospectus. Certain holders of Common Stock also have piggyback
registration rights, subject to underwriters' limitations, including two
principal stockholders who will be released from such lockup agreements if the
Company files a registration statement, (other than a registration statement on
Form S-4 or Form S-8), in connection with an underwritten offering within 18
months of this Offering. Additionally, holders of 110,759 shares of Common Stock
not subject to such lockup agreements may be sold pursuant to Rule 144 or 144(k)
under the Securities Act. See "Description of Securities," "Shares Eligible for
Future Sale" and "Underwriting."

Dilution. Purchasers of shares of Common Stock offered hereby will incur
immediate and substantial dilution of $4.78 per share in the net tangible book
value of their investments. See "Dilution."

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

10
<PAGE> 11

USE OF PROCEEDS

The estimated net proceeds to the Company after deducting underwriting
commissions and the other expenses of this Offering will be approximately
$8,543,000 (or $9,866,000 if the Underwriter's over-allotment option is
exercised in full). The Company expects to apply these proceeds approximately as
follows:

<TABLE>
<CAPTION>
APPLICATION AMOUNT
----------- ------
<S> <C>
Purchase of Olmitos System -- See "Business and Properties -- Pipeline
Construction, Acquisition and Disposition"............................. $ 707,000
Repayment of interim financing obtained in connection with recent
acquisitions(1)........................................................ 943,000
Repayment of certain outstanding indebtedness(2)......................... 1,900,000
Working capital including any future acquisition of pipelines and related
assets................................................................. 4,993,000
----------
Total.......................................................... $8,543,000
==========
</TABLE>

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

(1) The interim financing includes:

(i) $343,000 of debt incurred in connection with the Company's
construction costs of both the South Fulton System in Obion County,
Tennessee and the Power Paper System in Roane County, Tennessee. The
note payable to a bank bears interest at the prime rate plus 1% and is
payable in 60 monthly installments of $7,185 including accrued
interest beginning August 15, 1996 with a final maturity of July 15,
2001. The note is secured by an assignment of revenues from both the
Power Paper and South Fulton Systems, with a negative pledge on the
systems.

(ii) $100,000 of debt incurred in connection with the Company's equity
contribution in March 1996 to Pan Grande Pipeline L.L.C. ("Pan
Grande") evidenced by a note payable to Rainbow Investments Company, a
Texas corporation ("Rainbow") which is controlled by Stevens G.
Herbst, a former director of the Company. The note, as amended, bears
interest at the prime rate plus 2.5% and is payable in 59 installments
of $1,667 and accrued interest and a final installment at March 15,
2001 in the amount of the remaining principal plus accrued interest
then outstanding and unpaid. The note is secured by the Company's
interest in Pan Grande. See "Management -- Certain Transactions."

(iii) $150,000 to repurchase the 5% net revenue interest in Magnolia's
earnings before interest, income taxes and depreciation granted to
Rainbow in connection with financing provided by Rainbow to the
Company for the Company's acquisition of Magnolia. See "Management --
Certain Transactions."

(iv) $350,000 of debt incurred in connection with Magnolia's acquisition
of ten gas gathering systems from TSGGC in May 1996. See "Business and
Properties -- Pipeline Construction, Acquisition and Disposition." The
funds were obtained by amending the Company's existing credit facility
with a bank to reflect an increase in availability from $1,428,560 to
$1,778,560. The credit facility, as amended, provides for a $23,000
monthly reduction in the amount of available credit. Interest accrues
at the prime rate plus 1%. Upon maturity at January 15, 1999, the
balance of principal plus accrued interest then remaining outstanding
is payable in full. The credit facility is secured by a $50,000
certificate of deposit, all of the Magnolia stock owned by the
Company, and all of Magnolia's assets.

(2) The Company anticipates repayment of the following outstanding indebtedness:

(i) Note payable to a bank entered into in October 1994 under a term loan
bearing interest at the bank's prime rate plus 1% (9.25% at March 31,
1996); principal and accrued interest are payable in 59 monthly
installments of $6,915 with a final estimated payment at maturity of
$8,364 on October 13, 1999; note secured by the Quindaro System's
transportation revenues. The estimated balance to be repaid from
proceeds of the Offering approximates $259,073.

(ii) Note payable to a bank entered into in November 1994, and amended in
1995 and 1996, under a term loan bearing interest at the bank's prime
rate plus 1% (9.25% at March 31, 1996); principal of $3,438 and
accrued interest are payable in monthly installments, with a final
lump sum payment of

11
<PAGE> 12

the remaining unpaid principal due on February 15, 1998; note secured by
the Albany System's transportation revenue. The estimated balance to be
repaid from proceeds of the Offering approximates $110,000.

(iii) Note payable to a bank entered into in December 1994 under a term
loan bearing interest at the bank's prime rate plus 1.5% (9.75% at March
31, 1996); principal of $27,778 and accrued interest are payable in 35
monthly installments, with a final payment due at maturity of $27,998
plus accrued interest on December 15, 1997; note secured by the Cook
Inlet System's transportation revenues. The estimated balance to be
repaid from proceeds of the Offering approximates $583,375.

(iv) Revolving credit line with a bank entered into in October 1995 under a
$1.25 million reducing promissory note bearing interest at the bank's
prime rate plus 1.5% (9.75% at March 31, 1996). Available credit is
reduced monthly by $20,833 beginning December 1, 1995. Accrued interest
and any principal amounts as may be required to cause the outstanding
principal to not exceed the amount of credit then available are payable
monthly, with a final maturity of November 1, 1998; note secured by
transportation revenues on eight of the Company's pipeline systems. The
estimated balance to be repaid from proceeds of the Offering
approximates $607,504 after which an outstanding principal balance of
$500,000 will remain under this revolving credit line.

(v) Note payable to Texline Gas Company, a Texas corporation ("Texline"),
which is controlled by Stevens G. Herbst and Kenneth B. Holmes, Jr.,
former directors of the Company, entered into in December 1994, and as
amended, bears interest at the Mercantile Bank, Corpus Christi prime
rate plus 1.5% (10.75% at March 31, 1996); accrued interest is payable
monthly and principal and remaining accrued interest are due in full at
maturity on April 1, 1997; note is unsecured. The proceeds of such
indebtedness were used by the Company for general corporate purposes
including the repayment of indebtedness associated with project
financings for the construction of certain pipeline systems and for
various pipeline system acquisitions. The estimated balance to be repaid
from proceeds of the Offering approximates $200,000. See
"Management -- Certain Transactions."

(vi) Note payable to Texline, entered into in May 1995, and amended in
March 1996 bearing interest at the Mercantile Bank, Corpus Christi prime
rate plus 1% (10.25% at March 31, 1996); monthly payments equal to 25%
of the net revenue derived from the Exxon oil and gas production
acquisition. Any remaining principal and accrued interest is due in full
at maturity on April 1, 1997. The proceeds of such indebtedness were
used by the Company for the acquisition of the Exxon oil and gas
production property located in Starr County, Texas. The estimated
balance to be repaid from proceeds of the Offering approximates
$173,822. See "Management -- Certain Transactions."

The Company continues to evaluate numerous projects for development or
acquisition, however, at the present time, it does not have any understandings,
agreements or on-going negotiations with respect to any such projects other than
those noted above. Accordingly, the actual application of the remaining proceeds
of this Offering will be subject to the continuing evaluation of such
opportunities and the Company's determination of the best use of such proceeds
which will likely include the construction or acquisition of new end-user,
gathering or transmission pipelines.

Exact allocation of the proceeds for such purposes and timing of the
expenditures will vary depending on numerous factors, including the ability to
identify systems for acquisition or construction meeting the Company's financial
and operating criteria, purchasing those systems at acceptable prices, the cost
and timing of governmental approvals to conduct operations, the Company's
ability to design and complete construction of pipelines in a timely manner
without material cost overruns, the terms of any collaborative arrangements
entered into by the Company and the status of competition in the market. Such
expenditures are likely to be substantial and to exceed the proceeds of this
Offering. Accordingly, the Company may find it necessary or advisable to
reallocate some of the proceeds within the above-described categories or to use
portions thereof for other purposes. Pending ultimate application, the net
proceeds will be invested in interest-bearing securities issued or guaranteed by
the U.S. government or its agencies. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations -- Capital Resources and
Liquidity."

12
<PAGE> 13

MARKET FOR THE COMPANY'S COMMON STOCK

The Company is a successor to Nugget Oil Corporation ("Nugget") which was
traded on The Nasdaq National Market until October 30, 1986 when Nugget's stock
was delisted from The Nasdaq National Market. See "Business and
Properties -- General." There has been no market for the Company's Common Stock
since October 30, 1986. The public offering price of the Common Stock was
determined by negotiations between the Company and the Representative and may
not be indicative of the prices that may prevail in the public market. The
factors considered in determining the public offering price and such terms, in
addition to prevailing market conditions, were the history of and prospects for
the industry in which the Company competes, the market for the Company's Common
Stock, an assessment of the Company's management, the prospects of the Company,
and the demand for similar securities of comparable companies. The Common Stock
of the Company has been approved for listing on AMEX under the symbol "MRS."
Despite the increase in the number of shares of Common Stock to be publicly held
as a result of this Offering, there can be no assurance that trading in the
Common Stock will develop. See "Risk Factors -- No Assurance of Market For
Common Stock."

DIVIDEND POLICY

The Company has historically paid dividends on its 5% cumulative preferred
stock, which was redeemed in May 1996, but has never paid dividends on its
Common Stock. However, holders of shares of Common Stock are entitled to receive
cash dividends out of funds of the Company legally available therefor, subject
to the qualification that dividends need not be declared or paid by the Board if
to do so would be in violation of law or of restrictions under contractual
arrangements (including credit agreements) to which the Company is, or may
hereafter become, a party. The Board intends to declare a dividend of $.08 per
share of Common Stock for the first fiscal quarter after the completion of the
Offering. It is the Company's policy to continue to pay a quarterly dividend,
however, the ability of the Company to pay regular quarterly dividends will
depend on the earnings and financial condition of the Company, and payment of
future dividends may be restricted by the Company's financial condition and the
Company's credit agreements. Therefore, there can be no assurances that future
dividends will be paid. Under Magnolia's revolving line of credit with Compass,
Magnolia is precluded from declaring or making dividend payments unless consent
is obtained by Compass. Except for Compass' line of credit restriction on
Magnolia, there are no other restrictions, contractual or otherwise, on the
Company's right to declare and pay dividends to the holders of Common Stock in
accordance with applicable state laws. The Company had $706,493 of unrestricted
cash as of March 31, 1996, which management believes was available as of such
date for the payment of dividends. See "Risk Factors -- Payment of Dividends."

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

13
<PAGE> 14

DILUTION

The net tangible book value of the Company's Common Stock at March 31, 1996
was $4,176,084 or $2.84 per share. Net tangible book value per share represents
the total tangible assets of the Company reduced by its total liabilities and
divided by the number of outstanding shares of Common Stock after giving effect
to the 4.460961 for 1 stock split of the outstanding Common Stock. After giving
effect to the sale of the Common Stock offered hereby (assuming no exercise of
the over-allotment option), the 4.460961 to 1 stock split, and the redemption of
the Company's 5% cumulative preferred stock in May 1996 for $118,367, the as
adjusted net tangible book value of the Common Stock at March 31, 1996 would
have been $5.22 per share. This represents an immediate increase in net tangible
book value of $2.38 per share to existing holders of Common Stock and an
immediate dilution of $4.78 per share to new investors purchasing shares of
Common Stock in this Offering. "Dilution per share" represents the difference
between the price per share of Common Stock sold in this Offering, and the as
adjusted net tangible book value per share at March 31, 1996.

The following table illustrates the dilution per share described above:

<TABLE>
<S> <C> <C>
Public offering price per share............................................ $10.00
Net tangible book value per share at March 31, 1996............ $2.84
Increase attributable to purchases of Common Stock by new
investors..................................................... 2.38
-----
As adjusted net tangible book value at March 31, 1996 after giving effect
to
this Offering, the stock split, and redemption of 5% cumulative preferred
stock.................................................................... 5.22
------
Dilution to new investors.................................................. $ 4.78
======
</TABLE>

Utilizing the foregoing assumptions, the following table summarizes on a
pro forma basis, at March 31, 1996, the number of shares purchased from the
Company, the total consideration paid to the Company and the average price per
share paid by existing holders of Common Stock and by new investors purchasing
shares of Common Stock in this Offering.

<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION
-------------------- ---------------------- AVERAGE PRICE
POSITION NUMBER PERCENT AMOUNT PERCENT PER SHARE
- ---------------------------------------- --------- ------- ----------- ------- -------------
<S> <C> <C> <C> <C> <C>
Existing Stockholders................... 1,470,141(1) 60% $ 1,201,765(2) 11% $ 0.82
New Investors........................... 1,000,000 40% 10,000,000 89 $ 10.00
--------- --- ----------- --- -----
Total......................... 2,470,141 100% $11,201,765 100% 4.53
========= === =========== === =====
</TABLE>

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

(1) Share number represents the outstanding shares of Common Stock at March 31,
1996, as adjusted for the 4.460961 to 1 stock split, which was completed
prior to the effective date of the Offering.

(2) Amount represents total consideration paid by existing stockholders, in
cash, property or services rendered, including $95,414 in notes payable
forgiven or converted to Common Stock pursuant to Nugget's plan of
reorganization and as adjusted for a deduction of the cash payment of
$118,367 in May 1996 for the redemption of the 5% cumulative preferred
stock. This amount does not include consideration paid by the original
Nugget stockholders prior to Nugget's plan of reorganization. See "Business
and Properties -- General."

The foregoing tables assume that (i) the Underwriters do not exercise their
over-allotment option, (ii) Outstanding Warrants and the Representative's
Warrants are not exercised, and (iii) none of the 200,000 shares of Common Stock
reserved for issuance in connection with the Company's stock option plan are
issued. New investors purchasing shares of Common Stock will experience further
dilution as a result of the exercise of any such options or warrants. See
"Management -- Executive Compensation," "Description of
Securities -- Outstanding Warrants" and "Underwriting."

14
<PAGE> 15

CAPITALIZATION

The following table sets forth (a) the capitalization of the Company as of
March 31, 1996; and (b) the adjusted capitalization of the Company after giving
effect to (i) the issuance and sale of 1,000,000 shares of the Company's Common
Stock pursuant to this Offering (but no exercise of the over-allotment option);
(ii) the effect of a 4.460961 to 1 stock split which was effected immediately
prior to the effective date of the Offering; (iii) the receipt of the estimated
$8,543,000 in net proceeds of this Offering; (iv) the redemption of the 5%
cumulative preferred stock in May 1996 for $118,367; (v) issuance of 30,021
shares of the Company's Common Stock during April and July 1996, and (vi) the
effect of fractional shares of Common Stock. This table should be read in
conjunction with "Use of Proceeds," "Management's Discussion and Analysis of
Financial Condition and Results of Operations," and "Consolidated Financial
Statements."

<TABLE>
<CAPTION>
AS OF MARCH 31, 1996
-----------------------------
ACTUAL AS ADJUSTED
------------ ------------
<S> <C> <C>
LONG-TERM DEBT PAYABLE(1):
Long-term notes payable to banks.............................. $ 2,988,588 $ 1,749,961
Shareholders and affiliates................................... 453,822 --
------------ ------------
Total......................................................... $ 3,442,410 $ 1,749,961
------------ ------------
SHAREHOLDERS' EQUITY(2):
5% Cumulative Preferred Stock; $1.00 par value; 1,000,000
shares authorized; 200,000 shares issued and outstanding
($1,183,665 liquidation preference)(3)..................... $ 200,000 $ --
Common Stock, $.01 par value; 6,000,000 shares authorized;
1,470,141 shares issued and outstanding, 2,500,000 issued
and outstanding as adjusted(4)(5).......................... 14,701 25,000
Paid-in capital............................................... 18,830,637 27,444,472
Accumulated deficit........................................... (14,416,175) (14,416,175)
Unearned compensation......................................... (106,800) (106,800)
------------ ------------
Total shareholders' equity.................................... $ 4,522,363 $ 12,946,497
------------ ------------
Total capitalization.................................. $ 7,964,773 $ 14,696,458
============ ============
</TABLE>

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

(1) See Note 7 to the Company's "Consolidated Financial Statements."

(2) See Note 10 to the Company's "Consolidated Financial Statements."

(3) In May 1996, all shares of the 5% cumulative preferred stock were redeemed
by the Company for $118,367. Subsequent to the redemption of the 5%
cumulative preferred stock, a majority of the stockholders approved an
amendment to the Articles of Incorporation to reflect only one class of
outstanding securities, the Company's Common Stock.

(4) In May 1996, a majority of the stockholders approved an amendment to the
Articles of Incorporation to increase the authorized number of shares of
Common Stock, $.01 par value to 10,000,000 shares of Common Stock, $.01 par
value.

(5) Share number represents the outstanding shares of Common Stock at March 31,
1996, as adjusted for the 4.460961 to 1 stock split, which was completed
prior to the effective date of the Offering.

15
<PAGE> 16

SELECTED FINANCIAL DATA

The selected historical consolidated financial information for the fiscal
years ended December 31, 1993, 1994 and 1995, and for the three month periods
ended March 31, 1995 and 1996, set forth below is derived from and should be
read in conjunction with the Company's consolidated financial statements and
accompanying notes appearing elsewhere in this Prospectus. The data for the
three month periods ended March 31, 1995 and 1996 are derived from and qualified
by reference to the Company's consolidated financial statements appearing
elsewhere herein and, in the opinion of management of the Company includes all
adjustments that are of a normal recurring nature and necessary for a fair
presentation.

<TABLE>
<CAPTION>
THREE MONTHS ENDED
FOR THE YEAR ENDED DECEMBER 31, MARCH 31,
----------------------------------------- ------------------------
1993 1994 1995 1995 1996
----------- ----------- ----------- ---------- ----------
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues.................... $17,756,679 $14,968,710 $15,622,290 $2,904,098 $5,163,766
Operating Expenses.......... 16,483,245 14,619,296 13,053,165 2,769,192 4,656,170
----------- ----------- ----------- ---------- ----------
Operating Income............ $ 1,273,434 $ 349,414 $ 2,569,125 $ 135,648 $ 507,596
=========== =========== =========== ========== ==========
Net Income.................. $ 764,966 $ 26,789 $ 2,193,401 $ 65,389 $ 373,682
=========== =========== =========== ========== ==========
</TABLE>

<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
---------------------------------------- -----------
1993 1994 1995 1996
---------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Working capital deficit................. $ (392,738) $(1,104,829) $ (98,870) $ (441,129)
Property and equipment, net............. $2,780,325 $ 4,994,416 $ 8,206,161 $ 8,171,207
Total assets............................ $6,438,791 $ 7,272,330 $11,088,508 $11,887,041
Long-term debt, net of current
portion(1)........................... $ 669,560 $ 1,780,771 $ 3,960,769 $ 3,442,410
Shareholders' equity(2)................. $2,028,809 $ 2,006,555 $ 4,157,436 $ 4,522,363
</TABLE>

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

(1) See Note 7 to the Company's "Consolidated Financial Statements."

(2) As of December 31, 1995, the Company had NOL carryforwards of approximately
$15,071,000 expiring in various amounts from 1999 through 2008, and ITC
carryforwards of approximately $354,000 which principally expire in 1997.
These loss carryforwards were generated by the Company's predecessor. The
Company believes, however, that the amount of the NOL carryforwards will be
reduced after consideration of the income generated by the Company for the
tax year ending April 30, 1996. The ability of the Company to utilize the
carryforwards is dependent upon the Company generating sufficient taxable
income and avoiding limitations on the use of such carryforwards due to a
change in stockholder control under the Code. See "Risk Factors -- Limits of
Use of Net Operating Losses and Credit Carryovers."

16
<PAGE> 17

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

The following discussion should be read in conjunction with "Selected
Financial Data" and the Company's "Consolidated Financial Statements" and the
notes thereto, included elsewhere herein.

GENERAL

Since its formation the Company has grown significantly as a result of the
construction and acquisition of new pipeline facilities. The Company's long term
strategy is to continue this expansion by capitalizing on changing regulatory
and industry dynamics to construct or acquire new end-user, gathering and
transmission pipelines, market natural gas, as well as to take advantage of
favorable opportunities to sell pipeline systems which the Company owns. In
pursuit of this strategy, the Company has since June 1994 acquired or
constructed 26 pipelines. "See Business and Properties -- Pipeline Construction,
Acquisition and Disposition." All acquisitions were accounted for under the
purchase method for business combinations and, accordingly, the results of
operations for such acquired businesses are included in the Company's financial
statements only from the applicable date of acquisition. As a result, the
Company believes its historical results of operations for the periods presented
are not directly comparable. The Company believes the acquisitions will have a
positive impact on its future results of operations, and more importantly, the
Company believes that the historical results of operations do not fully reflect
the operating efficiencies and improvements that are expected to be achieved by
integrating the acquired and newly constructed pipeline systems and realizing
other synergies. "See Business and Properties -- Pipeline Construction,
Acquisition and Disposition."

The Company's results of operations are determined primarily by the volumes
of gas transported or purchased and sold through its pipeline systems and the
results of its divestiture activities. Most of the Company's operating costs do
not vary directly with volume on existing systems, thus increases or decreases
in transported volumes on existing systems generally have a direct effect on net
income. Also, the addition of new pipeline systems should result in a larger
percentage of revenues being added to operating income because fixed overhead
components are allocated over more systems. The Company derives its revenues
from three primary sources: (i) transportation fees from pipeline systems owned
by the Company; (ii) the marketing of natural gas and, (iii) the purchase and
resale of pipeline systems.

Transportation fees are received by the Company for transporting gas owned
by other parties through the Company's pipeline systems. Typically, there is
very little incremental operating or administrative overhead cost incurred by
the Company to transport gas through its pipeline systems and thus, a
substantial portion of transportation revenues can be recognized as operating
income by the Company.

The Company's gas marketing revenues are realized through the purchase and
resale of natural gas to the Company's customers. Generally, gas marketing
activities will generate higher revenues and correspondingly higher expenses,
than those revenues and expenses associated with transportation activities. This
relationship exists because, unlike revenues derived from transportation
activities, gas marketing revenues, and associated expenses, include the full
commodity price of the natural gas acquired. The operating income the Company
recognizes from its gas marketing efforts is the difference between the price at
which the gas was purchased and the price at which it was sold to the Company's
customers. It is the Company's strategy to focus its marketing activities where
the Company has a fixed asset investment rather than on third party off-systems
sales. The Company's marketing activities have historically varied greatly in
response to market fluctuations.

The Company also derives its revenues by capitalizing upon opportunities in
the industry to sell pipeline systems or assets associated with the Company's
pipeline systems on favorable terms as the Company receives offers for such
systems which are suited to another company's pipeline network. The Company will
from time to time solicit bids for selected properties which are no longer
suited to its business strategy. Although no substantial divestitures are
currently under consideration, the Company does hold one pipeline system, the
H&W System, for resale. See "Business and Properties -- Revenue Components" and
"Business and Properties -- Pipeline Systems."

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The Company has also had quarter to quarter fluctuations in its results in
the past due to the fact that the Company's natural gas sales and transportation
fees can be affected by changes in demand for natural gas primarily because of
weather.

RESULTS OF OPERATIONS

COMPARISON OF THREE MONTH PERIODS ENDED MARCH 31, 1996 AND 1995.

Operating Revenues. Operating revenues generated during the three months
ended March 31, 1996 totaled approximately $5.2 million as compared to $2.9
million in 1995 which represents a 78% increase in 1996. The increase is
primarily attributable to increased marketing opportunities where the Company
has a fixed asset investment. Marketing of gas to the Company's pipeline
customers increased from $1.9 million to $3.6 million during the three months
ended March 31, 1995 and 1996, respectively. In addition, Magnolia was acquired
in August 1995, and contributed $413,548 in transportation revenue for the first
quarter of 1996. Magnolia's impact, however, is more evident with respect to
earnings as discussed in the "Earnings" section below.

Operating Expenses. Operating expenses for the three months ended March 31,
1996 totaled approximately $4.7 million, or 68% higher than the comparable 1995
period, primarily due to increased gas marketing transactions where the Company
has a fixed asset investment.

Depreciation, depletion, and amortization expense was approximately
$136,000 in 1996, as compared to approximately $85,000 in 1995. The increase in
1996 can be attributed to the acquisition of Magnolia, effective August 1, 1995.

General and administrative expenses incurred for the three months ended
March 31, 1996 were approximately $191,000, or 5% higher than for the same
period in the first quarter of 1995. The small increase in general and
administrative expenses in 1996, despite the Company's significant growth, is a
result of the Company's ongoing effort to control expenses and effectively
assimilate new business using existing resources.

Interest expense for the first quarter of 1996 and 1995, was approximately
$115,000 and $64,000, respectively. The Company was servicing an average of
approximately $4.3 million in debt during the first quarter of 1996 as compared
to an average of $2.8 million in debt during the first quarter of 1995. The
increased debt service in 1996 is attributable to the acquisition of Magnolia,
effective August 1995.

Earnings. The Company recognized operating income and net income of
$507,596 and $358,927 respectively, for the three months ended March 31, 1996 as
compared to operating income and net income of $135,648 and $50,796 for the
three months ended March 31, 1995. Despite a 60% increase in depreciation,
depletion and amortization expense in 1996 operating income increased by
$371,948 over 1995. The primary factor which contributed to the increase in
operating earnings in 1996 was the transportation revenue generated by Magnolia.
During the three months ended March 31, 1996, Magnolia generated income (before
depreciation, general and administrative expenses, and interest) of
approximately $267,000. The Company anticipates Magnolia's income levels to be
seasonal in nature with the greatest income to be generated during the winter
months.

Another factor which contributed to higher earnings in 1996 versus 1995
were the increased gas sales to customers where the Company has a fixed asset
investment. The colder than expected winter temperatures forced gas prices and
demand higher. As a result, the Company was able to sell gas at slightly higher
margins than is typical of gas marketing transactions.

COMPARISON OF YEARS ENDED DECEMBER 31, 1995 AND 1994.

Operating Revenues. Operating revenues generated during the twelve months
ended December 31, 1995 totaled approximately $15.6 million dollars as compared
to $15 million dollars in 1994 which represented a 4% increase in 1995. The
increase was primarily attributable to the acquisition and subsequent sale of
the Five Flags System mitigated by a 23% decrease in sales of natural gas and
transportation fees during 1995.

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In September 1995, the Company and an affiliate owned by a former officer
and director of the Company jointly acquired 100% of the outstanding capital
stock of Five Flags, which the Company had previously owned until September
1993, from a non-affiliated company. Total cash consideration of $2,052,000 was
paid on September 13, 1995 of which The Company's share was $1,872,450 for
91.25% of Five Flags' capital stock and the affiliate's share was $179,550 for
8.75% of Five Flags' capital stock.

The acquisition of Five Flags stock was made as an investment to be resold
to another non-affiliated company pursuant to an agreement for purchase and sale
of stock dated September 6, 1995. On October 2, 1995, the Company and the
affiliate jointly sold 100% of the capital stock of Five Flags for cash
consideration of which the Company's share was $4,092,850.

The decrease in sales of natural gas and transportation fees in 1995 was
primarily attributable to a decline in gas marketing transactions. The decrease
in gas marketing transactions in 1995 was in response to declining profit
margins and the Company's decision to focus its marketing activities on
servicing customer gas requirements where the Company has a fixed asset
investment, rather than on off-system transactions. Despite the decline in sales
of natural gas, the Company's operating income increased by $2.2 million dollars
over 1994 as discussed in the Earnings section below.

Operating Expenses. Operating expenses for the year ended December 31, 1995
totaled approximately $13.1 million dollars, or 11% lower than the comparable
1994 period. As explained in the preceding section, the primary explanation for
the decrease can be attributed to reduced gas marketing transactions mitigated
by the cost of purchasing and subsequently selling Five Flags.

Depreciation, depletion, and amortization expense was approximately
$452,000 in 1995, as compared to $259,000 in 1994. The increase in 1995 can be
attributed to the acquisition of Magnolia, effective August 1995, the
construction of two new pipelines during the fourth quarter of 1994 and the
Company's investment in Alaska which has been depreciated since July 1994.

General and administrative expenses incurred for the year ended December
31, 1995 were approximately $785,000, or 8% lower than 1994. The reduction of
general and administrative expenses in 1995 was a result of the Company's
ongoing effort to control expenses and effectively assimilate new business using
existing resources.

Interest expense totaled approximately $339,000 and $189,000 for 1995 and
1994, respectively. The Company was servicing an average of approximately $3.3
million in debt during 1995 as compared to an average of $2.1 million in debt
during 1994. The increased debt service in 1995 was attributable to the
construction of two new pipelines during the fourth quarter of 1994, investing
in the Cook Inlet Systems in Alaska during the second quarter of 1994 and the
acquisition of Magnolia, effective August 1995. Additionally, the interest rates
on the Company's debt are adjusted for any changes to the prime rate, and
therefore, the increase in interest rates during 1994 and 1995 adversely
affected interest costs.

Earnings. The Company recognized operating income and net income of
approximately $2,569,125 and $2,134,218, respectively, for the year ended
December 31, 1995 as compared to operating income of $349,414 and a net loss of
$32,394 for the year ended December 31, 1994. Despite a 74% increase in
depreciation, depletion and amortization expense in 1995 and despite sales of
natural gas decreasing by 23% in 1995, operating income increased by $2,219,711
over 1994. The decrease in natural gas sales did not have a significant impact
on operating earnings because the decrease is related to gas marketing
activities which are characterized by large dollar sales but small earnings
margins. Furthermore, 1995 earnings were not adversely affected, as in 1994, by
a non-recurring charge of $120,936 when the Company changed the method of
accounting for its transportation and exchange gas imbalances. The primary
factors which contributed to the increase in operating earnings in 1995 were the
revenue generated by the Company's investment in Alaska, five months of revenue
derived from the acquisition of Magnolia and a $2,183,226 gain on the sale of
Five Flags as discussed in the Operating Revenue section above.

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COMPARISON OF YEARS ENDED DECEMBER 31, 1994 AND 1993.

Operating Revenues. Operating revenues generated during the twelve months
ended December 31, 1994 totaled approximately $14.9 million as compared to $16.5
million in 1993 which represents a 10% decrease in 1994. The decrease in 1994
revenues was primarily attributable to two factors: there were no sales of
refined products and a significant difference in the amount of income generated
from sales of pipelines. These two factors were mitigated by a 15% increase in
sales of natural gas and transportation fees during 1994.

The sale of refined products accounted for approximately $2.3 million
dollars in revenue during 1993 whereas in 1994 there were no sales of refined
products. During the latter part of 1993 and during 1994, the Company ceased its
efforts in the sale of refined products in response to limited marketing
opportunities as well as declining profit margins and product supply problems.

The sale of Five Flags in September 1993 contributed approximately $2.4
million to operating revenue in 1993 compared with the Company's sale of its 40%
interest in a gathering system which contributed approximately $12,000 in 1994.

On the other hand, the sale of natural gas and transportation fees in 1994
posted a 15% increase over 1993. This increase in 1994 can be attributed to: (i)
the throughput fees received since July 1994 on the Company's investment in
Alaska; (ii) the construction of two new facilities late in 1993; (iii)
increased gas usage at a customer's fractionation facility; and (iv) an increase
in the volume of gas required to fuel the pump stations of a major customer
(further discussed in the Earnings section below).

Operating Expenses. Operating expenses for the year ended December 31, 1994
totaled approximately $14.6 million, or 4% lower than the comparable 1993
period. As explained in the preceding section, the explanation for the decrease
can be attributed to no refined products purchases offset by an increase in gas
marketing transactions.

Depreciation, depletion, and amortization expense was approximately
$259,000 in 1994, as compared to $264,000 in 1993. The slightly lower 1994
amount can be attributed to the absence of the Five Flags subsidiary which was
sold in September 1993. Five Flags contributed approximately $49,000 of
depreciation, depletion, and amortization in the first three quarters of 1993.
The Five Flags reduction was largely offset in 1994 by increases related to
construction of new pipelines during the latter part of 1993, and the Company's
investment in Alaska during the second quarter of 1994.

General and administrative expenses incurred for the year ended December
31, 1994 were approximately $849,000, or 5% lower than the 1993 period. The
reduction of general and administrative expenses in 1994 was a result of the
sale of Five Flags and the Company's ongoing effort to control expenses. The
reduction in expenses as a result of the Five Flags sale was offset by an
increase in personnel costs.

Interest expense of approximately $189,000 and $178,000 was incurred during
the years ended December 31, 1994 and 1993, respectively. The relatively small
difference is primarily attributable to the timing of debt additions and
repayments related to Five Flags in 1993 and the investment in transmission
facilities in 1994. Debt related to the acquisition of Five Flags was
outstanding between January 1, 1993 through September 2, 1993. Approximately an
equal amount of debt related to the Company's investment in transmission
facilities has been outstanding since May 1, 1994, although rising interest
rates in 1994 resulted in a slightly higher interest expense.

Earnings. The Company recognized a loss of approximately $32,000 for the
year ended December 31, 1994 as compared to net income of approximately $706,000
for the 1993 period. In September 1993, all of the outstanding capital stock of
Five Flags was sold to Sunshine Interstate Pipeline Partners ("Sunshine") for
cash consideration of $2,400,000. During the Company's eight months of
ownership, Five Flags contributed approximately $96,000 of income before income
taxes, from normal operations, as well as contributing a net gain of $1,155,783
from the sale of the capital stock.

This large gain was partially offset when the Company elected to write-off
its investment in a pipeline located in Tuscaloosa County, Alabama due to
regulatory problems and write-off an inactive gas gathering

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system. See Note 16 of the Notes to the Company's "Consolidated Financial
Statements." The write-offs lowered the Company's income in 1993 by
approximately $247,000.

Another factor which reduced earnings during the latter half of 1993 and
through May 1994 was lower volumes of gas liquids transported by the Company's
largest customer due primarily to ethane rejection in the Rocky Mountain area.
Ethane rejection occurs when natural gas pricing makes extraction of ethane from
the natural gas stream uneconomical due to either a decline in the price of
ethane or an increase in the price of natural gas. Through May 1994, ethane
prices were low in comparison to natural gas prices, and therefore, the amount
of natural gas transported by the Company to fuel five of the ten Seminole pump
stations was reduced. However, the fuel requirements of the Seminole pump
stations improved during the remainder of 1994. See "Business and
Properties -- Pipeline Systems."

As discussed in Note 3 to the Notes to the Consolidated Financial
Statements, another one time charge which adversely affected earnings during
1994 occurred when the Company changed the method of accounting for its
transportation and exchange gas imbalances. As a result, approximately a
$121,000 reduction in income for the current year was recorded which related to
prior year transactions.

As discussed in the Operating Revenue section, sales of natural gas
increased by 15% in 1994 over 1993. This increase, however, did not have a
significant impact on earnings because the increase related to gas marketing
activities which are characterized by large dollar volume sales figures but
small earnings margins.

CAPITAL RESOURCES AND LIQUIDITY

Historically, the Company has funded its capital requirements through cash
flow from operations and borrowings from affiliates and commercial lenders. For
the year ended December 31, 1995, the Company generated cash flow from
operations of approximately $2,361,000. For the three months ended March 31,
1996, the Company generated cash flow from operations of approximately
$1,308,201 and had an aggregate of approximately $809,164 available to the
Company through two of its credit facilities at March 31, 1996.

In December 1992, the Company entered into a financing agreement which
included a $400,000 line of credit. The line of credit was renewed in September
1994, and amended in May 1996, with an available line of $750,000. The line of
credit expires on August 31, 1996, however, the Company expects that a new
facility will be in place prior to that date, as discussed below. Borrowings
under this credit facility are collateralized by the Company's
non-transportation based accounts receivable and the entire facility has been
personally guaranteed by Dan C. Tutcher, Chairman of the Board, President and
Chief Executive Officer, Stevens G. Herbst and Kenneth B. Holmes, Jr., principal
stockholders of the Company. At March 31, 1996, the Company had $750,000 of
available funds under this credit facility.

In October 1995, the Company entered into a new financing agreement with an
existing bank lender. The new agreement provides for an initial $1,250,000
revolving line of credit with the amount of available credit being reduced by
$20,833 per month beginning December 1, 1995. Upon maturity at November 1, 1998,
the balance of principal plus accrued interest then remaining outstanding and
unpaid is payable in full. The note is secured by transportation revenues from
eight of the Company's pipeline systems which are also subject to a negative
pledge to keep the pipelines free and clear of all liens and encumbrances. The
facility has been personally guaranteed by Dan C. Tutcher, Chairman of the
Board, President and Chief Executive Officer, Stevens G. Herbst, and Kenneth B.
Holmes, Jr., principal stockholders of the Company. At March 31, 1996, the
Company had $59,164 of available funds under this credit facility.

In December 1995, the Company entered into a new financing agreement with a
bank. The agreement provided for an initial $1,500,000 revolving line of credit
with the amount of available credit being reduced by $17,860 per month beginning
February 1, 1996. In May 1996, the agreement was amended to increase the
available credit and adjust the monthly reduction of availability from $17,860
to $23,000. The Company used $350,000 under this facility to fund the
acquisition of ten gas gathering pipelines from TSGGC in May 1996. Upon maturity
at January 15, 1999, the balance of principal plus accrued interest then
remaining outstanding and unpaid is payable in full. In connection with this
financing agreement, a $50,000 certificate of deposit, 100% of Magnolia's stock
owned by the Company, and all assets of Magnolia have been pledged as
collateral.

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The Magnolia System is subject to a negative pledge to keep the pipeline free
and clear of all liens and encumbrances and Dan C. Tutcher, Chairman of the
Board, President and Chief Executive Officer, Stevens G. Herbst and Kenneth B.
Holmes, Jr., principal stockholders of the Company, have personally guaranteed
the facility. At March 31, 1996, the Company had no funds available under this
credit facility.

The Company believes that its existing credit facilities and funds provided
by operations are sufficient for it to meet its operating cash needs for the
foreseeable future. At March 31, 1996, the Company was committed to make capital
expenditures of $265,000 during 1996. The Company has historically arranged for
project financing with various banks to fund between 75% and 90% of the
construction or acquisition costs of its new projects. Management of the Company
believes that project financing and funds from operations will continue to be
available to the Company to fund pipeline acquisition and construction
opportunities which exceed the capital available after the Offering. The Company
is presently negotiating with several commercial banks to obtain a comprehensive
credit facility which will facilitate financing of future construction projects
or acquisitions. Such facility will likely include a working capital line of
credit and a revolving facility. There can, however, be no assurance that the
Company will be able to obtain such financing.

Forward looking statements made herein are based on current expectations of
the Company that involve a number of risks and uncertainties and should not be
considered as guarantees of future performance. These statements are made under
the Safe Harbor Provisions of the Private Securities Litigation Reform Act of
1995. The factors that could cause actual results to differ materially include
interruption or cancellation of existing contracts, the impact of competitive
products and services and pricing of and demand for such products and services,
market acceptance risks and the presence of competitors with greater financial
resources.

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

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BUSINESS AND PROPERTIES

GENERAL

The natural gas industry has undergone dramatic change over the past decade
largely due to the course of deregulation by the federal government. This has
resulted in increased competition in the natural gas industry. The impact of
these changes has been particularly felt in the natural gas pipeline industry
over the last several years. The key part of this regulatory shift, to ensure a
more competitive natural gas market, was the implementation of the FERC Order
636. This order generally opened previously restricted access to interstate
pipelines by requiring the operators of such pipelines to "unbundle" their
transportation services from their sales services, allowing customers to choose
their provider for such services as gathering, storage, and transportation. This
unbundling essentially eliminated the pipeline's traditional merchant function
and caused a major restructuring of this relationship between the major
interstate pipelines and their customers. For the most part, regulators at the
state level have followed the FERC's lead and allowed increased competition with
LDCs, and allowed the phenomenon of the construction of bypass pipelines to
end-users. In addition to the issuance of Order 636, the implementation of more
stringent environmental laws, such as the Clean Air Act of 1990 and the Energy
Policy Act of 1992, has also affected the overall demand for natural gas by
encouraging the use of cleaner burning fuels, such as natural gas. Accordingly,
these regulatory changes have impacted the growth in domestic consumption of
natural gas which has increased from approximately 16,200 billion cubic feet in
1986 to an estimated 21,600 billion cubic feet in 1995. See "-- Markets and
Major Customers."

The Company believes that its experience in the strategic location, design,
engineering, construction and operation of pipelines, as well as in federal,
state and local regulatory matters involving pipelines, makes it well positioned
to continue to take full advantage of these changes in the natural gas industry,
primarily through aggressively pursuing the industrial end-user market by
acquiring and constructing new pipeline systems. The Company is currently one of
the few independent companies in the industry which has pursued supplying the
industrial end-user market by providing new pipeline connections to this market.
As more chemical and manufacturing companies seek alternative natural gas
suppliers other than their LDC's, the Company and its personnel will continue to
offer the expertise they have gained through their involvement in the regulatory
permitting, construction and operation of 15 end-user pipelines reaching
customers in six states. The Company will also continue to expand its current
market base by working with many of its existing customers, such as Mapco, Owens
and Tyson, to provide natural gas service to additional facilities operated by
these customers.

The Company typically designs its systems to transport greater volumes than
needed in the immediate future to provide capacity to accommodate growth in
natural gas consumption and production in proximity to the pipeline systems. As
a result, the Company believes that under existing conditions, its pipeline
systems can quickly increase their volumes with little capital expenditure
should additional demand develop in these areas. The Company also benefits from
lower overhead than major interstate carriers and LDCs and the resultant ability
to offer reduced rates which should allow it to compete effectively with
entrenched LDCs and gas transmission carriers for their existing and new
end-user customers.

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Company acquired ownership of, or interests in, 19 pipeline systems, including
gathering systems and transmission lines, from major pipeline companies.
Moreover, the Company's recent acquisitions of Magnolia and Five Flags, as well
as the acquisition, by an affiliate, of six pipeline systems from Seahawk and
the acquisition by the Company, through its wholly-owned subsidiary, Magnolia,
of ten pipeline systems from TSGGC, further illustrate the existence of such
opportunities in the market place and the Company's ability to rapidly
capitalize on them. Not only has the industry trend to consolidate increased the
availability of attractive acquisitions in the market place but the overall
consolidation in the industry has also presented the Company with advantageous
opportunities to sell pipeline systems which the Company owns, such as the Five
Flags System and the Tasco Cavasos System, which were divested by the Company on
favorable terms. The Company will continue to consider and evaluate such
divestiture opportunities as the Company receives favorable offers for their
existing systems or assets which are suited to other companies' strategic focus.
See "-- Pipeline Construction, Acquisition and Disposition" and "-- Pipeline
Systems."

In November 1989, Dan C. Tutcher, Stevens G. Herbst and Kenneth B. Holmes,
Jr. formed Midcoast Venture I (the "Venture"), as a joint venture by and between
Midcoast Transmission Company ("Transmission"), a Texas corporation controlled
by Stevens G. Herbst and Kenneth B. Holmes, Jr., former directors of the
Company, and Magic Gas Corp., a Texas corporation controlled by Dan C. Tutcher,
("Magic") (f/k/a Midcoast Natural Gas, Inc.). The founders of the Venture agreed
in 1992 to contribute their respective interests in the Venture to the Company
which was formed as a Nevada corporation in May 1992. The purpose of the
formation of the Company was to acquire Nugget by means of a merger. At the time
of the merger, Mr. Tutcher, Mr. Herbst and Mr. Holmes had been directors of
Nugget since 1990.

Nugget was a publicly-held Minnesota corporation, incorporated in 1976,
that had previously been involved in the oil and gas industry and which had
filed for protection under federal bankruptcy laws in April 1992. The principal
asset of Nugget was an NOL of approximately $15,230,000 prior to Nugget's
reorganization. In September 1992, the Company became the successor to Nugget
through a merger pursuant to the Nugget reorganization (the "Plan") as approved
by the United States Bankruptcy Court for the Southern District of Texas, Corpus
Christi Division. In accordance with the terms of the Plan, 130,335 shares of
Company's Common Stock were issued to the then existing stockholders of Nugget
who tendered their Nugget stock for exchange. Additionally, 1,222,481 shares of
the Company's Common Stock were issued to Nugget's then existing note holders in
exchange for the cancellation of their notes payable totaling $32,000. All other
creditors under the Plan were paid ninety to one-hundred cents on the dollar
pursuant to the Plan. Furthermore, all of the outstanding common stock of Nugget
which had been issued prior to the Plan was cancelled as specified in the Nugget
Plan.

The Plan also authorized a merger with Transmission. Under the terms of the
merger with Transmission (the "Transmission Merger"), the Company issued 100,000
shares of 5% cumulative preferred stock to the then existing stockholders of
Transmission, Mr. Herbst and Mr. Holmes, in exchange for all the issued and
outstanding common stock of Transmission. The principal asset of Transmission
was its 50% joint venture interest in Venture. Concurrent with the Transmission
Merger, Magic contributed the remaining 50% joint venture interest in the
Venture to the Company, in exchange for the issuance of 100,000 shares of the
Company's 5% cumulative preferred stock and the assumption of Magic's joint
venture obligations with respect to the Venture. Prior to the redemption of the
Company's 5% cumulative preferred stock by the Company, all such shares were
held by Magic (beneficially owned by Mr. Tutcher), Mr. Herbst and Mr. Holmes.
See "Certain Transactions." These contributed assets represented substantially
all of the Company's assets upon completion of the merger and the Company then
embarked on its current business strategy.

REVENUE COMPONENTS

The Company derives its revenues from three primary sources: (i)
transportation fees from pipeline systems owned by the Company; (ii) the
marketing of natural gas and, (iii) the purchase and resale of pipeline systems.

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The Company's gas marketing revenues are realized through the purchase and
resale of natural gas to the Company's customers. Generally, gas marketing
activities will generate higher revenues, and correspondingly higher expenses,
than those revenues and expenses associated with transportation activities. This
relationship exists because, unlike revenues derived from transportation
activities, gas marketing revenues, and associated expenses, include the full
commodity price of the natural gas acquired. The operating income the Company
recognizes from its gas marketing efforts is the difference between the price at
which the gas was purchased and the price at which it was sold to the Company's
customers.

CONSTRUCTION OF SYSTEMS

In most instances, the Company contracts for the construction of its
pipeline projects on the basis of a competitive bidding process. The bids
received are usually based on a price per foot for the installation of the
pipeline, boring under roads or railroads, other directional bores and
environmental restoration services. Usually, the same contractor is also
retained on most construction projects to install the meter stations for volume
measurements at either end of the pipeline system on a cost plus basis.

During the actual construction phase of a project, the Company has at least
one and in most instances two Company project managers or inspectors at the
construction site, who are in charge of ensuring that the engineering
specifications are implemented and managing the day-to-day construction
activities. Depending on the size of the particular construction project, the
Company may hire additional contract inspectors to support and work with the
Company's personnel in the management of the construction project.

BUSINESS AND GROWTH STRATEGY

The Company's principal business and growth strategy is to acquire or build
pipelines to serve the end-user market while also continuing to pursue
acquisition, construction or disposition opportunities in transmission and
gathering of natural gas, other hydrocarbons and nonhydrocarbon fluids. The
Company will continue to seek to implement its strategy by taking advantage of a
number of market conditions and competitive factors, including: (i) pursuing
natural gas users in the chemical and manufacturing industries who are seeking
alternative suppliers to their LDCs, due to new opportunities that may arise,
based on regulatory changes, and (ii) capitalizing on the fact that many of the
Company's existing pipeline systems have the capacity to deliver increased
volumes of natural gas which enable it to meet natural gas demand increases in
the area, or to enable electrical generation facilities to utilize gas turbines
to satisfy peak loads without requiring construction of additional capacity. The
various operations of the Company, whether involving acquisitions, construction
or dispositions involve the following activities:

End-Users. A large portion of the Company's revenue is derived from
contracting with industrial end-users or electrical generating facilities to
provide natural gas transportation services to their facilities through
interconnect or bypass gas pipelines constructed by the Company. End-user
pipelines provide the Company's customers with a natural gas supply as an
alternative to their current energy source, which are usually LDCs. Frequently,
the Company is able to offer its end-user customers rates lower than the
customer's LDC. The Company's contracts with end-user customers typically
provide for the payment of a transportation fee by the customer based on the
volume of gas transported through the Company's pipeline. In many of the
Company's contracts the customer has guaranteed a minimum amount of natural gas
to be transported. The Company also offers its end-user customers gas marketing
services enabling them to purchase their gas supply from the Company but without
any obligation to do so. The Company strives to structure the terms and
transportation

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fees for its end-user systems in such a way as to provide an acceptable rate of
return regardless of any gas marketing revenues. Fifteen of the Company's
systems are end-user pipelines.

Transmission. The Company's three transmission pipelines primarily receive
and deliver natural gas to and from other pipelines, but may also involve some
gathering functions. Effective August 1995, the Company significantly expanded
its gas transmission pipeline activities by acquiring Magnolia, the principal
asset of which was the Magnolia System, an approximately 111-mile natural gas
transmission line and compressor station located in central Alabama.

Gathering. The Company's gathering systems typically consist of a network
of small diameter pipelines which collect gas or crude oil from points near
producing wells and transport it to larger pipelines for further transmission.
Gathering systems may include meters, separators, dehydration facilities, and
other treating equipment owned by the Company or others. The Company derives
revenues from gathering systems by transporting gas or crude oil owned by others
through its pipelines for a transportation fee, by purchasing gas and utilizing
its pipelines to transport the gas to a customer in another location where the
gas is resold or, in certain instances, by purchasing gas and arranging for the
delivery and resale of an equivalent quantity of gas to a customer not directly
served by the Company's pipelines. Transactions with customers not directly
served by the Company's pipelines are typically accomplished by entering into
agreements whereby the Company exchanges gas in its pipelines for gas in the
pipelines of other transmission companies. The Company currently owns an
interest in or operates 21 gathering systems.

Gas Marketing. The majority of the Company's gas marketing activities occur
on pipeline systems owned by the Company and for those customers served by the
Company's pipeline systems. The Company's marketing activities include providing
gas supply and sales services to some of its end-user customers by purchasing
the gas supply from other marketers or pipeline affiliates and reselling the gas
to the end-user. The Company also purchases gas directly from well operators on
many of the Company's gathering systems and resells the gas to other marketers
or pipeline affiliates. Typically, there are more marketing opportunities
associated with the Company's gathering systems since many of the well operators
wish to only obtain the prevailing market price for their gas and because they
lack the desire or expertise to effectively market their product. Many of the
contracts pertaining to the Company's gas marketing activities are
month-to-month spot market transactions with numerous gas suppliers or producers
in the industry. Such contracts contain no ongoing obligation by the Company to
provide for or purchase future gas supplies from any party.

Generally, the Company purchases the gas under contracts that contain terms
which provide for a price determination based upon prevailing market conditions.
Simultaneous with the purchase of gas by the Company, the Company resells the
gas at a higher price under a sales contract which is comparable in its terms to
the purchase contract, including the price escalation provision. The Company
earns a margin on such contracts equal to the difference between the purchase
price paid by the Company for such gas supply and the price at which the gas is
then sold. Typically, gas marketing is characterized by narrow margins since
there are numerous companies of greatly varying size and financial capacity who
compete with the Company in the marketing of natural gas. Accordingly,
historical operating income associated with this revenue stream has varied
greatly depending on market conditions. The Company believes gas marketing will
become a more significant component of the Company's business because the
Company believes the marketing of gas is an important complement to its
transportation services, and many of the Company's recent acquisitions have been
gathering pipelines which historically carry more marketing opportunities.

PIPELINE CONSTRUCTION, ACQUISITION AND DISPOSITION

Since June 1994, the Company constructed or acquired ownership of, or
interests in, 26 pipelines, 19 of which were gathering systems, two of which
were transmission lines and five of which were end-user pipelines. See
"-- Pipeline Systems." The Company remains actively engaged in seeking pipeline
acquisitions and construction opportunities. The Company plans to evaluate
investments in pipelines which involve not only natural gas, but also liquefied
petroleum gas, as well as both hydrocarbon and non-hydrocarbon finished
products, such as nitrogen. Management believes that more acquisition
opportunities will become available as major pipeline companies divest systems
due to regulatory considerations or need to spin-off smaller non-

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<PAGE> 27

strategic systems acquired in connection with larger acquisitions. The Company
believes it can capitalize on these opportunities due to the strategic locations
of its pipelines and proximity to other companies' pipeline systems and in large
part to the Company's experience and relationships with others in the pipeline
industry.

The Company's recent activities in pursuit of acquisition, construction or
disposition opportunities in transmission and gathering of natural gas include
the following:

Magnolia System Acquisition. Effective August 1995, the Company acquired
100% of the outstanding capital stock of Magnolia. Magnolia's principal asset
consists of approximately 111 miles of 6 inch to 24 inch gas pipelines and an
approximately 4000 horsepower compressor station, located in central Alabama.
Magnolia was purchased from a subsidiary of Williams for a total purchase price
of $3,200,000, and the Company assumed the operations of the pipeline in
September 1995. Williams had acquired Magnolia as part of its acquisition of
Transco Energy Company ("Transco"), a publicly traded company, earlier in 1995.
The Magnolia System is primarily a transmission pipeline with interconnections
to one major interstate pipeline and one major intrastate pipeline. The system
also includes some gathering lines which connect coal-seam gas production in the
Black Warrior Basin with the Magnolia System. There is the potential for several
interconnections to other pipelines in the area which could provide additional
supply or market options for gas on the Magnolia System. These additional
interconnections could enhance Magnolia's revenues and will be pursued by the
Company. See "Management -- Certain Transactions" for information relating to
the financing of the Magnolia System Acquisition. See also "-- Pipeline Systems.

Five Flags System Acquisition and Disposition. In September 1995, the
Company and Rainbow jointly re-acquired 100% of the outstanding capital stock of
Five Flags, which the Company had previously owned until September 1993, from
Five Flags Holding Company, an affiliate of Coastal. Total cash consideration of
$2,052,000 was paid to Five Flags Holding Company, of which the Company's share
was $1,872,450 for 91.25% of Five Flags' capital stock. In October 1995, the
Company and Rainbow jointly sold 100% of the capital stock of Five Flags to Koch
Gateway Pipeline Company ("Koch") for cash consideration of $4,664,865. After
retiring the purchase money note, the net proceeds to the Company from the sale
of Five Flags was $2,183,226. See "Management -- Certain Transactions."

Seahawk Acquisition. In February 1996, the Company formed Pan Grande with
Resource Energy Development Company, L.L.C., a North Carolina limited liability
company ("Resource") which is affiliated with Piedmont Natural Gas Co., Inc., a
publicly traded company. The Company and Resource each own 50% of Pan Grande.
Subsequent to its formation, Pan Grande entered into an agreement with Seahawk
to acquire six onshore gas gathering and transmission systems. Seahawk was
acquired by Tejas, as part of Tejas' acquisition of substantially all of the
pipeline systems owned by Seagull Energy Corporation, a publicly traded company.
The six systems, (including the Allen Hill, Chapa, Guadalupe, Guerra, Loma
Novia, and Puckett Systems), are located in Tom Green, Live Oak, Culberson and
Loving, Webb and Duval, Duval and McMullen and Pecos counties, Texas,
respectively. A seventh system, the Salt Creek, located in Kent and Scurry
counties in Texas, is also under contract to be acquired by Pan Grande pending
completion of satisfactory due diligence. Together the seven systems comprise
approximately 116 miles of natural gas gathering and transmission lines with a
design throughput of 200 million cubic feet of natural gas per day. The purchase
of the six systems by Pan Grande was financed with capital contributions from
the Company and Resource and with a five-year note from a bank to Pan Grande at
the prime rate plus 1%, secured by each of the systems and their associated
contracts. Each of the Company and Resource has guaranteed 50% of the note, and
personal guarantees were also obtained from Dan C. Tutcher, Chairman of the
Board, President and Chief Executive Officer, Stevens G. Herbst and Kenneth B.
Holmes, Jr., principal stockholders of the Company. See "-- Pipeline Systems"
and "Management -- Certain Transactions."

Flores System. In January 1996, the Company entered into a joint venture
with Esenjay Petroleum Corporation, Trijon Gas Pipeline Corporation, and Brazos
Resources, Inc. Shortly after its formation, the joint venture, Starr County
Gathering System, acquired a pipeline which has connections to ten wells with a
capacity of 5,000 MMBtu/d and has pipeline connections to Valero Transmission
Company ("Valero"), a subsidiary of Valero Energy Corporation, a publicly traded
company, Tennessee Gas Pipeline Company ("Tennessee Gas"), a subsidiary of
Tenneco, Inc. ("Tenneco"), a publicly traded company, Florida Gas

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<PAGE> 28

Transmission Co. ("Florida Gas"), a subsidiary of Enron Corp., a publicly traded
company, and Tejas Gas Corporation ("Tejas Gas"), a publicly traded company,
(the "Flores System"), from Gulfstream Pipeline Company. The Flores System is
operated by the Company and consists of approximately 9.9 miles of pipeline
located in southeast Starr County, Texas. The system purchases and transports
gas from five producers in the Rincon and Flores fields. See "-- Pipeline
Systems."

Texas Southeastern Gas Gathering Corporation. In May 1996, the Company,
through its wholly-owned subsidiary, Magnolia, acquired nine gathering pipeline
systems and one transmission pipeline system from TSGGC. The systems were
acquired pursuant to a purchase and sales agreement dated March 12, 1996 for a
total purchase price of $390,000 less purchase price adjustments giving effect
to operating income since the effective date of January 1, 1996. These systems
total approximately 113 miles of 2 inch to 10 inch diameter pipeline with
associated equipment. Five systems (Fayette, Happy Hill, Moores Bridge, Detroit
and Sizemore) are located in Alabama, and five systems (Millbrook, Greenwood
Springs, Heidelberg-TGP, Heidelberg-Koch and Baxterville) are located in
Mississippi. The bulk of the systems are located within 100 miles of the
Magnolia System and it is the Company's intention to integrate the operation of
these systems with the Magnolia System. TSGGC had acquired these systems in 1994
as part of a larger acquisition package.

South Fulton System. The South Fulton System in Obion County, Tennessee is
currently being constructed and is anticipated to be placed in service in
September 1996 to supply 100% of Tyson's natural gas requirements to Tyson's
newly constructed feedmill in South Fulton, Tennessee. The pipeline has a
capacity of 1,500 MMBtu/d and consists of .6 miles of 4 inch pipeline connecting
the feedmill to the City of South Fulton's local gas distribution system. The
City of South Fulton, as the owner, operates and maintains the pipeline. The
agreement between Tyson and the Company (the "Tyson Agreement") guarantees a
minimum monthly transportation fee to the Company until such time as Tyson has
transported 300,000 MMBtus of natural gas under the Tyson Agreement (the
"Primary Term") as well as a monthly service fee to be paid to the Company
during the same period. More particularly, the Tyson Agreement provides for a
monthly fee to be paid to the Company for all volumes transported by the Company
amounting to or in excess of 60,000 MMBtu annually through the end of the
Primary Term. For years under the Primary Term where less than 60,000 MMBtus are
transported annually, the Company is guaranteed a minimum fee for the difference
in volumes transported. The agreement is cancelable by Tyson, with written
notice to the Company, but such cancellation will not relieve Tyson's obligation
of payment under the Tyson Agreement for amounts due under the Primary Term.
Tyson's anticipated gas requirements are approximately 60,000 MMBtu per year and
as of March 31, 1996, 300,000 MMBtu remain to be transported under the Primary
Term of the Tyson Agreement. The Tyson Agreement does not provide for a
secondary term. See "-- Pipeline Systems."

Power Paper. The Power Paper System in Roane County, Tennessee is currently
being constructed and is anticipated to be placed in service in August 1996 to
supply natural gas to Power Paper Company's ("Power Paper") paper plant. The
pipeline has a capacity of 5,000 MMBtu/d and consists of 2.1 miles of 3 inch
pipeline connecting East Tennessee Natural Gas Company's pipeline ("East
Tennessee"), a subsidiary of Tenneco, to Power Paper's paper plant in Roane
County under an agreement by which Power Paper has agreed to transport 100% of
their gas requirements with certain minimum guaranteed volumes. See "-- Pipeline
Systems."

Tasco Cavasos Disposition. In March 1996, the Company sold the Tasco
Cavasos System, an inactive system consisting of 1.6 miles of 2 inch pipeline
along with a second inactive system which consisted primarily of a meter station
to an unrelated third party for consideration of $22,500.

Olmitos System. The Olmitos System is a 16.8 mile 8 inch, 6 inch and 4 inch
gas gathering pipeline system located in Webb County, Texas which gathers and
transports gas for Texaco Exploration and Production, Inc., a subsidiary of
Texaco, Inc. ("Texaco"), a publicly traded company, Conoco, Inc., a subsidiary
of E. I. Nemours & Co., a publicly traded company, and Cox Exploration, Inc.
with delivery interconnections to Valero, Houston Pipe Line Company ("Houston
Pipe Line"), a subsidiary of Enron Corp., a publicly traded company, and
MidCon-Texas Pipeline Corp., a subsidiary of MidCon Corporation ("MidCon"), a
publicly traded company. The system is owned by Olmitos System Joint Venture
("OSJV")

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<PAGE> 29

which is currently wholly-owned by Texline. Texline owned a 34% interest in OSJV
until December 1995 and March 1996 when Texline acquired the remaining 66% joint
venture interest from the other two nonaffiliated joint venture partners, based
on a system valuation of $700,000. Texline has an original cost basis in the
property of approximately $795,000. The Company has agreed to acquire the
Olmitos System, subject to Board approval, for $700,000 based on the same system
valuation and on the same terms as Texline's purchase of the system from the
other nonaffiliated joint venture partners, plus approximately $7,000 in due
diligence and closing costs incurred by Texline related to this acquisition.
Texline will recognize a tax gain on the sale of the Olmitos System to the
Company of approximately $117,000 attributable to the reduction in the
historical cost basis due to depreciation charges of approximately $205,000
through the date of disposition. The purchase price will be paid with the net
proceeds of the Offering. See "Use of Proceeds."

PIPELINE SYSTEMS

The Company owns an interest in or operates thirty-nine intrastate end-user
pipelines, gathering systems and gas transmission systems situated in the states
of Alabama, Alaska, Kansas, Louisiana, Mississippi, New York, Oklahoma,
Tennessee, and Texas. Certain information concerning the Company's pipelines is
summarized in the table below:

<TABLE>
<CAPTION>
DATE OF AVERAGE DAILY PERCENTAGE
ACQUISITION DAILY VOLUME OWNERSHIP OR
OR INITIAL LENGTH VOLUME(1) CAPACITY(1) INTEREST
PIPELINE SYSTEM OPERATION LOCATION IN MILES (MMBTU/D) (MMBTU/D) IN SYSTEM
- ------------------------ --------------- ---------------------------------- --------- --------- ------------
<S> <C> <C> <C> <C> <C> <C>
END-USER:
Burnet................ December 1989 Burnet Co., TX 1.3 498 3,000 100%
Conway................ December 1989 Rice Co., KS --(2) 8,574 14,000 100%
Turkey Creek.......... January 1991 Fort Bend Co., TX 15.6 833 5,000 100%
OCPL.................. June 1991 Wyandotte Co., KS 1.0 2,363 6,500 100%
Cat Springs........... December 1991 Austin Co., TX 1.1 54 3,000 100%
Clemens Dome.......... February 1992 Brazoria Co., TX --(2) 100 3,000 100%
Stratton Ridge........ February 1992 Brazoria Co., TX 1.2 132 3,000 100%
Tuscaloosa(3)......... September 1992 Tuscaloosa, AL 2.6 --(3) 1,500 100%
Augusta............... July 1993 Butler Co., KS 0.5 245 5,000 100%
Lake Charles.......... November 1993 Calcasieu Parish, LA 1.3 4,104 50,000 100%
Quindaro.............. November 1994 Wyandotte Co., KS 3.1 505 60,000 100%
Albany................ December 1994 Albany Co., NY 0.5 1,199 3,000 100%
Guadalupe............. February 1996 Culberson & Loving 9.1 307 10,000 50%(4)
Cos., TX
South Fulton.......... September 1996 Obion Co., TN 0.6 NAV 1,200 --(5)
Power Paper........... August 1996 Roane Co., TN 2.1 NAV 5,000 100%
------- ------- --------
40.0 18,914 173,200
TRANSMISSION:
H&W................... October 1993 Escambia Co., AL 9.0 Inactive 15,000 100%
Magnolia.............. September 1995 Central AL 111.0 28,628 120,000 100%
Moores Bridge......... May 1996 Tuscaloosa Co., AL 4.5 630 4,000 100%
------- ------- --------
124.5 29,258 139,000
GATHERING:
Sinton................ July 1992 San Patricio Co., TX 2.8 Inactive 3,000 100%
Fitzsimmons........... April 1993 Duval Co., TX --(2) 111 3,000 100%
Zmeskal............... June 1994 Victoria Co., TX --(2) 216 3,000 100%
Cook Inlet Gas........ July 1994 Cook Inlet, AK 2.7 Inactive 15,000 --(5)
Cook Inlet Oil........ July 1994 Cook Inlet, AK 2.7 3,164(6) 20,000(6) --(5)
Foss.................. December 1994 Custer Co., OK 4.1 448 5,000 100%
Flores................ January 1996 Starr Co., TX 9.9 1,555 5,000 60%(7)
Allen Hill............ February 1996 Tom Green Co., TX 5.5 304 10,000 50%(4)
Chapa................. February 1996 Live Oak Co., TX 24.7 1,769 50,000 50%(4)
Guerra................ February 1996 Webb & Duval Cos., TX 18.8 7,930 50,000 50%(4)
Loma Novia............ February 1996 Duval & McMullen Cos., TX 15.2 3,843 25,000 50%(4)
Puckett............... February 1996 Pecos Co., TX 3.5 810 10,000 50%(4)
Baxterville........... May 1996 Lamar Co., MS 1.4 Inactive 2,000 100%
Detroit............... May 1996 Lamar Co., AL 16.5 101 3,000 100%
Fayette............... May 1996 Fayette Co., AL 62.8 1,195 10,000 100%
Greenwood Springs..... May 1996 Monroe Co., MS 7.9 140 5,000 100%
Happy Hill............ May 1996 Fayette Co., AL 5.5 117 3,000 100%
Heidelberg-Koch....... May 1996 Jasper Co., MS 1.0 158 3,000 100%
Heidelberg-TGP........ May 1996 Jasper Co., MS 3.5 523 2,500 100%
Millbrook............. May 1996 Wilkinson Co., MS 8.9 241 5,000 100%
Sizemore.............. May 1996 Lamar Co., AL 1.0 153 3,000 100%
------- ------- --------
198.4 22,778 235,500
------- ------- --------
Total 362.9 70,950 547,700
======= ======= ========
</TABLE>

(See notes on following page)

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<PAGE> 30

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

(1) All volume and capacity information is approximate. Average daily volumes
are based on total volumes transported during the twelve month period ended
March 31, 1996, except for certain systems noted on the above table which
were acquired or placed in service after March 31, 1995, in which case such
average daily volumes are based on total volumes transported from the date
of acquisition or initial operation through March 31, 1996. NAV means that
the information is not available since the pipeline is currently under
construction.

(2) This system is less than a quarter-mile in length.

(3) Construction suspended pursuant to an injunction prohibiting the completion
of the pipeline.

(4) This system is owned by Pan Grande, of which the Company owns a 50% interest
in and is operated by the Company.

(5) The Company receives throughput charges from these systems.

(6) Volume is reflected in barrels of oil production per day.

(7) This system is owned by Starr County Gathering System, a joint venture of
which the Company owns a 60% interest and is operated by the Company.

The Burnet System supplies Seminole Pipeline Company's ("Seminole"), an
affiliate of Mapco, LPG mainline pump station in Burnet County, Texas with 100%
of their gas requirements through a 1.3 mile 3 inch pipeline system containing
two measuring stations and pressure regulating equipment, which connects the
Seminole mainline pump station to Lone Star Gas Co.'s intrastate pipeline ("Lone
Star"), a subsidiary of Enserch Corporation, a publicly traded company. The
system was constructed and placed in service during December 1989 by the
Company's predecessor and provides gas supply to the pump station under an
agreement entered into in May 1993. Seminole has also frequently purchased its
gas supply from the Company since the inception of the contract. As of March 31,
1996 approximately 1,083,940 MMBtus remain to be transported under the
agreement's guaranteed minimum cumulative volume requirements.

The Conway System supplies a Mapco LPG Fractionation facility in Rice
County, Kansas with 100% of their gas requirements through a 4 inch pipeline
from an interconnection with Williams Natural Gas Company's interstate pipeline
("Williams Pipeline"), a subsidiary of Williams. The system began serving Mapco
during December 1989 and currently provides gas supply to the facility under an
agreement entered into in December 1995. In August 1993 the Conway System also
began serving a Koch Industries Incorporated's Isomerization unit on a month to
month basis.

The Turkey Creek System supplies Seminole's LPG mainline pump station in
Fort Bend County, Texas with 100% of their gas requirements through a 15.6 mile
6 inch and 4 inch pipeline system containing eight measuring stations and
pressure regulating equipment. The Company also sells a small volume of gas
through this system to a local rice farmer. Additionally, the system gathers,
transports and redelivers natural gas from several producing wells to Gulf Coast
Natural Gas Company's intrastate pipeline. The system was acquired during
January 1991 by the Company's predecessor and provides gas supply to the pump
station under an agreement entered into in May 1993. Seminole has also
frequently purchased its gas supply from the Company since the inception of the
contract. As of March 31, 1996 approximately 1,305,861 MMBtus remain to be
transported under the agreement's guaranteed minimum cumulative volume
requirements.

The OCPL System supplies an Owens plant in Wyandotte County, Kansas with
minimum of 80% of their gas requirements through a 1 mile 6 inch pipeline system
connected to Williams Pipeline. The system was constructed by the Company's
predecessor and placed in service during June 1991 and provides gas supply to
the plant under an agreement entered into in September 1990. The plant is
located in an industrial park with other similar plants nearby which could be
potential customers for the system. The note payable to a bank entered into in
October 1995 is secured by all transportation revenues pertaining to this
system.

The Cat Springs System supplies Seminole's LPG mainline pump station in
Austin County, Texas with 100% of their gas requirements through a 1.1 mile 2
inch pipeline system containing two measuring stations and pressure regulating
equipment, connecting the Seminole LPG mainline pump station to Tennessee Gas'

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<PAGE> 31

interstate pipeline. The system was constructed and placed in service during
December 1991 by the Company's predecessor and provides gas supply to the pump
station under an agreement entered into in July 1993. Seminole has also
frequently purchased its gas supply from the Company since the inception of the
contract. As of March 31, 1996 approximately 480,175 MMBtus remain to be
transported under the agreement's guaranteed minimum cumulative volume
requirements.

The Clemens Dome System supplies a Seminole plant in Brazoria County, Texas
with 100% of their gas requirements through a 3 inch pipeline system containing
a measuring station and pressure regulating equipment, which connects a Seminole
LPG mainline pump station to Seagas Pipeline Company's pipeline, a subsidiary of
Phillips Petroleum Company ("Phillips"), a publicly traded company. The system
also includes 3,000 feet of 6 inch pipeline that was deeded to Phillips, as part
of the construction contract. The system was constructed and placed in service
during February 1992 by the Company's predecessor and provides gas supply to the
pump station under an agreement entered into in August 1993. Seminole has also
frequently purchased its gas supply from the Company since the inception of the
contract. As of March 31, 1996 approximately 157,019 MMBtus remain to be
transported under the agreement's guaranteed minimum cumulative volume
requirements.

The Stratton Ridge System supplies a Seminole plant in Brazoria County,
Texas with 100% of their gas requirements through a 1.2 mile 2 inch pipeline
system containing a measuring station and pressure regulating equipment, which
connects a Seminole LPG mainline pump station to a pipeline owned by Amoco Gas
Company, a subsidiary of Amoco Corporation, a publicly traded company. The
system was constructed and placed in service during February 1992 by the
Company's predecessor and provides gas supply to the pump station under an
agreement entered into in May 1993. Seminole has also frequently purchased its
gas supply from the Company since the inception of the contract. As of March 31,
1996 approximately 1,098,812 MMBtus remain to be transported under the
agreement's guaranteed minimum cumulative volume requirements.

The agreements under which the Burnet, Conway, Turkey Creek, Cat Springs,
Clemens Dome, and Stratton Ridge Systems operate provide for five-year terms
commencing upon the initial delivery of natural gas, with the exception of the
Conway System agreement which provides for a seven month term. The various
agreements continue thereafter on a year-to-year basis unless terminated by
either party upon 90 days written notice with the exception of the Conway System
agreement which, unless otherwise notified, continues on a month-to-month basis.
These agreements also provide for guaranteed minimum cumulative volumes which
can serve to extend the contracts should the minimum volumes not be met within
the particular contract term, with the exception of the Conway System agreement
which provides for a fixed price for one year and a reduced transportation rate
after certain volumes have been transported by the Company. The note payable to
a bank entered into in October 1995 is secured by all transportation revenues
pertaining to these systems.

The Tuscaloosa System is a substantially completed 2.6 mile 2.5 inch
pipeline in Tuscaloosa County, Alabama constructed by the Company in September
1992 which connects Lawter International, Inc.'s chemical plant in Moundsville,
Alabama to the Magnolia System. The system is subject to a five-year agreement,
under which the Company plans to provide the facility plant 100% of its gas
requirements. Because of litigation which ensued during the construction phase
of the project, the Company did not receive certification of this pipeline, and
as a result, the Company elected to write-off its investment in this system in
1993. See Note 16 to the Company's "Consolidated Financial Statements."

The Augusta System supplies the City of Augusta's #2 electric generating
power plant in Butler County, Kansas with 100% of their gas requirements through
a .5 mile 3 inch pipeline system connected to Williams Pipeline. The system was
constructed by the Company and placed in service during July 1993 and provides
gas supply to the plant under an agreement entered into in April 1992 and
amended in November 1992 and April 1993. The agreement provides for a five-year
primary term commencing upon the initial delivery of natural gas. The agreement
continues thereafter on a year-to-year basis unless terminated by either party
upon 30 days written notice. The agreement provides for a higher transportation
fee in the first two years of the contract and a reduced transportation rate for
the remaining term. The #2 plant is primarily used for peaking

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<PAGE> 32

and back-up power generation utilizing gas-fired reciprocating engines. The load
has historically been seasonal with peak loads during the summer months.

The Lake Charles System supplies a Westlake Petrochemicals Corporation
("Westlake") ethylene/styrene plant complex in Calcasieu Parish, Louisiana with
a portion of their gas requirements through a 1.3 mile 8 inch pipeline system
connected to Sabine Pipeline Company's interstate pipeline, a subsidiary of
Texaco. The system was constructed by the Company and placed in service during
November 1993 and provides gas supply to the plant under an agreement entered
into in June 1993. The agreement provides for a three-year primary term
commencing upon the initial delivery of natural gas, followed by a seven-year
secondary term. At the expiration of the secondary term, Westlake retains
ownership of the pipeline. The agreement also provides for a guaranteed minimum
volume of 7,500 MMBtu/day and an option to purchase the pipeline for a nominal
fee at the end of the primary term, with notice to the Company, should an event
impair Westlake's ability to transport gas to their facilities. The agreement
also provides that Westlake pay a monthly operations fee to the Company. In
addition, Westlake has periodically purchased a portion of its gas supply from
the Company. The note payable to a bank entered into in October 1995 is secured
by all transportation revenues pertaining to this system.

The Quindaro System supplies the Kansas City Board of Public Utilities
Quindaro Power Plant ("BPU") in Wyandotte County, Kansas through a 3.1 mile 8
inch pipeline system connected to Williams Pipeline. The system was constructed
by the Company and placed in service during November 1994 under an agreement
entered into in January 1993. The agreement provides for a five-year primary
term commencing upon the initial delivery of natural gas, followed by a second
five-year optional term at a reduced transportation rate. The agreement will
continue thereafter on a year-to-year basis unless terminated by either party
upon 30 days written notice. The agreement provides that the Company shall
supply 100% of BPU's natural gas requirements up to 250,000 MMBtu per year and a
guaranteed minimum of 80% of BPU's natural gas requirements in excess of 250,000
MMBtus, subject to certain usage ceilings provided for in the agreement. The
note payable to a bank entered into in October 1994 is secured by all
transportation revenues pertaining to this system.

The Quindaro Power Plant is primarily coal-fired with natural gas typically
being utilized for start-up or, in the event of disruptions in coal-handling
equipment or the supply of coal. However, as a result of the Quindaro system's
ability to deliver gas at a higher pressure than the previous supplier, BPU has
recently initiated utilization of a peaking gas turbine at the facility for
supplemental power generation. BPU also has plans to convert two oil fired
turbines to natural gas which could significantly increase the overall gas
requirements for the facility.

The Albany System supplies an Owens plant in Albany County, New York
through a .5 mile 3 inch pipeline system connected to Tennessee Gas' pipeline.
The system was constructed by the Company and placed in service during December
1994 and provides gas supply to the plant under an agreement entered into in
July 1994, and amended in March 1996. The note payable to a bank entered into in
November 1994, and amended in November 1995 and in April 1996 is secured by all
transportation revenues pertaining to this system.

The agreements under which the OCPL System and the Albany Systems operate
provide for six and seven-year primary terms, respectively, commencing upon the
initial delivery of natural gas. The Albany System agreement also provides for
an eight-year secondary term. Both agreements continue after their primary and
secondary terms, respectively, on a year-to-year basis unless terminated by
either party upon 30 days written notice. The Albany System agreement also
provides for a quarterly amortization fee to be paid over the primary term as
well as an operation and maintenance fee to be paid for the life of the
contract, adjusted annually by the percentage increase or decrease in the
Producer Price Index for Intermediate Materials, Supplies and Components. Under
the Albany System agreement, the party terminating the agreement prior to the
expiration of the primary and secondary terms shall be obligated to pay a lump
sum amount, varying from year to year, as set forth in the agreement.

The Guadalupe System supplies one of the largest Sulfur Recovery mines in
North America, which is located in Culberson and Loving Counties, Texas. The
mine was developed by Pennzoil Company, a publicly

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<PAGE> 33

traded company, and is now owned by Freeport-McMoRan. This system was built in
1986 and was acquired by Pan Grande in February 1996. The system supplies a
portion of Freeport-McMoRan's gas requirements through approximately 2 miles of
8 inch pipeline transporting those volumes for producers and marketers having
sales contracts with the plant. The system also includes two interconnect
pipelines consisting of 3 miles of 4 inch and 4 miles of 8 inch pipeline,
respectively, which deliver gas to or from Western Gas Resources Inc.'s
pipelines, a publicly traded company. The note payable to a bank entered into by
Pan Grande in March 1996 in connection with the acquisition of this system and
the Allen Hill, Chapa, Guerra, Loma Novia and Puckett Systems is secured by all
of the assets of each respective system and all transportation revenues
pertaining to such systems. See "-- Pipeline Construction, Acquisition and
Disposition."

The South Fulton System in Obion County, Tennessee is currently being
constructed and is expected to be placed in service in September 1996 to supply
100% of Tyson's natural gas requirements to Tyson's newly constructed feedmill
in South Fulton, Tennessee. The pipeline has a capacity of 1,200 MMBtu/d and
consists of .6 miles of 4 inch pipeline connecting to the City of South Fulton's
local gas distribution system. The City of South Fulton, as the owner, operates
and maintains the pipeline. The note payable to a bank entered into in March
1996 is secured by all transportation revenues pertaining to this system. See
"-- Pipeline Construction, Acquisition and Disposition."

The Power Paper System in Roane County, Tennessee is currently being
constructed and is expected to be placed in service in August 1996 to supply
natural gas to Power Paper's paper plant. The pipeline has a capacity of 5,000
MMBtu/d and consists of 2.1 miles of 3 inch pipeline connecting East Tennessee's
pipeline to Power Paper's paper plant in Roane County under an agreement by
which Power Paper has agreed to transport 100% of their gas requirements. The
note payable to a bank entered into in March 1996 is secured by all
transportation revenues pertaining to this system. See "-- Pipeline
Construction, Acquisition and Disposition."

The H&W System in Escambia County, Alabama connects a gas sweetening plant
with a liquids extraction plant through a 9 mile 6 inch pipeline. The system has
been inactive since its acquisition. The Company has no contracts with customers
to transport gas through this system. The Company is engaged in finding a buyer
for the system as it has the potential to transport gas between the two plants,
transport gas to or for a local gas utility who has a system adjacent to the
east end of the pipeline, or make deliveries to an industrial end-user who has a
pipeline that culminates at the west end of the pipeline system. As a result,
this pipeline is classified as an asset held for resale in the Consolidated
Financial Statements and valued at the lower of cost or market in the amount of
$210,447. See the Company's "Consolidated Financial Statements."

Magnolia System transports gas for Sonat Marketing Company ("Sonat
Marketing"), a subsidiary of Sonat, Inc. ("Sonat"), a publicly traded company,
Transco Energy Marketing Company ("Transco Marketing"), a subsidiary of Transco,
Meridian Oil, Inc. ("Meridian"), a subsidiary of Burlington Resources, Inc., a
publicly traded company, and Perry Gas Companies, Inc. ("Perry Gas") in the
Black Warrior Basin, Alabama through a system consisting of 81 miles of 24 inch
pipeline, 18 miles of 16 inch pipeline, and 12 miles of 6 inch, 8 inch and 12
inch pipeline. The Magnolia System is located in central Alabama and also
includes a compressor station which has three Solar gas turbines with C160 gas
compressors, each rated at 1,340 horsepower. The system was acquired by the
Company from Williams pursuant to an agreement with an effective date of August
1995. The Company assumed the operations of the pipeline during September 1995.
The system also connects coal-seam gas production in the Black Warrior Basin
with Transco's interstate pipeline. The note payable to a bank entered into in
December 1995 is secured by all of the capital stock of Magnolia. See "Back
Cover" of the Prospectus.

Magnolia currently has long-term contracts with Transco Marketing and
Meridian as well as contracts with Sonat Marketing and Perry Gas. The Company
transports gas for Sonat Marketing under an agreement entered into in July 1990
(the "Sonat Agreement"), for Transco Marketing under an agreement entered into
in July 1990 and amended in August 1995 (the "Transco Agreement"), for Meridian
under an agreement entered into in August 1991 (the "Meridian Agreement") and
for Perry Gas under an agreement entered into in November 1995 (the "Perry Gas
Agreement"). The Sonat and Perry Gas Agreements provide for one-year primary
terms commencing upon the initial delivery of natural gas and continue
thereafter on a month-to-month basis unless terminated by either party upon 30
days written notice. The Transco Agreement, as

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<PAGE> 34

amended, provides for a ten-year term from the date of amendment, and the
Meridian Agreement provides for a twelve-year term, commencing upon the initial
delivery of natural gas. The Transco Agreement continues thereafter on a
month-to-month basis.

The Moores Bridge System is a 4.5 mile 10 inch transmission pipeline with a
130 horsepower compressor, located in Tuscaloosa County, Alabama. The system has
a receipt point with Northwest Alabama Gas District ("NWAGD") and delivery
interconnections with both Alagasco, a subsidiary of Energen Corp., a publicly
traded company, and Sonat. The system was built in 1976 and was acquired by
Magnolia in May 1996. The note payable to a bank entered into in December 1995
and amended in May 1996 is secured by the capital stock of Magnolia.

The Sinton System is an inactive 2.8 mile 3 inch gas gathering pipeline
located in San Patricio County, Texas. The prospect for placing this line in
service is uncertain, and is dependent on an increase in gas exploration in the
area.

The Fitzsimmons System consists of gas delivery facilities located in Duval
County, Texas which connect a gas well to Valero's intrastate system. The
Company purchases the gas from the producer and resells the gas to a third
party.

The Zmeskal System consists of delivery facilities in Victoria County,
Texas which connect three producing gas wells to an intrastate gathering system.
The Company purchases and resells the wells' production to a third party.

The Cook Inlet Gas and Crude Oil Systems consists of two separate lines, a
2.7 mile 6 inch natural gas gathering pipeline and a 2.7 mile 8 inch crude oil
gathering pipeline. The pipeline was placed in service during July 1994 and
connects the West McArthur River Unit ("WMRU") Production Facility, operated by
Stewart Petroleum Company ("Stewart"), to a delivery point at the Unocal Oil
Trading Bay Production Facility on the west side of Cook Inlet near Anchorage,
Alaska. The Company receives a throughput charge from Stewart for all oil and
gas transported through the system for the life of the WMRU wells, subject to
guaranteed minimum volumes, by Stewart for the first two years the pipeline is
in service. All gas is presently utilized on site as fuel for production
equipment and as such, the gas gathering system is presently inactive. Stewart
has a development program to identify several other potential locations which
would be dedicated to the Company's pipeline, if commercially productive. The
note payable to a bank entered into in December 1994 is secured by the
throughput fees pertaining to this system.

The Foss System gathers gas from four Anadarko Basin gas wells in Custer
County, Oklahoma through a 4.1 mile 2 and 4 inch pipeline system connected to
ANR Pipeline Company's interstate pipeline, a subsidiary of Coastal. The system
was acquired by the Company in December 1994. A portion of the gas is purchased
and resold while the remainder is transported for a fee.

The Flores System purchases or transports gas for five operators from ten
wells in Starr County, Texas, through 9.9 miles of pipeline system consisting of
2.5 inch to 4.5 inch pipe. The system has receipt points with Merit Energy
Company ("Merit Energy"), Carl Oil & Gas Company, Tasca Exploration Company,
Hanson Production Company, and Marquee Corporation with delivery
interconnections to Valero, Tennessee Gas, Florida Gas, and Tejas Gas. The
system was acquired, effective January 1, 1996, by Starr County Gathering
System, a joint venture, of which the Company owns 60%. The note payable to a
bank entered into by Starr County Gathering System in January 1996 is secured by
all of the assets of this system and all transportation revenues pertaining to
the system. See "-- Pipeline Construction, Acquisition and Disposition."

The Allen Hill System gathers and transports gas for one operator from one
lease and purchases and resells gas from one other operator in Tom Green County,
Texas through a 5.5 mile pipeline system consisting of 4 inch pipe. The system
has receipt points with Merit Energy, and Charter Petroleum Company with
delivery interconnections to Lone Star. The system was built in 1981 and was
acquired by Pan Grande in February 1996. See "-- Pipeline Construction,
Acquisition and Disposition."

The Chapa System gathers and transports gas for three operators from eight
wells in Live Oak County, Texas through a 24.7 mile pipeline system consisting
of 2 inch to 10 inch pipe. The system has receipt points

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<PAGE> 35

with Midstates Corporation, Hunter Petroleum, Inc. and Phillips, with delivery
interconnections to Valero and Houston Pipe Line. The system was built in 1978
and was acquired by Pan Grande in February 1996. See "-- Pipeline Construction,
Acquisition and Disposition."

The Guerra System gathers and transports gas for two operators from wells
in Webb and Duval Counties, Texas through an 18.8 mile pipeline system
consisting of 3 inch to 6 inch pipe. The system has receipt points with Marquee
Corporation, Phillips, Tri-C Resources, Inc. and Amerac Energy Corporation with
delivery interconnections to Valero and Houston Pipe Line. The system was built
in 1978 and was acquired by Pan Grande in February 1996. See "-- Pipeline
Construction, Acquisition and Disposition."

The Loma Novia System gathers and transports gas for three parties from
wells located in Duval and McMullen Counties, Texas through a 15.2 mile pipeline
system consisting of 4 inch and 6 inch pipe. The system has numerous wellhead
receipt points and delivery interconnections with Houston Pipe Line and Natural
Gas Pipeline Company of America, a subsidiary of MidCon. The system was acquired
by Pan Grande in February 1996. See "-- Pipeline Construction, Acquisition and
Disposition."

The Puckett System gathers and transports gas for one operator from one
well in Pecos County, Texas through a 3.5 mile pipeline system consisting of 4
inch pipe. The system has receipt points with Maynard Oil Company, a publicly
traded company, with delivery interconnections to El Paso Natural Gas Company, a
publicly traded company. The system was built in 1983 and was acquired by Pan
Grande in February 1996. See "-- Pipeline Construction, Acquisition and
Disposition."

The Baxterville System is a presently inactive 1.4 mile gathering pipeline
system consisting of 2 inch to 3 inch pipeline, located in Lamar County,
Mississippi. The system was built in 1990 and was acquired by Magnolia in May
1996. The note payable to a bank entered into in December 1995 in connection
with the acquisition of this system and the Detroit, Fayette, Greenwood Springs,
Happy Hills, Heidelberg-Koch, Heidelberg-TGP, Millbrook and Sizemore Systems and
amended in May 1996 is secured by the capital stock of Magnolia. See
"-- Pipeline Construction, Acquisition and Disposition."

The Detroit System gathers and transports gas from three wells in Lamar
County, Alabama through a 16.5 mile pipeline system consisting of 2 inch to 8
inch pipe. The system has a delivery interconnection with NWAGD. The system was
built in 1981 and was acquired by Magnolia in May 1996. See "-- Pipeline
Construction, Acquisition and Disposition."

The Fayette System gathers and transports gas from 18 wells in Fayette
County, Alabama through a 62.8 mile pipeline system consisting of 2 inch to 6
inch pipe. The system has delivery interconnections with the City of Fayette
municipal gas system, NWAGD, Associated Natural Gas Company, a subsidiary of
PanEnergy, Inc., a publicly traded company, and Sonat Intrastate Alabama, Inc.,
a subsidiary of Sonat. The system was built in various stages between 1976 and
1985 and was acquired by Magnolia in May 1996. See "-- Pipeline Construction,
Acquisition and Disposition."

The Greenwood Springs System gathers and transports gas from 2 wells in
Monroe County, Mississippi through a 7.9 mile pipeline system consisting of 2
inch to 6 inch pipe. The system has a delivery interconnection with Tennessee
Gas. The system was built in 1982 and was acquired by Magnolia in May 1996. See
"-- Pipeline Construction, Acquisition and Disposition."

The Happy Hill System gathers and transports gas from producing wells in
Fayette County, Alabama through a 5.5 mile 4 inch pipeline. The system has
delivery interconnections with NWAGD and the Fayette System. The system was
built in 1986 and was acquired by Magnolia in May 1996. See "-- Pipeline
Construction, Acquisition and Disposition."

The Heidelberg-Koch System gathers and transports gas from 2 wells in
Jasper County, Mississippi through a 1 mile pipeline system consisting of 3 inch
to 4 inch pipe. The system has a delivery interconnection with Koch. The system
was built in 1990 and was acquired by Magnolia in May 1996. See "-- Pipeline
Construction, Acquisition and Disposition."

The Heidelberg-TGP System gathers and transports gas from 4 wells in Jasper
County, Mississippi through a 3.5 mile pipeline system consisting of 2 inch and
4 inch pipe with a 225 horsepower compressor. The

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<PAGE> 36

system has a delivery interconnection with Tennessee Gas. The system was built
in 1990 and was acquired by Magnolia in May 1996. See "-- Pipeline Construction,
Acquisition and Disposition."

The Millbrook System is an 8.9 mile pipeline system consisting of 2 inch to
6 inch pipe located in Wilkinson County, Mississippi. The system is currently
under lease to a producer through 1997. The lease requires payments based on the
system volumes subject to a monthly minimum, and the producer has the option to
purchase the system for $450,000 less the sum of any previous lease payments.
The lessee also has an option to extend the lease for an additional five years
on the same terms. The system was built in 1982 and was acquired by Magnolia in
May 1996. See "-- Pipeline Construction, Acquisition and Disposition."

The Sizemore System gathers and transports gas from producing wells in
Lamar County, Alabama through a 1 mile, 2 inch pipeline. The system has a
delivery interconnection with NWAGD. The system was built in 1989 and was
acquired by Magnolia in May 1996. See "-- Pipeline Construction, Acquisition and
Disposition."

TITLE TO PROPERTIES

The Company, as part of its construction process, must obtain certain right
of way agreements from landowners whose property the proposed pipeline will
cross. The terms and cost of these agreements can vary greatly due to a number
of factors. In addition, as part of its acquisition process, the Company will
typically evaluate the underlying right of way agreements for the particular
pipeline to be acquired to determine that the pipeline owner has met all terms
and conditions of the underlying right of way agreement and that the agreement
is still in full force and effect.

The Company typically relies upon outside service organizations to review
the right-of-way agreements and to make suggestions to the seller as to any
curative work required before closing. The Company typically does not receive a
title opinion or title policy as to these right-of-way agreements due to the
complexity of the records and attendant expense. Occasionally, the Company may
seek to initiate condemnation proceedings where permitted under state law, to
obtain a right-of-way necessary for pipeline construction projects. The Company
believes that this process is consistent with standards in the pipeline
industry, and that it holds good title to its pipeline systems, subject only to
defects which the Company believes are not material to the ownership of its
properties or results of operations. Substantially all of the Company's pipeline
systems are pledged to secure loans obtained to finance the purchase or
construction of the respective system. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations -- Capital Resources and
Liquidity."

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

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<PAGE> 37

MARKETS AND MAJOR CUSTOMERS

The natural gas industry has undergone major transformations, which have
included significant changes in government regulation. These regulatory changes
have impacted growth in the domestic consumption of natural gas as seen in the
chart below:

UNITED STATES NATURAL GAS CONSUMPTION BY END-USER SECTOR(1)

<TABLE>
<CAPTION>
DELIVERED TO CONSUMERS
-------------------------------------------------------
LEASE AND PIPELINE ELECTRIC TOTAL
PLANT FUEL FUEL(2) RESIDENTIAL COMMERCIAL(3) INDUSTRIAL UTILITIES TOTAL CONSUMPTION
---------- -------- ----------- ------------- ---------- --------- ------ -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1986 Total........... 923 485 4,314 2,318 5,579 2,602 14,814 16,221
1987 Total........... 1,149 519 4,315 2,430 5,953 2,844 15,542 17,211
1988 Total........... 1,096 614 4,630 2,670 6,383 2,636 16,320 18,030
1989 Total........... 1,070 629 4,781 2,718 6,816 2,787 17,102 18,801
1990 Total........... 1,236 660 4,391 2,623 7,018 2,787 16,820 18,716
1991 Total........... 1,129 601 4,556 2,729 7,231 2,789 17,305 19,035
1992 Total........... 1,171 588 4,690 2,803 7,527 2,766 17,785 19,544
1993 Total........... 1,172 624 4,956 2,862 7,981 2,682 18,482 20,278
1994 Total........... 1,161 685 4,848 2,895 8,178 2,987 18,908 20,754
1995 Total........... 1,228 713 4,844 3,096 8,520 3,194 19,654 21,596
</TABLE>

Sources: 1973-1988: Energy Information Administration ("EIA"), Natural Gas
Annual 1994, Volume 1, Table 101; 1989 forward: EIA, Natural Gas Monthly, March
1996, Table 3.
- ---------------

(1) Measured in billion cubic feet.

(2) Natural gas consumed in the operation of pipelines, primarily in
compressors.

(3) Small quantities of natural gas delivered for use as vehicle fuel are
included in the 1993 and 1994 annual totals.

As a consequence, the industry has experienced a marked increase in
competition and volatility in natural gas prices. The result has been an
increase in gas sold directly to end-users by producers and other nontraditional
suppliers, and an increasing reluctance of end-users to enter into long-term
contracts. Consumers have shown an increased willingness to switch fuels between
gas and oil in response to their relative price fluctuations, and there is a
growing use of gas purchase contracts that require price adjustments in response
to market conditions.

During the three month period ended March 31, 1996, the Company derived
approximately 31% and 34% of its revenues from Mapco and Westlake, respectively.
Mapco is a Fortune 500 natural gas liquids pipeline company. The Company
furnishes natural gas to Mapco and its affiliates through various pipeline
systems in several states for fuel to nine turbine pump stations and a main
fractionation facility of Mapco under several long-term agreements. Westlake is
an international petrochemicals company. The Company supplies Westlake's
ethylene/styrene plant complex in Louisiana through the Lake Charles System
under an agreement entered into in June 1993 containing a three-year primary and
seven-year secondary term, respectively. A majority of the Mapco and Westlake
agreements provide for guaranteed minimum cumulative volume restrictions and
additional transportation fees to be paid to the Company for actual volumes
transported, except for the Conway System agreement. The Westlake agreement also
provides for an option to purchase the pipeline for a nominal fee at the end of
the primary term, with notice to the Company, should an event impair Westlake's
ability to transport gas to their facilities. Furthermore, the Westlake
agreement provides that Westlake pay a fixed monthly operations fee to the
Company, adjusted annually by current price indices. In addition, Westlake has
periodically purchased a portion of its gas supply from the Company. The Company
has many other long-term commitments with significant customers. See
"-- Pipeline Systems."

SALES AND MARKETING

The Company aggressively pursues end-user customers. As such, the Company
relies on its management team to identify suitable construction or acquisition
projects involving end-user customers either through

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<PAGE> 38

direct sales efforts, referrals, or existing relationships within the industry.
The Company has two full-time employees whose primary responsibilities are to
identify and develop new end-user pipeline projects. Furthermore, the Company's
senior management devotes much of its time and effort to develop such projects
and works with both new and existing customers to meet their gas supply needs.
Management also benefits from their relationships with others in the industry
who often notify the Company of assets which are being offered for sale, or of
new gathering or end-user construction opportunities in addition to those
opportunities, sought after by management.

NATURAL GAS SUPPLY

The Company's end-user pipelines have connections with major interstate and
intrastate pipelines which management believes have ample supplies of natural
gas in excess of the volumes required for these systems. In connection with the
construction and acquisition of its gathering systems, evaluations were made of
well and reservoir data furnished by producers to determine the availability of
gas supply for the systems. Based on those evaluations, it is management's
belief that there should be adequate gas supply for the Company to recoup its
investment with an adequate rate of return. As such, management does not
routinely obtain independent evaluation of reserves dedicated to its systems due
to the cost of such evaluations. Accordingly, the Company does not have
estimates of total reserves dedicated to its systems or estimates of the
anticipated life of such producing reserves.

COMPETITION

The gas transmission, gathering and marketing industries are highly
competitive. In marketing gas, the Company has numerous competitors, including
marketing affiliates of interstate pipelines, the major integrated oil
companies, and local and national gas gatherers, brokers and marketers of widely
varying sizes, financial resources and experience. Local utilities and
distributors of gas are, in some cases, engaged directly, and through
affiliates, in marketing activities that compete with the Company.

The Company competes against other companies in the transmission, gathering
and marketing businesses for supplies of gas and for sales customers.
Competition for gas supplies is primarily based on efficiency, reliability,
availability of transportation and the ability to offer a competitive price for
the gas. Competition for customers is primarily based upon reliability and price
of deliverable gas. For customers that have the capability of using alternative
fuels, such as oil and coal, the Company also competes against companies capable
of providing these alternative fuels at a competitive price.

OIL AND GAS PROPERTIES

The Company owns a number of minor non-operated working interests in
producing and non-producing oil and gas properties. For the three month period
ended March 31, 1996, revenues from the Company's oil and gas properties were
less than 1% of its total revenues and for the same period the Company's oil and
gas properties represented less than 3% of its total assets. The Company owns
working interests in 3,560 gross acres of oil and gas leases and interests in 13
producing wells. In 1995, the Company acquired a 23% working interest in two
leases together covering approximately 1,700 gross acres in Starr County, Texas
on which are located eight active and one shut-in wells previously owned by
Exxon Corporation ("Exxon"), a publicly traded company. The Company anticipates
that the operator of the property may recommend further developmental drilling
or remedial work on the leases, although the extent, timing and cost to the
Company of any such operations is presently unknown. Although it is not expected
to become a major line of business for the Company, management expects that
acquisition and ownership of non-operated oil and gas interests will remain a
facet of the Company's business for the foreseeable future.

GOVERNMENT REGULATION

Various aspects of the transportation, sale and marketing of natural gas
are subject to or affected by extensive federal regulation under the Natural Gas
Act ("NGA"), the Natural Gas Policy Act of 1978

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<PAGE> 39

("NGPA"), the Natural Gas Wellhead Decontrol Act of 1989 ("Decontrol Act") and
regulations promulgated by FERC.

Natural Gas Transmission Industry. Historically, interstate pipeline
companies acted as wholesale merchants by purchasing natural gas from producers,
transporting that natural gas from the fields to their markets, and reselling
the natural gas to LDCs and large end-users. Prior to the enactment of the NGPA
in 1978 and the Decontrol Act of 1989, all sales of natural gas for resale in
interstate commerce, including sales by producers, were subject to the rates and
service jurisdiction of the FERC under the NGA and NGPA. However, as a result of
the NGPA and the Decontrol Act, all so-called "first sales" of natural gas were
federally deregulated, thus allowing all types of non-pipeline and non-local
distribution sellers to market their natural gas free from federal controls.
Moreover, pursuant to Section 311 of the NGPA, the FERC promulgated regulations
by which wholly-intrastate natural gas pipeline companies could engage in
interstate transactions without becoming subject to the FERC's full rates and
service jurisdiction under the NGA. At the same time, however, the FERC has
retained its traditional jurisdiction over the activities of interstate
pipelines. Thus, under the NGA and NGPA, the transportation and sale of natural
gas by interstate pipeline companies have been subject to extensive regulation,
and the construction of new facilities, the extension of existing facilities and
the commencement and cessation of sales or transportation services by pipeline
companies generally have required prior FERC authorization.

The NGA exempts gas gathering facilities from the direct jurisdiction of
FERC. Interstate transmission facilities, on the other hand, remain subject to
FERC jurisdiction. FERC has historically distinguished between these two types
of facilities on a fact-specific basis. The Company believes that its gathering
facilities and operations meet the current tests that FERC uses to grant
nonjurisdictional gathering facility status. Some of the recent cases applying
these tests in a manner favorable to the determination of the Company's
nonjurisdictional status are, however, still subject to rehearing and appeal. In
addition, FERC's articulation and application of the tests used to distinguish
between jurisdictional pipelines and nonjurisdictional gathering facilities have
varied over time. While the Company believes the current definitions create
nonjurisdictional status for the Company's gathering facilities, no assurance is
available that such facilities will not, in the future, be classified as
regulated transmission facilities and thus, the rates, terms, and conditions of
the services rendered by those facilities would become subject to regulation by
FERC.

Commencing in 1985, the FERC adopted regulatory changes that have
significantly altered the transportation, sale and marketing of natural gas.
These changes were intended to foster competition in the natural gas industry
by, among other things, transforming the role of the interstate pipeline
companies from wholesale marketers of natural gas to primarily natural gas
transporters, and mandating that interstate pipeline companies provide open and
nondiscriminatory transportation services to all producers, distributors,
marketers and other shippers that seek such services (so-called "open access"
requirements). As an incentive to cause the interstate pipeline companies to
revamp their services, the FERC also sought to expedite the certification
process for new services, facilities and operations of those pipeline companies
providing "open access" services. Throughout the early years of this process,
the FERC's actions in these areas were subject to extensive judicial review and
generated significant industry comment and proposals for modification to
existing regulations.

In April 1992, the FERC issued its most comprehensive restructuring ruling,
Order 636, a complex regulation that has had a major impact on natural gas
pipeline operations, services and rates. Among other things, Order 636 generally
required each interstate pipeline company to "unbundle" its traditional
wholesale services and make available on an open and nondiscriminatory basis
numerous constituent services (such as gathering services, storage services and
firm and interruptible transportation services) and to adopt a new rate making
methodology to determine appropriate rates for those services. To the extent the
pipeline company or its sales affiliate makes natural gas sales as a merchant in
the future, it will do so pursuant to a blanket sales certificate that puts
those entities in direct competition with all other sellers pursuant to private
contracts, however, pipeline companies were not required by Order 636 to remain
merchants of natural gas, and several of the interstate pipeline companies have
elected to become transporters only. The FERC required that each pipeline
company develop the specific terms of service in individual restructuring
proceedings by means of a compliance filing that set forth the pipeline
company's new, detailed procedures. In subsequent orders, the

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<PAGE> 40

FERC largely affirmed the significant features of Order 636 and denied requests
for stay of the implementation of the new rules pending judicial review. Order
636, as well as the FERC orders approving the individual pipeline restructuring
proceedings, are the subject of numerous appeals to the United States Courts of
Appeals. The outcome of such proceedings and the ultimate impact that they may
have on the Company's business is uncertain.

Regulation of the Company's Facilities. The Company's operations can be
affected significantly by government regulation. Its pipeline systems are
regulated by federal, state and local regulatory agencies. These regulations are
extremely complex and subject to changing administrative interpretations. The
Company's pipeline operations are generally not subject to regulation by the
FERC which is an independent commission within the Department of Energy that has
authority over the transportation and marketing of various categories of natural
gas sold in interstate commerce. The production and sale of oil and gas is
subject to federal, state and local governmental regulations including the
imposition of excise taxes, the prevention of waste, pollution controls,
conservation of natural resources and maximum daily production allowables for
oil and gas wells.

The Company's operations are further subject to regulation by various
agencies of the states in which the Company operates. As in the case of
potential federal regulatory changes, there can be no assurances that state
regulatory measures will not adversely affect the Company's business and
financial condition. In such events, the state's regulatory authorities could
temporarily suspend or hinder operations in a particular state, depending on the
authority's view of its jurisdiction. Although, regulators at the state level
have generally followed the FERC's lead by allowing increased competition behind
LDCs, there can be no assurance that every state will follow this practice
without the pressure of litigation. State regulatory requirements and policies
vary from state to state. The regulatory requirements of Texas, Kansas,
Louisiana, Mississippi, New York, Alabama and Tennessee have the greatest impact
on the Company due to the concentration of the Company's operations in those
states. See "Risk Factors."

The Company's operations in Texas are subject to the Texas Gas Utility
Regulatory Act, as implemented by the Texas Railroad Commission. Generally, the
Texas Railroad Commission is vested with authority to ensure that rates charged
for natural gas sales and transportation services are just and reasonable. The
Company must make filings with the Texas Railroad Commission for all new and
increased rates.

The Company's operations in Kansas are subject to the jurisdiction of the
Kansas Corporation Commission (the "KCC") with regard to pipeline safety
standards and certification procedures. The KCC has granted the Company
Certificates of Public Convenience and Necessity for its pipelines in Kansas.

The State of Louisiana Office of Conservation, Pipeline Division has safety
and certification jurisdiction over the Company's operations in Louisiana. The
Company was granted Certificates of Transportation, to Interconnect, and to
Construct and Operate its system in Louisiana.

The State of New York Public Service Commission has safety and
certification jurisdiction over the Company's New York operations and has
granted a Certificate of Public Necessity and Convenience for the Albany system.

The Magnolia System in Alabama is subject to the jurisdiction of the FERC
with respect to the transportation rates under Section 311(a)(2) of the NGA.
This pipeline and the Company's other pipelines in Alabama are subject to the
jurisdiction of the Alabama Public Service Commission-Pipeline Safety Section
with regard to operational, environmental and safety considerations.

The Company's operations in Mississippi, Oklahoma and Tennessee are subject
to the jurisdiction of these state's respective Public Service Commissions with
regard to operational, environmental and safety considerations.

Environmental and Safety Matters. The Company's activities in connection
with the operation and construction of pipelines and other facilities for
transporting, processing, treating or storing natural gas and other products are
subject to environmental and safety regulation by numerous federal, state and
local authorities. This can include ongoing oversight regulation as well as
construction or other permits and

40
<PAGE> 41

clearances which must be granted in connection with new projects or expansions.
On the federal level, these agencies can include the Environmental Protection
Agency ("EPA"), the Occupational Safety and Health Administration, the U.S. Army
Corp of Engineers, the U.S. Fish and Wildlife Service and others. State
regulatory agencies or boards can include various air and water quality control
boards, historical and cultural resources offices, fish and game services and
others. These regulations can increase the cost of planning, designing, initial
installation and the operations of such facilities. Sanctions for violation of
these regulations include a variety of civil and criminal enforcement measures
including monetary penalties, assessment and remediation requirements and
injunctions as to future compliance. The following is a discussion of certain
environmental and safety concerns related to the Company. It is not intended to
constitute a complete discussion of the various federal, state and local
statutes, rules, regulations, or orders to which the Company's operations may be
subject.

In most instances, the regulatory requirements of, including, without
limitation, those state agencies mentioned above and the EPA, relate to the
release of substances into the environment and include measures to control water
and air pollution. Moreover, the Company, without regard to fault, could incur
liability under the Comprehensive Environmental Response, Compensation, and
Liability Act of 1980, as amended, or state counterparts, in connection with the
disposal or other releases of hazardous substances. Further, the recent trend in
environmental legislation and regulations is toward stricter standards, and this
will likely continue in the future.

Environmental laws and regulations may also require the acquisition of a
permit before certain activities may be conducted by the Company. Further, these
laws and regulations may limit or prohibit activities on certain lands lying
within wilderness areas, wetlands, areas providing habitat for certain species
or other protected areas. As an employer, the Company is required to maintain a
workplace free of recognized hazards likely to cause death or serious injury and
to comply with specific safety standards. The Company is also subject to other
federal, state and local laws covering the handling, storage or discharge of
materials used by the Company, or otherwise relating to protection of the
environment, safety and health.

Management believes, based on its current knowledge, that the Company has
obtained and is in current compliance with all necessary and material permits
and that the Company is in substantial compliance with applicable material
environmental and safety regulations.

The Company maintains insurance coverages that it believes are customary in
the industry, although it is not fully insured against all environmental and
safety risks. The Company is not aware of any existing environmental or safety
claims that would have a material impact upon its financial position or results
of operations. See "-- Insurance."

INSURANCE

The Company presently maintains general comprehensive liability insurance
coverage with aggregate policy limits of $21,000,000 and per accident policy
limits of $11,000,000 which includes, among other items and subject to certain
conditions, coverage for pollution and waste disposal. The Company maintains
property insurance considered to be customary in the industry. There can be no
assurance, though, that insurance coverage will be available or adequate for any
particular risk or loss. Although, management believes that the Company's assets
are adequately covered by insurance, a substantial uninsured loss could have a
materially adverse impact on the Company and its financial position.

LEGAL PROCEEDINGS

The Company is currently involved in certain routine litigation. Management
believes that all such litigation arose in the ordinary course of business and
that costs of settlements or judgments arising from such suits will not have a
material adverse effect on the Company's consolidated financial position or
results of operations.

41
<PAGE> 42

EMPLOYEES, CONTRACT EMPLOYEES AND CONTRACT SERVICE ORGANIZATIONS

As of August 5, 1996, the Company had 14 full-time employees, one part-time
employee, and two month-to-month contract employees. The Company also has
arrangements with ten other nonaffiliated independent pipeline operating
companies, or individuals performing a similar service, who service and operate
the Company's extensive field operations and provide for emergency response
measures. The Company is not party to any collective bargaining agreements.
There have been no significant labor disputes in the past and the Company
considers its relations with employees to be excellent.

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

42
<PAGE> 43

MANAGEMENT

DIRECTORS AND EXECUTIVE OFFICERS

The following table sets forth certain information concerning the directors
and executive officers of the Company. Each director holds office until the
first annual meeting of stockholders is held after his election or until his
successor is elected or appointed and qualified.

<TABLE>
<CAPTION>
OFFICER OR
DIRECTOR
NAME AGE POSITION SINCE
-------------------------------- --- -------------------------------- ----------
<S> <C> <C> <C>
Dan C. Tutcher.................. 47 Chairman of the Board, President 1992
and Chief Executive Officer
E.P. Marinos.................... 53 Director 1996
Richard N. Richards............. 49 Director 1996
Duane S. Herbst................. 32 Secretary 1992
I.J. Berthelot, II.............. 36 Vice President of Operations and 1995
Chief Engineer
Richard A. Robert............... 30 Chief Financial Officer and 1996
Treasurer
</TABLE>

Dan C. Tutcher has been Chairman of the Board, President and Chief
Executive Officer since the Company's incorporation in 1992 and Treasurer from
1995 to 1996. Since 1989 Mr. Tutcher has also been President and Chief Executive
Officer of Magic Gas. Prior to its merger into the Company, in 1992, Mr. Tutcher
served as a Director of Nugget, from 1990 to 1992. See "Business and
Properties -- General." He also has held various positions in companies which
constructed pipelines and marketed gas, such as Gulf Gas Utilities, Inc. and
Wildhorn Corporation, where he served as Vice President from 1987 through 1989
and as President from 1984 through 1993, respectively. Mr. Tutcher holds a
Bachelors of Business Administration degree in General Business from Washburn
University.

E. P. Marinos has served as a director of the Company since July 1996. Mr.
Marinos is currently the Chief Executive Officer and Director of Arrhythmia
Research Technology, Inc., a publicly traded medical device manufacturing
company. From 1991 to 1994, Mr. Marinos was President and Chief Executive
Officer of AMT/EMP Associates, a consulting company which provided strategic
planning, mergers and acquisition consulting and organizational restructuring
consulting services to its clients. Prior to 1991, he served as Senior Vice
President of Finance and Administration of Cornerstone Natural Gas, Inc.
(formerly Endevco, Inc.), a publicly traded integrated natural gas gathering,
transmission and marketing pipeline company. Mr. Marinos was also a partner in
the accounting firm of Deloitte & Touche LLP (formerly Touche Ross & Co.) from
1975 to 1982. He holds a Bachelors of Science degree Finance and Accounting from
Wayne State University. Mr. Marinos is a certified public accountant and is a
member of the Texas Society of Certified Public Accountants and the Michigan
Society of Certified Public Accountants. Mr. Marinos has provided consulting
services to the Company from time to time.

Richard N. Richards, Captain, U.S. Navy (retired), has served as a director
of the Company since July 1996. Mr. Richards has been with NASA since 1980. Mr.
Richards was an astronaut with NASA until 1995 and flew one mission as pilot and
commanded three missions of the space shuttles Discovery and Columbia. Since
1995, Mr. Richards has been designated as the Mission Director/Manager for the
second Hubbel Space Telescope Servicing Space Shuttle Mission and Mission
Manager for the second Tethered Satellite System Space Shuttle Mission. He holds
a Bachelors of Science degree in Chemical Engineering from University of
Missouri and a Masters of Science in Aeronautical Systems from the University of
West Florida.

Duane S. Herbst is an officer of the Company in a part-time capacity. As
such, he has been Secretary of the Company since its incorporation in 1992. From
April 1992 until its merger with the Company in September 1992 he held the
office of President of Nugget. See "Business and Properties -- General." From
1989 to the date hereof he has been Vice President of Rainbow. Mr. Herbst has
also held the office of

43
<PAGE> 44

Secretary of Texline since 1993. He holds a Masters of Business Administration
from the University of Texas and a Bachelors of Science degree in Finance from
Trinity University.

I. J. "Chip" Berthelot, II is Vice President of Operations and Chief
Engineer and has been with the Company since the Company's incorporation in
1992. Mr. Berthelot joined the Company as Chief Engineer and became Vice
President of Operations and Chief Engineer in 1995. From 1991 to 1992 he was a
gas contracts representative with Mitchell Energy & Development Co., a publicly
traded company. Prior to 1991 Mr. Berthelot was with Texline as a gas contracts
representative and engineer for the period from 1990 to 1991. He is a
Professional Engineer, licensed in Texas and holds a Bachelors of Science degree
in Petroleum and Natural Gas Engineering from Texas A&I University.

Richard A. Robert is Chief Financial Officer and Treasurer and has been
with the Company since 1992. Mr. Robert joined the Company as Controller and
became Chief Financial Officer and Treasurer in 1996. From 1988 to 1992 Mr.
Robert was an audit associate in the energy audit division of Arthur Anderson
and Co. Mr. Robert is a certified public accountant and is a member of the Texas
Society of Certified Public Accountants. He holds a Bachelors of Business
Administration degree in Accounting from Southwest Texas State University.

EXECUTIVE COMPENSATION

The following table reflects all forms of compensation for services to the
Company for the years ended December 31, 1995, 1994 and 1993 of the Chief
Executive Officer of the Company. During 1993 and 1994 the only executive
officer to receive a salary was Mr. Tutcher. During 1995, 1994 and 1993 no other
executive officers received compensation, including bonuses, which exceeded
$100,000.

<TABLE>
<CAPTION>
ANNUAL
COMPENSATION
NAME AND PRINCIPAL ----------------
POSITION YEAR SALARY
------------------------------------------------------------------- ---- --------
<S> <C> <C>
Dan C. Tutcher,
(Chief Executive Officer)(1)..................................... 1995 $125,000
1994 $125,000
1993 $ 62,500
</TABLE>

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

(1) The Company provides Mr. Tutcher certain personal benefits including
payments for a car allowance. Since the value of such benefits did not
exceed the lesser of $50,000 or 10% of annual compensation, the amounts are
omitted.

Additionally, the Company has not granted any options to any officers or
directors of the Company. Furthermore, the Company does not propose to issue any
such options in the foreseeable future, other than those options that may be
granted pursuant to the 1996 Incentive Stock Plan.

Pursuant to separate shareholder's agreements dated April 30, 1994 by and
between the Company and I.J. Berthelot, II, Richard A. Robert and Duane S.
Herbst, each officer was respectively, issued 11,152, 11,152, and 6,691 shares,
of the Company's Common Stock as additional consideration for their services to
the Company. Such shares, reduced each year pursuant to a vesting schedule, are
subject to the Company's repurchase upon the termination of the respective
officer's employment, for any reason, after a 30-day notice period.

Executive Employment Contracts. In January 1993, and as subsequently
amended in April 1993, Mr. Tutcher, the Chief Executive Office and President of
the Company, entered into a five-year employment agreement with the Company
pursuant to which he is to receive an annual base salary of $125,000, beginning
July 1, 1993, and may participate in any such executive level bonuses or salary
increases as the Board may approve. Mr. Tutcher is also entitled to
reimbursement for reasonable automobile expenses not to exceed $500 each month
and is eligible for participation in the Company's group insurance plans. Mr.
Tutcher is required to devote his full business time and attention to the
Company.

44
<PAGE> 45

In April 1995, and subsequently amended in December 1995, I.J. Berthelot,
II, Vice President of Operations and Chief Engineer, entered into a four-year
employment agreement with the Company. Pursuant to the employment agreement Mr.
Berthelot is to receive an annual base salary of $55,200, to be increased a
minimum of 10% annually, beginning on April 17, 1996. Mr. Berthelot was also
awarded 57,992 shares of the Company's Common Stock as consideration for
executing the agreement. Such shares, reduced each year pursuant to a vesting
schedule, are subject to the Company's repurchase upon the termination of Mr.
Berthelot's employment with the Company for any reason. Mr. Berthelot is
required to devote his full business time and attention to the Company.

In April 1994, and subsequently amended in April 1996, Richard A. Robert,
Chief Financial Officer and Treasurer, entered into a three-year employment
agreement with the Company. Pursuant to the employment agreement, Mr. Robert is
to receive an annual base salary of $69,000, to be increased a minimum of 10%
annually, beginning on April 8, 1997. Mr. Robert was also awarded 8,921 shares
of the Company's Common Stock as consideration for executing the agreement. Such
shares, reduced each year pursuant to a vesting schedule, are subject to the
Company's repurchase upon the termination of Mr. Robert's employment with the
Company for any reason. Mr. Robert is required to devote his full business time
and attention to the Company.

In May 1996, Duane S. Herbst, Secretary, began receiving an annual salary
from the Company of $24,000 per year for his part-time services as Secretary.
Previously, the Company had a month-to-month arrangement which provided a
monthly payment of $1,050 to compensate Rainbow for the Company's use of the
time of Mr. Herbst.

DIRECTOR COMPENSATION AND BOARD COMMITTEES

During the year ended December 31, 1995, the Board met 13 times. Each
director attended all Board meetings either in person or by telephonic
conference. In the past directors have not received any compensation for serving
as directors. However, in July 1996, Messrs. Marinos and Richards were each
issued a stock grant, in consideration for their future services, of 2,007
shares of the Company's Common Stock. These stock grants will vest ratably over
a three-year period. Subsequent to the effective date of the Offering, the
Company intends to pay a quarterly and meeting fee of $500 and a committee
meeting fee of $500 to the outside directors for their services.

Audit Committee. The Company's Board has established an Audit Committee.
The Committee's functions will include reviewing internal controls and
recommending to the Board the engagement of the Company's independent certified
public accountants, reviewing with such accountants a plan for and results of
their examination of the financial statements, and determining the independence
of such accountants. The Audit Committee members consist of Messrs. Marinos and
Richards.

Compensation Committee. The Company's Board has established a Compensation
Committee. The Compensation Committee will propose and administer the Company's
1996 Incentive Stock Plan. In this capacity, the Compensation Committee will
recommend all option grants or awards to Company officers, executives,
consultants and employees. The Compensation Committee will also recommend the
establishment of policies dealing with various compensation, including
compensation of executive officers, and pension and profit sharing plans,
although at this time no such plans have been created. The Compensation
Committee members consist of Messrs. Marinos and Richards.

1996 Incentive Stock Plan. In 1996, the Board adopted the Midcoast Energy
Resources, Inc. 1996 Incentive Stock Plan (the "Incentive Plan"). The purpose of
the Incentive Plan is to (i) align the personal financial incentives of the
employees and consultants of the Company and its subsidiaries ("Participants")
with the long-term growth of the Company and the interests of the Company's
stockholders through the ownership and performance of the Company's Common Stock
and (ii) enhance the ability of the Company and its subsidiaries to attract and
retain employees who share primary responsibility for the Company's management
and growth. All employees, including officers (whether or not directors) and
consultants of the Company and its subsidiaries are currently eligible to
participate in the Incentive Plan. Persons who are not in

45
<PAGE> 46

an employment or consulting relationship with the Company or any of its
subsidiaries, including non-employee directors, are not eligible to participate
in the Incentive Plan.

Under the Incentive Plan, the Compensation Committee may grant Participants
incentive awards (the "Incentive Awards") with respect to a number of shares of
Common Stock that in the aggregate does not exceed 200,000 shares of Common
Stock, subject to adjustment upon the occurrence of certain recapitalizations of
the Company.

The Incentive Plan provides for the grant of (i) options, both incentive
stock options and non-qualified options, (ii) shares of restricted stock, (iii)
performance awards payable in cash or Common Stock, (iv) shares of phantom
stock, and (v) stock bonuses (collectively, the "Incentive Awards"). In
addition, the Incentive Plan provides for the grant of cash bonuses payable when
a Participant is required to recognize income for federal income tax purposes in
connection with the vesting of shares of restricted stock or the issuance of
shares of Common Stock upon the grant of a performance award or a stock bonus,
provided, that such cash bonus may not exceed the fair market value (as defined)
of the shares of Common Stock received on the grant or exercise, as the case may
be, of an Incentive Award. No Incentive Award may be granted under the Incentive
Plan after ten years from the Incentive Plan adoption date. All options granted
to consultants shall be non-qualified options.

The Compensation Committee is authorized to make Incentive Awards under the
Incentive Plan to all Participants, including officers (whether or not they are
also directors), of the Company and its subsidiaries. The Compensation Committee
determines which persons receive grants of Incentive Awards, the type of
Incentive Award granted and the number of shares subject to each Incentive
Award. The Incentive Plan does not prescribe, and the Compensation Committee has
not adopted, any fixed criteria to be evaluated in determining the number of
shares of Common Stock subject to any Incentive Award; provided, however, that
the maximum number of shares of Common Stock which can be granted to any one
individual during any calendar year is 50,000 shares. This maximum limitation is
intended to comply with Section 162(m) of the Code, so as to preserve the
deductibility by the Company of compensation generated by the exercise of non-
qualified stock options (or a disqualifying disposition of incentive stock
options) granted to certain executive officers of the Company. Subject to the
terms of the Incentive Plan, the Compensation Committee also determines the
prices, expiration dates, vesting schedules and other material features of the
Incentive Awards granted under the Incentive Plan.

The Compensation Committee has the authority to interpret and construe any
provision of the Incentive Plan and to adopt such rules and regulations for
administering the Incentive Plan as it deems necessary. All decisions and
determinations of the Compensation Committee are final and binding on all
parties. The Company has agreed to indemnify each member of the Compensation
Committee against any cost, expense or liability arising out of any action,
omission or determination relating to the Incentive Plan, unless such action,
omission or determination was taken or made in bad faith and without reasonable
belief that it was in the best interest of the Company.

Each stock option is exercisable on such date or dates as determined by the
Compensation Committee at the time of grant (subject to earlier termination
under the Incentive Plan); provided, however, no option is exercisable prior to
six months from the date of grant or after ten years from such date of grant.
The exercise price of each stock option is determined by the Compensation
Committee, but such price may not be less than the fair market value (as
defined) of the shares of Common Stock as of the date of grant. On the
occurrence of a change in control (as defined), each such option becomes
immediately exercisable.

A grant of shares of restricted stock represents the promise of the Company
to issue shares of Common Stock on a predetermined date, which shares vest on a
second predetermined date. On the occurrence of a change in control (as
defined), any unvested grants will vest automatically. A grant of a Performance
Award (as defined) represents the promise of the Company to pay a certain amount
in cash or Common Stock (as determined by the Committee), which award is
contingent upon the future performance of the Company, its subsidiaries or any
division, department, or combination thereof. The Committee establishes (i) the
maximum value to be granted pursuant to such Performance Award (as defined),
(ii) the performance period to which the award relates and (iii) the performance
measures and targets associated with the applicable

46
<PAGE> 47

performance period. A share of phantom stock represents the right to receive the
economic equivalent of a grant of restricted stock and is subject to the same
vesting requirements. The value of a share of phantom stock is payable
immediately on the occurrence of a change in control (as defined). Bonuses
payable in stock may be granted by the Compensation Committee and may be payable
at such times and subject to such conditions as the Compensation Committee
determines.

The Incentive Plan provides for an adjustment in the number of shares of
Common Stock to be issued under the Incentive Plan, the number of shares subject
to any Incentive Award and the exercise prices of certain Incentive Awards on a
subdivision or consolidation of shares of the Company or the payment of a stock
dividend without receipt of consideration by the Company. The Incentive Plan
provides for certain other adjustments and rights to cash out holders of
Incentive Awards on the occurrence of certain transactions involving the Company
including, without limitation, a merger, consolidation or recapitalization of
the Company, or other similar event that affects the issued and outstanding
shares of Common Stock.

CERTAIN TRANSACTIONS

The Company has obtained financing from former officers, directors and
affiliates in connection with the acquisition and construction of pipelines.
This financing enabled the Company to take advantage of pipeline acquisition
opportunities that would have otherwise been unavailable to the Company because
no other source or no less costly source of financing may have been available to
the Company at the time such opportunities arose. It is management's belief that
under such circumstances these transactions with affiliates were fair and
equitable to the Company. All indebtedness to non-affiliated third parties has
been personally guaranteed by Dan C. Tutcher, Chairman of the Board, President
and Chief Executive Officer, Stevens G. Herbst and Kenneth B. Holmes, Jr.,
principal stockholders of the Company. No future transaction will be entered
into between the Company and members of management or affiliates. Set forth
below are descriptions of such transactions:

Five Flags System. In December 1992, the Company acquired 100% of the
outstanding capital stock of Five Flags from Harbert Holdings No. One, Inc. for
a cash payment of $1,078,409. The principal assets of Five Flags consisted of
approximately 57 miles of natural gas pipelines located in Escambia and Santa
Rosa Counties, Florida. In September 1993, all of the outstanding capital stock
of Five Flags was sold to Sunshine. In 1995, the Company and Rainbow jointly
re-acquired 100% of the outstanding capital stock of Five Flags from Five Flags
Holding Company. Total cash consideration of $2,052,000 was paid for the stock,
of which the Company's share representing 91.25% interest in Five Flags capital
stock was acquired for $1,872,450. Rainbow's ownership interest amounted to an
8.75% interest in the stock acquired for $179,550. To finance this transaction,
the Company borrowed funds from Stevens G. Herbst, a former officer and director
of the Company (the "Herbst Note"). The promissory note between the Company and
Mr. Herbst called for monthly payments of interest beginning April 1, 1996
through December 31, 1996 at which time both principal and all accrued interest
would be due in full. Interest on the Herbst Note accrued at the prime rate plus
2%. Shortly after acquiring Five Flags stock the Company and Rainbow sold 100%
of the capital stock of Five Flags to Koch for $4,664,865. A portion of the
proceeds from the sale were used to repay the Herbst Note of $1,872,450 plus
accrued interest and certain other notes associated with the acquisition of
Magnolia. See "Business and Properties -- Pipeline Construction, Acquisition and
Disposition."

Project Refinancing. In December, 1994, Texline loaned the Company $275,000
pursuant to an unsecured promissory note between Texline and the Company (as
amended, the "Texline Note"). The Texline Note provides for monthly payments of
accrued interest at Mercantile Bank, N.A. -- Corpus Christi prime plus 1.5%
(10.75% at March 31, 1996). The Texline Note matures on April 1, 1997. Total
payments of principal and interest amounted to $75,000 and $30,057 in 1995 and
1996, respectively. The principal balance due to Texline at March 31, 1996, was
$200,000. The proceeds of such indebtedness were used by the Company for general
corporate purposes, including the repayment of indebtedness associated with
project financings for the construction of certain pipeline systems and for
various pipeline system acquisitions. All amounts outstanding under this note
will be repaid with the net proceeds of this Offering. See "Use of Proceeds."

47
<PAGE> 48

Cook Inlet Pipeline Construction. In addition to the Texline Note, Texline
provided short-term loans to fund the Company's investment in Alaska until the
Company could obtain long-term bank financing. During 1994, short-term loans
were made by Texline for such purpose, accruing at the prime rate plus 5%. A
total of $316,250 in principal was loaned to the Company which was subsequently
repaid to Texline in 1994, including interest in the amount of $4,005.

Texline and Rainbow also provided approximately $1,000,000 in certificates
of deposit and U.S. Treasury Bills as security for obtaining the initial
long-term bank financing for the Company's Alaska investment. In consideration
for providing such security, the Company assigned a 3% and a 2% net revenue
interest to Texline and Rainbow, respectively, on the net income derived from
the Company's investment in the Cook Inlet Systems. However, the net revenue
interests apply only after all costs associated with the investment have been
recouped by the Company. As a result, at the date hereof, no amounts have been
paid under either assignment of the net revenue interests. The collateral was
subsequently released after approximately eight months when the Company obtained
new bank financing in December 1994.

Magnolia System Acquisition. In connection with the acquisition of Magnolia
in 1995, the Company borrowed $1,200,000 from Rainbow (the "Rainbow Note") to
finance the purchase price of the stock of Magnolia. Funds from the Rainbow Note
together with proceeds from the sale of the Five Flags stock to Koch, were used
to repay the owner financing from Williams, for the purchase of Magnolia. See
"Business and Properties -- Pipeline Construction, Acquisition and Disposition."
The Rainbow Note provided for interest at the prime rate plus 5% and was due and
payable monthly beginning April 1, 1996, with a final maturity of January 31,
1997. As additional consideration for extending the funds borrowed under the
Rainbow Note, the Company granted Rainbow a 5% net revenue interest in
Magnolia's earnings before interest, income taxes and depreciation, to be paid
on a monthly basis. The net revenue interest, as amended in May 1996, applies
only after all costs associated with the acquisition have been recouped by the
Company. The Company has the right to repurchase this net revenue interest from
Rainbow for a cash payment of $25,000. However, the repurchase amount is
increased an additional $25,000 on November 1, 1995 and each following month up
to a maximum of $500,000. The Rainbow Note was paid in full on December 20,
1995, including accrued interest in the amount of $35,260. To date, no payments
have been made towards the net revenue interest. The Company intends to
repurchase this net revenue interest from Rainbow with net proceeds of this
Offering. See "Use of Proceeds."

Additional Project Refinancing. Rainbow also loaned the Company a total of
$660,000 in December 1995 for general corporate purposes pursuant to an
unsecured promissory note accruing interest at the prime rate plus 5%. All
amounts under this note were due and payable on January 1, 1997. On January 12,
1996 the Company repaid all principal amounts due under the note to Rainbow as
well as accrued interest in the amount of $4,039. The proceeds of such
indebtedness were used by the Company for general corporate purposes including
the repayment of indebtedness associated with project financings for the
construction of certain pipeline systems and for various pipeline system
acquisitions.

Seahawk Acquisition. In connection with the acquisition of certain pipeline
systems in March 1996, the Company borrowed $100,000 from Rainbow for its equity
contribution to Pan Grande pursuant to a promissory note between the Company and
Rainbow (as amended, the "Pan Grande Note"). The Pan Grande Note bears interest
at the prime rate plus 2.5%. The Pan Grande Note is secured by the Company's
interest in Pan Grande and is payable in 59 monthly installments of $1,667 and
accrued interest and a final installment at March 15, 2001 in the amount of the
remaining principal plus accrued interest. All amounts outstanding under the Pan
Grande Note will be repaid with the net proceeds of this Offering. See "Use of
Proceeds." Rainbow has committed to loan up to an additional $75,000 in the
event the Salt Creek System is purchased. In consideration for the financing of
the equity contribution and the commitment for additional financing, the Company
issued Rainbow 4,460 shares of the Company's Common Stock. See "Business and
Properties -- Pipeline Construction, Acquisition and Disposition."

Exxon Production Acquisition. In May 1995, Texline provided a $173,822 loan
to partially finance the acquisition of a working interest in oil and gas
production from two leases located in Starr County, Texas from Exxon. The loan,
as amended in March 1996, matures on April 1, 1997. No collateral was required
to obtain

48
<PAGE> 49

this loan, although, as additional consideration for obtaining the loan, Texline
was assigned a .5% working interest in the oil and gas properties. Monthly note
payments in the amount of 25% of the Company's net revenue from the production
from these properties are paid to Texline. An additional .5% working interest in
the properties will be assigned to Texline if all principal and interest amounts
due under the loan are not paid by August 1, 1996. Total payments of interest
amounted to $3,346 and $7,477 in 1995 and through March 31, 1996, respectively.
All amounts outstanding under this note will be repaid with the net proceeds of
this Offering. See "Use of Proceeds."

Redemption of 5% Cumulative Preferred Stock. In May 1996, the Board
approved the redemption of the 5% cumulative preferred stock for $118,367, which
was 10% of the liquidation value, held by Magic (Dan Tutcher is the beneficial
owner of such shares), Stevens G. Herbst and Kenneth B. Holmes, Jr. As a result
of the redemption of the 5% cumulative preferred stock by the Company, Magic,
Mr. Herbst and Mr. Holmes were paid $59,183, $29,592, and $29,592 for the
redemption of 100,000, 50,000 and 50,000 shares, respectively. Subsequently, no
shares of the Company's preferred stock remain outstanding. Following the
redemption of the Company's 5% cumulative preferred stock, a majority of the
stockholders approved an amendment to the Articles of Incorporation to reflect
only one class of outstanding securities, the Company's Common Stock.

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

49
<PAGE> 50

PRINCIPAL STOCKHOLDERS

The following table sets forth information based upon the records of the
Company and filings with the Commission as of May 15, 1996, with respect to (i)
each person known to be the beneficial owner of more than 5% of the Company's
Common Stock, (ii) each executive officer and director of the Company, and (iii)
all directors and executive officers as a group.

<TABLE>
<CAPTION>
COMMON STOCK
----------------------------------------------
NUMBER OF PERCENTAGE OF
NAME AND ADDRESS SHARES OUTSTANDING PERCENTAGE AFTER
OF BENEFICIAL OWNER OWNED(1) SHARES OFFERING(2)
----------------------------------------------- --------- ------------- ----------------
<S> <C> <C> <C>
Magic Gas Corp.(3)............................. 611,240 40.7 24.4
1100 Louisiana, Suite 2950
Houston, Texas 77002
Dan C. Tutcher(4).............................. 611,240 40.7 24.4
1100 Louisiana, Suite 2950
Houston, Texas 77002
Stevens G. Herbst(5)(6)........................ 285,902 19.1 11.4
710 Buffalo, Suite 800
Corpus Christi, Texas 78401
Kenneth B. Holmes, Jr.(6)...................... 283,195 18.9 11.3
710 Buffalo, Suite 800
Corpus Christi, Texas 78401
I.J. Berthelot, II(7)(8)....................... 78,064 5.2 3.1
1100 Louisiana, Suite 2950
Houston, Texas 77002
Richard A. Robert(9)........................... 22,303 1.5 *
1100 Louisiana, Suite 2950
Houston, Texas 77002
Duane S. Herbst(10)............................ 11,151 * *
710 Buffalo, Suite 800
Corpus Christi, Texas 78401
E.P. Marinos(11)............................... 2,007 * *
2901 Sargent Street
Seabrook, Texas 77586
Richard N. Richards(11)........................ 2,007 * *
18610 Upper Bay Road
Houston, Texas 77058
All Directors and Executive Officers as a group
(6 persons).................................. 1,295,869 86.4 51.8
</TABLE>

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

* Denotes less than 1%.

(1) Except as otherwise noted, shares beneficially owned by each person as of
the record date were owned of record and each person had sole voting and
investment power with respect to all shares beneficially held by such
person.

(2) Excludes the issuance of shares of Common Stock on exercise of the
over-allotment option granted to the Underwriters.

(3) All of the outstanding stock of Magic is owned by Dan C. Tutcher and
Kimberly Tutcher as husband and wife.

(4) Includes 611,240 shares of Common Stock held of record by Magic, an
affiliate of Mr. Tutcher.

(5) Includes 4,460 shares held of record by Rainbow which is controlled by
Stevens G. Herbst.

(6) Stevens G. Herbst and Kenneth B. Holmes, Jr. are parties to an irrevocable
five-year voting proxy agreement pursuant to which all voting power of such
shares owned of record and beneficially by Messrs. Herbst and Holmes will
be voted by the trust department of a banking institution.

(7) Includes 50,185 shares which are subject to certain vesting requirements.

(8) Mr. Berthelot holds 1,338 shares as custodian for minor children under the
Uniform Gift to Minors Act.

(9) Includes 15,613 shares which are subject to certain vesting requirements.

(10) Includes 4,014 shares which are subject to certain vesting requirements.

(11) Messrs. Marinos and Richards were issued a stock grant of 2,007 shares on
July 1, 1996, the effective date of their service as directors. Such shares
are subject to certain vesting requirements. See "-- Directors Compensation
and Board Committees."

50
<PAGE> 51

VOTING PROXY AGREEMENT

In July 1996, Stevens G. Herbst, Kenneth B. Holmes, Jr. and the Company
entered into an irrevocable five-year voting proxy agreement. Pursuant to the
voting proxy agreement, all shares owned of record and beneficially by Messrs.
Herbst and Holmes will be voted by the trust department of a banking
institution. Pursuant to this agreement, the appointed proxy holder is empowered
and authorized to represent Messrs. Herbst and Holmes and to vote their shares
in the same proportion as all other shares of Common Stock are voted which are
held of record and beneficially by stockholders who are not officers, directors,
or Affiliates (as defined) of the Company. Messrs. Herbst and Holmes have
retained the power to receive dividends and sell their shares.

SHARES ELIGIBLE FOR FUTURE SALE

Upon completion of this Offering, the Company will have outstanding
2,500,000 shares of Common Stock. A substantial number of outstanding shares of
Common Stock and shares of Common Stock issuable upon exercise of Outstanding
Warrants will become eligible for future sale in the public market at prescribed
times. Sales of significant amounts of Common Stock in the public market
following this Offering could adversely affect prevailing market prices. Holders
of approximately 92% of the outstanding Common Stock and the Company (including
all officers and directors of the Company), have agreed not to sell such shares
for 18 months after the date of this Prospectus. Upon the expiration of such
agreements, approximately 1,352,530 shares will be eligible for sale pursuant to
Rule 144 under the Securities Act and 32,697 and 4,014 shares will be eligible
for sale pursuant to Rule 144 after 24 and 30 months, respectively, from the
date of this Prospectus. Additionally, holders of 110,759 shares of Common Stock
not subject to such lockup agreements may be sold pursuant to Rule 144 or 144(k)
under the Securities Act. See "Description of Securities" and "Underwriting."

Rule 144 governs resales of "restricted securities" for the account of any
person (other than an issuer), and restricted and unrestricted securities for
the account of an "affiliate" of the issuer. Restricted securities generally
include any securities acquired directly or indirectly from an issuer or its
affiliate which were not issued or sold in connection with a registered public
offering under the Securities Act. An affiliate of the issuer is any person who
directly or indirectly controls, is controlled by, or is under common control
with, the issuer. Affiliates of the Company generally include its directors,
executive officers, and persons directly or indirectly owning 10% or more of the
outstanding Common Stock. Under Rule 144, unregistered resales of restricted
Common Stock cannot be made until it has been held two years from the later of
its acquisition from the Company or an affiliate of the Company. Thereafter,
shares of restricted Common stock may be resold without registration subject to
Rule 144's volume limitation, aggregation, broker transaction, notice-filing
requirements, and requirements concerning publicly available information about
the Company (the "Applicable Requirements"). Resales by the Company's affiliates
of restricted and unrestricted Common Stock are subject to the Applicable
Requirements. The volume limitations provide that a person (or persons who must
aggregate their sales) cannot, within any three-month period, sell more than the
greater of 1% of then outstanding shares, or the average weekly reported trading
volume during the four calendar weeks preceding each such sale. A nonaffiliate
may resell restricted Common stock which has been held for three years free of
the Applicable Requirements.

The Company intends to register securities reserved for issuance under the
Incentive Plan on a Form S-8 filed with the Commission after the Registration
Statement on which this Prospectus is a part is declared effective by the
Commission. The registration statement on Form S-8 will automatically become
effective upon filing. Thus, shares registered under the registration statement
on Form S-8 will be available for sale in the open market, unless such shares
are subject to vesting restrictions with the Company. Any options held by
officer and directors of the Company will be subject to the contractual lockup
restrictions described above.

51
<PAGE> 52

Two principal stockholders, Stevens G. Herbst and Kenneth B. Holmes, Jr.,
each have certain piggyback registration rights with regard to shares of Common
Stock held by them, subject to underwriter's limitations. Their shares will be
released from such lockup agreements if the Company files a registration
statement in connection with an underwritten offering within 18 months of this
Offering. Should the number of shares to be registered in any underwritten
offering be cut-back by the underwriter in such registrations, the number of
shares offered by both the Company and the principal stockholders shall be
reduced proportionately. The Company will bear the expenses of such
registrations of the Common Stock, except for any underwriting discounts and
commissions.

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

52
<PAGE> 53

DESCRIPTION OF SECURITIES

GENERAL

In May 1996, a majority of the stockholders approved an amendment to the
Articles of Incorporation (the "Articles") to increase the authorized number of
shares from 6,000,000 shares of Common Stock, to 10,000,000 shares of Common
Stock and to eliminate all of the authorized number of shares of preferred
stock, par value $1.00 per share ("Preferred Stock"). The following summary
description of the Company's capital stock is not intended to be complete and is
subject to, and is qualified in its entirety by reference to, the Company's
Articles, as amended, and the Company's Bylaws, copies of which are filed as
exhibits to the Registration Statement of which this Prospectus forms a part.

COMMON STOCK

Holders of Common Stock are entitled to one vote per share on all matters
submitted to a vote of the stockholders of the Company. Except as may be
required by applicable law, holders of Common Stock will not vote separately as
a class, but will vote together with the holders of outstanding shares of other
classes of capital stock. A majority of the issued and outstanding Common Stock
constitutes a quorum at any meeting of stockholders and the vote by the holders
of a majority of the outstanding shares is required to effect certain
fundamental corporate changes such as liquidation, merger or amendment of the
Articles.

Holders of shares of Common Stock are entitled to receive dividends, if,
as, and when declared by the Board out of funds legally available therefore,
after payment of dividends required to be paid on any outstanding shares of
Preferred Stock. Upon liquidation of the Company, holders of shares of Common
Stock are entitled to share ratably in all assets of the Company remaining after
payment of liabilities, subject to the liquidation preferences rights of any
outstanding shares of Preferred Stock. Holders of shares of Common Stock have no
preemptive rights or other rights to subscribe for unissued or treasury shares
or securities convertible into shares. The outstanding shares of Common Stock
are fully paid and nonassessable.

PREFERRED STOCK

In May 1996, the Board approved the redemption of all outstanding shares of
the Preferred Stock for $118,367, which represents 10% of the liquidation value.
In May 1996, a majority of the stockholders approved an amendment to the
Articles to eliminate the Preferred Stock as authorized capital stock of the
Company.

OUTSTANDING WARRANTS

The Company has issued Outstanding Warrants to purchase 34,349 shares of
Common Stock at $7.85 per share, to be adjusted for any future split in the
shares of Common Stock, that expire in February 1999 in consideration for
services which have been and will continue to be provided by a consultant in
connection with the conventional, commercial financing or sale/leaseback of
certain Magnolia assets. The Outstanding Warrants are the subject of an 18 month
lockup agreement and have certain piggyback registration rights.

In connection with this Offering, the Company has agreed to sell to the
Representative, for nominal consideration, Representative's Warrants to purchase
from the Company up to an amount equal to 10% of the total number of shares of
Common Stock sold in this Offering for a period of three years, commencing 24
months from the effective date of the registration statement, at an exercise
price equal to 142% of the public offering price. See "Underwriting."

CERTAIN CORPORATE GOVERNANCE PROVISIONS

Limitation on Director Liability. As permitted by Section 78.037 of the
General Corporation Law of Nevada (the "NGCL"), the Company's Articles of
Incorporation eliminate the liability of its directors and officers to the
Company and its stockholders for damages for breach of fiduciary duty, except
for acts or omissions which involve intentional misconduct, fraud of a knowing
violation of law, or for the payment of dividends in violation of the NGCL; if
such a violation is willful or grossly negligent. To the extent that this
provision limits the remedies of the Company and its stockholders to equitable
remedies it might reduce the

53
<PAGE> 54

likelihood of derivative litigation and discourage the Company's management or
stockholders from initiating litigation against its directors or officers for
breach of their fiduciary duties. Additionally, equitable remedies may not be
effective in many situations. If a stockholder's only remedy is to enjoin the
completion of an action, such remedy would be ineffective if the stockholder
does not become aware of a transaction or event until after it has been
completed. In such a situation, it is possible that the Company and its
stockholders would have no effective remedy against the directors and officers.

Indemnification. To the maximum extent permitted by law, the Articles
provide for mandatory indemnification of directors and officers of the Company
against all expenses, liabilities and losses to which they may become subject or
which they may incur as a result of being or having been a director or officer
of the Company. The Company may also indemnify any employee or agent of the
Company to the fullest extent permitted by law. In addition, the Company must
advance or reimburse directors and officers and may advance or reimburse
employees and agents for expenses incurred by them in connection with
indemnifiable claims.

Insofar as indemnification for liabilities arising out of the Securities
Act may be permitted to directors, officers and controlling persons of the
Company pursuant to the foregoing provisions, the Company has been informed that
in the opinion of the Commission such indemnification is against public policy
as expressed in the Securities Act and is therefore unenforceable.

TRANSFER AGENT AND REGISTRAR

The transfer agent and registrar for the Company's Common Stock is KeyCorp
Shareholder Services, Inc., which will also be the transfer agent, registrar and
dividend disbursing agent for the Common Stock.

[BALANCE OF THIS PAGE INTENTIONALLY LEFT BLANK]

54
<PAGE> 55

UNDERWRITING

Subject to the terms and conditions set forth in the underwriting agreement
by and among the Company and the Underwriters (the "Underwriting Agreement"),
each of the Underwriters named below, has severally agreed to purchase from the
Company, and the Company has agreed to sell to the Underwriters, the aggregate
number of shares of Common Stock set forth below opposite each such
Underwriter's name, at the public offering price less the underwriting discounts
and commissions set forth on the cover page of this Prospectus.

<TABLE>
<CAPTION>
NUMBER OF
SHARES OF
UNDERWRITERS COMMON STOCK
------------ ------------
<S> <C>
Coleman and Company Securities, Inc. ................................ 333,334
Dickinson & Co. ..................................................... 333,333
Nolan Securities Corporation......................................... 333,333
---------
Total...................................................... 1,000,000
=========
</TABLE>

The Underwriting agreement provides that the obligations of the several
Underwriters to pay for and accept delivery of shares of Common Stock are
subject to certain conditions precedent, and that the several Underwriters will
purchase all of the Common Stock shown above if any of such shares of Common
Stock are purchased.

The Representative has advised the Company that the Underwriters propose
initially to offer the shares of Common Stock directly to the public at the
public offering price set forth on the cover page of this Prospectus and to
certain dealers at such price less a concession not in excess of $.50 per share.
The Underwriters may allow, and such dealers may reallow, a concession not in
excess of $.15 per share to certain other dealers. After the Offering, the
public offering price, concession and re-allowance may be changed.

The Company has granted to the Underwriters an option exercisable during
the 30-day period after the date of this Prospectus, to purchase up to an
aggregate of 150,000 additional shares of Common Stock at the public offering
price set forth on the cover page of the Prospectus, less the underwriting
discounts and commissions set forth on the cover page of this Prospectus. The
Underwriters may exercise this option only to cover over-allotments, if any,
made in connection with the sale of the shares of Common Stock offered hereby.
To the extent that the Underwriters exercise this option, each Underwriter will
be obligated, subject to certain conditions, to purchase the number of the
additional shares of Common Stock proportionate to such Underwriters initial
commitment reflected in the foregoing table.

The Company has agreed to pay the Representative a non-accountable expense
allowance equal to 1.65% of the gross proceeds of this Offering, $35,000 of
which has already been paid to cover some of the underwriting costs and due
diligence expenses related to this Offering.

The Company has agreed to permit the Representative to have an observer
attend the meetings of the Company's Board for a period of three years from the
date hereof. The Representative's observer will receive compensation of no more
than a maximum of $18,966 to be paid for such services during such three year
period, payable at the rate of $1,583 per meeting with a limit of payment for
four meetings per year.

The Company and the Underwriters have agreed to indemnify each other
against, or to contribute to losses arising out of, certain civil liabilities in
connection with this Offering, including liabilities under the Securities Act.

The Company and all current officers, directors, certain stockholders of
the Company and the holder of the Outstanding Warrants have agreed not to
publicly offer, sell, contract to sell or otherwise dispose of any shares of
Common Stock or rights to acquire shares of Common Stock without the prior
written consent of the Representative for a period of 18 months after the date
of this Prospectus. See "Risk Factors."

55
<PAGE> 56

Prior to this Offering there has been no public trading market for the
Company's shares of Common Stock. The public offering price of the shares of
Common Stock has been determined by negotiation between the Company and the
Representative. Factors considered in determining the public offering price, in
addition to prevailing market conditions, included the history of and prospects
for the industry in which the Company competes, an assessment of the Company's
management, the prospects of the Company, its capital structure and such other
factors as were deemed relevant.

The foregoing includes a summary of the principal terms of the Underwriting
Agreement and does not purport to be complete. Reference is made to the copy of
the Underwriting Agreement that is on file as an exhibit to the Registration
Statement of which this Prospectus is a part.

REPRESENTATIVE'S WARRANTS

The Company has agreed to sell the Representative's Warrants to the
Representative at a price of $.001 per warrant for each share of Common Stock
covered by the Representative's Warrants. The Representative's Warrants entitle
the Representative to purchase shares of Common Stock in an amount equal to 10%
of the total number of shares of Common Stock sold in this Offering (excluding
the Underwriter's over-allotment option). The shares of Common Stock subject to
the Representative's Warrants will be in all respects identical to the shares of
Common Stock offered to the public hereby. The Representative's Warrants will be
limited to a term of five years from the effective date of the Offering and will
be exercisable for a three year period commencing 24 months after the effective
date of the Registration Statement, of which this Prospectus is a part, at a per
share exercise price equal to 142% of the public offering price set forth on the
cover page of this Prospectus. The Representative's Warrants may not be sold,
assigned, transferred, pledged or hypothecated for a period of 12 months from
the effective date of the Registration Statement except to the Representative or
its officers. Pursuant to the terms of the Underwriting Agreement, the Company
is registering the shares of Common Stock issuable upon exercise of the
Representative's Warrants on the Registration Statement of which this Prospectus
is a part.

The Company has agreed to file, at its expense, during the period beginning
one year from the effective date of the Registration Statement of which this
Prospectus is a part, and ending five years after such date, on no more than one
occasion at the request of the holders of a majority of the Representative's
Warrants and the underlying shares of Common Stock, and to use its best efforts
to cause to become effective, a post-effective amendment to the Registration
Statement or a new registration statement under the Securities Act, as required
to permit the public sale of the shares of Common Stock issued or issuable upon
exercise of the Representative's Warrants. In addition, the Company has agreed
to give advance notice to holders of the Representative's Warrants of its
intention to file certain registration statements commencing one year and ending
five years after the effective date of the Registration Statement, and in such
case, holders of such Representative's Warrants or underlying shares of Common
Stock shall have the right to require the Company to include all or part of such
Common Stock underlying such Representative's Warrants in such registration
statement at the Company's expense.

For the life of the Representative's Warrants, the holders thereof are
given the opportunity to profit from a rise in the market price of the shares of
Common Stock, which may result in a dilution of the interests of other
stockholders. As a result, the Company may find it more difficult to raise
additional equity capital if it should be needed for the business of the Company
while the Representative's Warrants are outstanding. The holders of the
Representative's Warrants might be expected to exercise them at a time when the
Company would, in all likelihood, be able to obtain additional equity capital on
terms more favorable to the Company than those provided by the Representative's
Warrants. Any profit realized on the sale of the shares of Common Stock issuable
upon the exercise of the Representative's Warrants may be deemed additional
underwriting compensation.

56
<PAGE> 57

LEGAL MATTERS

The validity of the issuance of the Common Stock offered hereby has been
passed on for the Company by Porter & Hedges, L.L.P., Houston, Texas. Certain
legal matters related to this Offering will be passed on for the Underwriters by
Parker Chapin Flattau & Klimpl, LLP of New York, New York.

EXPERTS

The consolidated financial statements of the Company as of December 31,
1995 and 1994 and for each of the three years in the period ended December 31,
1995 included in this Prospectus have been audited by Hein + Associates LLP,
certified public accountants, as set forth in their report and is included
herein in reliance upon the authority of said firm as experts in accounting and
auditing.

57
<PAGE> 58

GLOSSARY

Certain terms used in this Prospectus have the meanings set forth below:

"Barrel or Bbl" means one stock tank barrel, or 42 U.S. gallons liquid
volume, and represents the basis unit for measuring crude oil or other
liquid hydrocarbons.

"BOPD" means barrels of oil per day.

"Bypass pipeline" means a pipeline built to provide an end-user of
quantities of natural gas, typically a chemical or manufacturing plant, an
alternative natural gas supply source to that offered by the local
distribution company or "LDC" by connecting the end-user to major
pipelines, thus by passing the LDC.

"Gross acre" means an acre in which a working interest is owned.

"Gross well" means a well in which a working interest is owned.

"LPG" means liquefied petroleum gas.

"Mcf" means thousand cubic feet of natural gas expressed, where gas
sales contracts are in effect, in terms of contractual temperature and
pressure bases and, where contracts are nonexistent, at 60 degrees
Fahrenheit and 14.65 pounds per square inch absolute.

"Mcf/d" means thousand cubic feet per day.

"MMBtu" means million British Thermal Units.

"MMBtu/d" means million British Thermal Units per day.

"MMcf" means million cubic feet.

"Mmcf/d" means million cubic feet per day.

"AMEX" means the American Stock Exchange, Inc.

"Net" when used in connection with the transportation of a quantity of
natural gas, means the total amount of gas transported multiplied by the
Company's interest in the joint venture or other entity that owns the
gathering and transportation system.

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

"Oil" means crude oil and condensate.

"Spot" means purchase or sale arrangements which are "best efforts" or
"interruptible" in nature and are typically for 30 days or less.

"Throughput" means the volume of gas transported or passing through a
pipeline or other facility.

"Volumes" as used herein means the amount of gas sold or transported
by the Company, unless otherwise stated. All volumes of natural gas
referred to in this Prospectus are stated at a pressure base of 14.65
pounds per square inch and a 60 degrees Fahrenheit and in most instances
are rounded to the nearest major multiple.

"Working interest" means the operating interest under an oil and gas
lease which gives the owner the right to drill, produce and conduct
operating activities on the property and a share of production, subject to
all royalties, overriding royalties and other burdens and to all costs of
exploration, development and operations and all risks in connection
therewith.

58
<PAGE> 59

MIDCOAST ENERGY RESOURCES, INC.

INDEX TO FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Independent Auditor's Report.......................................................... F-2
Consolidated Balance Sheets, December 31, 1994, 1995 and unaudited as of March 31,
1996................................................................................ F-3
Consolidated Statements of Operations for the Years Ended December 31, 1993, 1994,
1995 and unaudited for the three months ended March 31, 1995 and 1996............... F-4
Consolidated Statement of Shareholders' Equity for the Years Ended December 31, 1993,
1994, 1995 and unaudited for the three months ended March 31, 1996.................. F-5
Consolidated Statements of Cash Flows for the Years Ended December 31, 1993, 1994,
1995 and unaudited for the three months ended March 31, 1995 and 1996............... F-6
Notes to Consolidated Financial Statements............................................ F-7
</TABLE>

F-1
<PAGE> 60

INDEPENDENT AUDITOR'S REPORT

Board of Directors and Shareholders
Midcoast Energy Resources, Inc.
Houston, Texas

We have audited the accompanying consolidated balance sheets of Midcoast
Energy Resources, Inc. and subsidiaries as of December 31, 1994 and 1995, and
the related consolidated statements of operations, shareholders' equity and cash
flows for each of the years in the three-year period ended December 31, 1995.
These consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
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 audits 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Midcoast
Energy Resources, Inc., and subsidiaries as of December 31, 1994 and 1995, and
the results of their operations and their cash flows for each of the years in
the three-year period ended December 31, 1995 in conformity with generally
accepted accounting principles.

As discussed in Note 3 to the consolidated financial statements, the
Company changed its method of accounting for transportation and exchange
imbalances.

HEIN + ASSOCIATES LLP
Certified Public Accountants

Houston, Texas
February 12, 1996

F-2
<PAGE> 61

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

ASSETS

<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, MARCH 31,
1994 1995 1996
------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents........................ $ 65,921 $ 106,152 $ 939,500
Accounts receivable, no allowance for doubtful
accounts...................................... 1,996,087 2,319,667 2,116,775
Asset held for resale............................ -- 210,447 210,447
------------ ------------ ------------
Total current assets..................... 2,062,008 2,636,266 3,266,722
------------ ------------ ------------
PROPERTY, PLANT AND EQUIPMENT, at cost:
Natural gas transmission facilities.............. 3,990,406 7,365,421 7,422,770
Investment in transmission facilities............ 1,284,609 1,284,609 1,284,609
Oil and gas properties, using the full-cost
method of accounting.......................... 69,499 302,293 309,556
Other property and equipment..................... 84,679 85,819 108,167
------------ ------------ ------------
5,429,193 9,038,142 9,125,102
ACCUMULATED DEPRECIATION, DEPLETION AND
AMORTIZATION..................................... (434,777) (831,981) (953,895)
------------ ------------ ------------
4,994,416 8,206,161 8,171,207
DEFERRED CONTRACT COSTS AND OTHER ASSETS, net of
amortization..................................... 215,906 246,081 449,112
------------ ------------ ------------
Total assets............................. $ 7,272,330 $ 11,088,508 $ 11,887,041
============ ============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued liabilities......... $ 1,943,145 $ 2,086,138 $ 2,726,206
Current portion of deferred income............... 83,000 83,000 83,000
Short-term borrowing from bank................... 210,000 25,000 --
Current portion of long-term debt payable to:
Banks......................................... 930,692 540,998 878,645
Shareholders and affiliates................... -- -- 20,000
------------ ------------ ------------
Total current liabilities................ 3,166,837 2,735,136 3,707,851
------------ ------------ ------------
LONG-TERM DEBT PAYABLE TO:
Banks............................................ 1,505,771 2,926,947 2,988,588
Shareholders and affiliates...................... 275,000 1,033,822 453,822
------------ ------------ ------------
Total long-term debt..................... 1,780,771 3,960,769 3,442,410
------------ ------------ ------------
DEFERRED INCOME.................................... 318,167 235,167 214,417
COMMITMENTS AND CONTINGENCIES (Note 9)
SHAREHOLDERS' EQUITY (Note 10):
5% cumulative preferred stock, $1 par value, 1
million shares authorized, 200,000 shares
issued and outstanding with a liquidation
preference of $1,183,665...................... 200,000 200,000 200,000
Common stock, $.01 par value, 6 million shares
authorized, 1,402,334, 1,465,680 and 1,470,141
shares issued and outstanding at December 31,
1994, 1995 and March 31, 1996, respectively... 14,023 14,657 14,701
Paid-in capital.................................. 18,740,252 18,824,681 18,830,637
Accumulated deficit.............................. (16,909,320) (14,775,102) (14,416,175)
Unearned compensation............................ (38,400) (106,800) (106,800)
------------ ------------ ------------
Total shareholders' equity............... 2,006,555 4,157,436 4,522,363
------------ ------------ ------------
Total liabilities and shareholders'
equity................................. $ 7,272,330 $ 11,088,508 $ 11,887,041
============ ============ ============
</TABLE>

The accompanying notes are an integral part of these consolidated financial
statements.

F-3
<PAGE> 62

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
FOR THE YEAR ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
----------------------------------------- --------------------------
1993 1994 1995 1995 1996
----------- ----------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING REVENUES:
Sale of natural gas and transportation
fees.................................... $13,010,776 $14,901,222 $11,469,394 $ 2,903,098 $ 5,090,497
Sale of pipelines.......................... 2,400,000 60,586 4,092,850 -- 22,500
Sale of refined products................... 2,327,258 -- -- -- --
Oil and gas revenue........................ 18,645 6,902 60,046 1,742 50,769
----------- ----------- ----------- ---------- ----------
Total operating revenues........... 17,756,679 14,968,710 15,622,290 2,904,840 5,163,766
----------- ----------- ----------- ---------- ----------
OPERATING EXPENSES:
Cost of natural gas and transportation
charges................................. 11,792,889 13,459,465 9,895,793 2,501,151 4,304,681
Cost of pipelines sold..................... 1,244,217 48,606 1,909,624 -- 2,153
Cost of refined products................... 2,289,103 -- -- -- --
Production of oil and gas.................. 3,822 2,783 11,544 912 22,288
Depreciation, depletion and amortization... 264,249 259,440 451,551 85,320 136,328
General and administrative................. 888,965 849,002 784,653 181,809 190,720
----------- ----------- ----------- ---------- ----------
Total operating expenses........... 16,483,245 14,619,296 13,053,165 2,769,192 4,656,170
----------- ----------- ----------- ---------- ----------
Operating income................... 1,273,434 349,414 2,569,125 135,648 507,596
NON-OPERATING ITEMS:
Abandonment of pipelines (Note 16)......... (246,668) -- -- -- --
Interest expense........................... (177,566) (188,623) (339,324) (64,424) (114,669)
Other income (expense), net................ (31,401) (13,066) (36,400) (5,835) (19,245)
----------- ----------- ----------- ---------- ----------
INCOME BEFORE INCOME TAXES AND CUMULATIVE
EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE.................................. 817,799 147,725 2,193,401 65,389 373,682
PROVISION FOR INCOME TAXES (Note 11)......... (52,833) -- -- -- --
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE (Note 3)......................... -- (120,936) -- -- --
----------- ----------- ----------- ---------- ----------
Net income......................... 764,966 26,789 2,193,401 65,389 373,682
5% CUMULATIVE PREFERRED STOCK DIVIDENDS...... (59,183) (59,183) (59,183) (14,593) (14,755)
----------- ----------- ----------- ---------- ----------
NET INCOME (LOSS) APPLICABLE TO COMMON
SHAREHOLDERS............................... $ 705,783 $ (32,394) $ 2,134,218 $ 50,796 $ 358,927
=========== =========== =========== ========== ==========
NET INCOME (LOSS) PER COMMON SHARE (Note 2)
Operations................................. $ .52 $ .07 $ 1.48 $ .04 $ .24
Accounting principle change................ -- (.09) -- -- --
----------- ----------- ----------- ---------- ----------
$ .52 $ (.02) $ 1.48 $ .04 $ .24
=========== =========== =========== ========== ==========
PRO FORMA AMOUNTS ASSUMING THE CHANGE IN
ACCOUNTING PRINCIPLE IS APPLIED
RETROACTIVELY:
Net income................................. $ 644,030 $ 147,725
Net income to common shareholders.......... $ 584,847 $ 88,542
Net income per common share................ $ .43 $ .06
=========== ===========
WEIGHTED AVERAGE NUMBER OF COMMON SHARES
OUTSTANDING (Note 2)....................... 1,359,839 1,390,553 1,439,606 1,402,334 1,465,827
=========== =========== =========== ========== ==========
</TABLE>

The accompanying notes are an integral part of these consolidated financial
statements.

F-4
<PAGE> 63

MIDCOAST ENERGY RESOURCES INC., AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1993, 1994 AND 1995
AND THREE MONTHS ENDED MARCH 31, 1996

<TABLE>
<CAPTION>
5%
CUMULATIVE TOTAL
PREFERRED COMMON PAID-IN ACCUMULATED UNEARNED SHAREHOLDERS'
STOCK STOCK CAPITAL DEFICIT COMPENSATION EQUITY
---------- ------- ----------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, January 1, 1993.............. $200,000 $13,528 $18,683,957 $(17,582,709) $ -- $ 1,314,776
Issuance of 13,381 shares in
connection with employee stock
bonuses............................. -- 134 8,116 -- -- 8,250
Net income............................ -- -- -- 764,966 -- 764,966
5% cumulative preferred stock
dividends........................... -- -- -- (59,183) -- (59,183)
-------- ------- ----------- ------------ --------- ----------
BALANCE, December 31, 1993............ $200,000 $13,662 $18,692,073 $(16,876,926) $ -- $ 2,028,809
Issuance of 35,686 shares of which
7,137 shares are vested in
connection with employee shareholder
agreements (Note 15)................ -- 357 47,643 -- (38,400) 9,600
Issuance of 446 shares in connection
with an employee stock bonus........ -- 4 536 -- -- 540
Net income............................ -- -- -- 26,789 -- 26,789
5% cumulative preferred stock
dividends........................... -- -- -- (59,183) -- (59,183)
-------- ------- ----------- ------------ --------- ----------
BALANCE, December 31, 1994............ $200,000 $14,023 $18,740,252 $(16,909,320) $ (38,400) $ 2,006,555
Issuance of 57,991 shares which are
subject to a four year vesting
schedule in connection with an
employment agreement (Note 15)...... -- 580 77,420 -- (78,000) --
Issuance of 5,352 shares in connection
with employee stock bonuses......... -- 54 7,009 -- -- 7,063
Vesting of 7,137 shares in connection
with employee shareholder agreements
(Note 15)........................... -- -- -- -- 9,600 9,600
Net income............................ -- -- -- 2,193,401 -- 2,193,401
5% cumulative preferred stock
dividends........................... -- -- -- (59,183) -- (59,183)
-------- ------- ----------- ------------ --------- ----------
BALANCE, December 31, 1995............ $200,000 $14,657 $18,824,681 $(14,775,102) $ (106,800) $ 4,157,436
Issuance of 4,460 shares in connection
with a financing agreement with an
affiliate (Note 8).................. -- 44 5,956 -- -- 6,000
Net income (Unaudited)................ -- -- -- 373,682 -- 373,682
5% cumulative preferred stock
dividends........................... -- -- -- (14,755) -- (14,755)
-------- ------- ----------- ------------ --------- ----------
BALANCE, March 31, 1996 (Unaudited) $200,000 $14,701 $18,830,637 $(14,416,175) $ (106,800) $ 4,522,363
======== ======= =========== ============ ========= ==========
</TABLE>

The accompanying notes are an integral part of these consolidated financial
statements.

F-5
<PAGE> 64

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
FOR THE YEAR ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
--------------------------------------- -------------------------
1993 1994 1995 1995 1996
----------- ----------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) applicable to common
shareholders.................................. $ 705,783 $ (32,394) $ 2,134,218 $ 50,796 $ 358,927
Adjustments to arrive at net cash provided (used)
in operating activities --
Depreciation, depletion and amortization...... 264,249 259,440 451,551 85,320 136,328
Gain on sale of operating pipelines........... (1,155,783) (11,980) -- -- (20,347)
Abandonment of pipelines...................... 246,668 -- -- -- --
Recognition of deferred income................ -- 401,167 (83,000) (20,750) (20,750)
Increase in deferred tax asset................ -- -- (43,868) -- --
Cumulative effect of a change in accounting
principle................................... -- 120,936 -- -- --
(Income) loss from partnership investments.... 14,839 (5,575) -- -- (26,300)
Issuance of common stock to employees......... 8,250 10,140 16,663 -- --
Changes in working capital accounts --
(Increase) decrease in accounts
receivable............................... (903,508) 339,787 (321,155) 629,202 227,967
Increase (decrease) in accounts payable and
accrued liabilities...................... 1,634,494 (1,596,036) 206,455 (272,138) 652,376
----------- ----------- ----------- --------- -----------
Net cash provided (used) in operating
activities............................. 814,992 (514,515) 2,360,864 472,430 1,308,201
----------- ----------- ----------- --------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Sale of operating pipelines...................... 2,400,000 -- -- -- --
Investment in transmission facilities............ -- (1,284,609) -- -- --
Capital expenditures............................. (955,237) (1,088,117) (3,885,282) (248,929) (104,823)
Other............................................ (91,604) (5,917) (40,655) -- (184,318)
----------- ----------- ----------- --------- -----------
Net cash provided (used) in investing
activities............................. 1,353,159 (2,378,643) (3,925,937) (248,929) (289,141)
----------- ----------- ----------- --------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Bank debt borrowings............................. 1,899,000 5,448,000 5,857,505 715,000 1,653,000
Bank debt repayments............................. (2,395,303) (3,836,317) (5,011,023) (933,777) (1,278,712)
Proceeds from notes payable to shareholders and
affiliates.................................... -- 591,250 3,906,272 -- 100,000
Repayments on notes payable to shareholders and
affiliates.................................... (1,041,047) (316,250) (3,147,450) -- (660,000)
Issuance of notes payable........................ -- -- 3,200,000 -- --
Repayments on notes payable...................... -- -- (3,200,000) -- --
----------- ----------- ----------- --------- -----------
Net cash provided (used) in financing
activities............................. (1,537,350) 1,886,683 1,605,304 (218,777) (185,712)
----------- ----------- ----------- --------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS...................................... 630,801 (1,006,475) 40,231 4,724 833,348
----------- ----------- ----------- --------- -----------
CASH AND CASH EQUIVALENTS,
beginning of period.............................. 441,595 1,072,396 65,921 65,921 106,152
----------- ----------- ----------- --------- -----------
CASH AND CASH EQUIVALENTS,
end of period.................................... $ 1,072,396 $ 65,921 $ 106,152 $ 70,645 $ 939,500
=========== =========== =========== ========= ===========
CASH PAID FOR INTEREST............................. $ 180,271 $ 177,355 $ 323,376 $ 74,586 $ 137,722
=========== =========== =========== ========= ===========
CASH PAID FOR INCOME TAXES......................... $ 48,834 $ -- $ -- $ -- $ --
=========== =========== =========== ========= ===========
</TABLE>

The accompanying notes are an integral part of these consolidated financial
statements.

F-6
<PAGE> 65

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The accompanying financial information as of March 31, 1996 and for the
three months ended March 31, 1995 and 1996 has been prepared, without audit,
pursuant to the rules and regulations of the United States Securities and
Exchange Commission. The financial information reflects all adjustments,
consisting of normal recurring accruals, which are, in the opinion of
management, necessary to fairly present such information in accordance with
generally accepted accounting principles.

1. BACKGROUND AND INFORMATION:

Midcoast Energy Resources, Inc. ("Midcoast" or "the Company") was formed on
May 11, 1992, as a Nevada corporation and, in September 1992, became the
successor to Nugget Oil Corporation. The merger was accounted for as a pooling
of interests.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

BASIS OF PRESENTATION

The accompanying consolidated financial statements include the accounts of
the Company and all of its wholly-owned subsidiaries. Certain reclassification
entries were made to the 1993 Consolidated Financial Statements so that the
presentation of the information is consistent with reporting for the 1994 and
1995 Consolidated Financial Statements. As of December 31, 1995, the Company's
subsidiaries include Magnolia Pipeline Corporation ("Magnolia"), H&W Pipeline
Corporation, Midcoast Holdings No. One, Inc. ("Midcoast Holdings"), Midcoast
Marketing, Inc. and Nugget Drilling Corporation, of which Magnolia and Midcoast
Holdings are currently active. All significant intercompany transactions and
balances have been eliminated. Investments (reported in other assets) that are
20% to 50% owned are accounted for using the equity method of accounting.
Investments that are greater than 50% owned are consolidated.

INCOME TAXES

Midcoast and its subsidiaries file a consolidated federal income tax
return. Midcoast accounts for income taxes under the provisions of Statement of
Financial Accounting Standards (SFAS) No. 109 -- "Accounting for Income Taxes."
Under SFAS 109, the Company recognizes deferred income taxes for the differences
between the financial and income tax bases of its assets and liabilities.

PROPERTY, PLANT AND EQUIPMENT

Natural gas transmission and distribution facilities and other equipment
are depreciated by the straight-line method at rates based on the following
estimated useful lives of the assets:

<TABLE>
<S> <C>
Natural gas transmission facilities................................... 15 -- 25 years
Pipeline right-of-ways................................................ 17.5 years
Other property and equipment.......................................... 3 -- 7 years
</TABLE>

Repairs and maintenance are charged to expense as incurred; renewals and
betterments are capitalized.

The Company accounts for its oil and gas production activities using the
full cost method of accounting. Under this method of accounting, all costs,
including indirect costs related to exploration and development activities, are
capitalized as oil and gas property costs. No gains or losses are recognized on
the sale or disposition of oil and gas reserves, except for sales which include
a significant portion of the total remaining reserves.

F-7
<PAGE> 66

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

CASH AND CASH EQUIVALENTS

For purposes of the statement of cash flows, the Company considers
short-term, highly liquid investments that have a maturity of three months or
less as of the date of purchase as cash equivalents except for a $50,000
certificate of deposit which is pledged as collateral on the $1.5 million credit
facility (see Note 7).

ASSET HELD FOR RESALE

Assets for which the Company anticipates consummating a sales transaction
within one year of the balance sheet date are valued at the lower of cost or
market and classified as current assets.

TRANSPORTATION AND EXCHANGE IMBALANCES

Transportation and exchange gas imbalance volumes are accounted for using
the sales method of accounting (see Note 3). Transportation and exchange gas
imbalances are not material as of December 31, 1994 and 1995 and March 31, 1996.

DEFERRED CONTRACT COSTS

Costs incurred to construct natural gas transmission facilities pursuant to
long-term natural gas sales or transportation contracts, which upon completion
of construction are assigned to the contracting party, are capitalized as
deferred contract costs. These costs are amortized over the life of the initial
contract on a straight-line basis.

DEFERRED STOCK ISSUANCE COSTS

Direct costs incurred by the Company in connection with its offering of
securities (see Note 17) have been deferred and will be applied as a reduction
of the offering proceeds.

REVENUE RECOGNITION

Customers are invoiced and the related revenue is recorded as natural gas
deliveries are made. Pipeline sales are recognized upon closing the sale
transaction. Oil and gas revenue from the Company's interests in producing wells
is recognized as oil and gas is produced from those wells.

RECENT ACCOUNTING PRONOUNCEMENTS

The Financial Accounting Standards Board ("FASB") issued SFAS No. 121
entitled "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of" which is effective for fiscal years beginning after
December 15, 1995. SFAS No. 121 specifies certain events and circumstances which
indicate the cost of an asset or assets may be impaired, the method by which the
evaluation should be performed, and the method by which writedowns, if any, of
the asset or assets are to be determined and recognized. Management does not
believe that adoption of this pronouncement in 1996 will have a material impact
on the Company's financial condition or operating results.

The FASB also issued SFAS No. 123, "Accounting for Stock Based
Compensation," effective for fiscal years beginning after December 15, 1995.
This statement allows companies to choose to adopt the statement's new rules for
accounting for employee stock-based compensation plans. For those companies who
choose not to adopt the new rules, the statement requires disclosures as to what
earnings per share would have been if the new rules had been adopted. Management
intends to adopt the disclosure requirements of this statement in 1996.

USE OF ESTIMATES

The preparation of the Company's consolidated financial statements in
conformity with generally accepted accounting principles requires the Company's
management to make estimates and assumptions that effect the amounts reported in
these financial statements and accompanying notes. Actual results could differ
from those estimates.

F-8
<PAGE> 67

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

EARNINGS PER COMMON SHARE

Net income (loss) per share was computed by dividing net income (loss)
applicable to common shareholders by the weighted average common shares
outstanding. All share and per share amounts in the accompanying consolidated
financial statements have been adjusted to reflect an approximate 4.46 to 1
stock split authorized by the Board of Directors ("Board") in May 1996 (see Note
17). The effect of the change in accounting principle is reflected separately in
the earnings per share information.

3. ACCOUNTING POLICY CHANGE:

Transportation and exchange imbalances occur when volumes delivered to a
pipeline for transportation are different than those delivered by the pipeline
to its ultimate destination or during an exchange of gas where amounts exchanged
differ. Parties to imbalances include producers, marketers, customers and other
pipelines. Transportation and exchange gas imbalance volumes were being
accounted for using the entitlements method of accounting. The Company has
elected to change its accounting to the sales method. Under the sales method of
accounting, the Company recognizes sales revenue as the customer uses the gas
and recognizes cost of sales as the Company delivers gas to the pipeline. The
effect of this change was to decrease net income by $120,936 in 1994 and is
reflected in the Statement of Operations on a separate line item labeled
"Cumulative Effect of a Change in Accounting Principle."

4. PIPELINE ACQUISITION AND SUBSEQUENT SALE:

In December 1992, the Company agreed to acquire 100% of the outstanding
capital stock of Five Flags Pipe Line Company, a Florida corporation ("Five
Flags"), from an unaffiliated company for cash consideration of $1,078,409. This
acquisition, pursuant to the Agreement for Purchase and Sale of Stock dated
November 20, 1992, was effective as of January 1, 1993. The principal assets of
Five Flags consisted of approximately 57 miles of natural gas pipelines located
in Escambia and Santa Rosa Counties, Florida.

In September 1993, all of the outstanding capital stock of Five Flags was
sold to an unaffiliated partnership. Pursuant to the Agreement for Purchase and
Sale of Stock dated July 15, 1993, Midcoast received cash consideration of
$2,400,000 for the capital stock of Five Flags. During the Company's eight
months of ownership in 1993, Five Flags contributed approximately $96,000 of
income before income taxes.

In September 1995, the Company and an affiliate owned by a former officer
and director of the Company jointly reacquired 100% of the outstanding capital
stock of Five Flags from an unaffiliated company. Total cash consideration of
$2,052,000 was paid on September 13, 1995 of which Midcoast's share was
$1,872,450 for 91.25% of Five Flags capital stock and the affiliate's share was
$179,550 for 8.75% of Five Flags capital stock. The investment was financed by a
former officer and director of the Company (see Note 8).

The acquisition of Five Flags' stock was made as an investment to be resold
to another unaffiliated company pursuant to an agreement for purchase and sale
of stock dated September 6, 1995. On October 2, 1995, Midcoast and the affiliate
jointly sold 100% of the capital stock of Five Flags for cash consideration of
which the Company's share was $4,092,850. A portion of the proceeds from the
sale were used to repay a related party promissory note of $1,872,450 plus
accrued interest (see Note 8). The remainder of the proceeds were used to
partially finance Midcoast's acquisition of Magnolia (see Note 5).

5. PIPELINE CONSTRUCTION AND ACQUISITIONS:

Construction of a three-mile pipeline in Kansas City, Kansas commenced in
July 1994. The pipeline was constructed pursuant to a long-term transportation
agreement and was completed in November 1994 at a cost of $1,114,000. The
project is being partially funded by the customer through prepaid transportation
fees of $415,000 with the remainder being funded through long-term bank
financing (see Note 7) and cash generated from operations. The prepaid
transportation fees are classified as liabilities on the Company's balance sheet
under the caption "Deferred Income." The fees are being recognized as income
over the life of the contract.

F-9
<PAGE> 68

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

In April 1994, the New York Public Service Commission gave approval for the
issuance of a certificate of public convenience and necessity which allows for
the construction of a pipeline providing natural gas transportation to an
industrial customer in Albany, New York pursuant to a long-term transportation
agreement. The pipeline was completed in December 1994 at a cost of $294,000.
The construction was financed through cash generated from operations and
long-term bank financing (see Note 7).

In June 1995, Midcoast acquired a 23% working interest in two oil and gas
production leases located in Starr County, Texas, which together comprise
approximately 1,700 acres. The $194,000 purchase price was partially funded by a
$173,822 loan from an affiliated company owned by certain former officers and
directors of the Company (see Note 8). As consideration for advising the Company
in the acquisition of the working interest, a consultant to the Company was
assigned one percent of the Company's working interest. In addition, a one-half
percent working interest was assigned to the affiliated company which extended
the loan for the acquisition.

In September 1995, Midcoast acquired 100% of the outstanding capital stock
of Magnolia, an Alabama corporation, from Williams Holdings of Delaware, Inc.
("Williams") an unaffiliated company. The acquisition was made pursuant to the
Agreement for Sale and Purchase of Stock dated July 27, 1995 and had an
effective date of August 1, 1995. The acquisition was accounted for under the
purchase method of accounting. The total purchase price of $3,200,000 was
allocated to property, plant, and equipment as the principal asset of Magnolia
consists of approximately 111 miles of natural gas pipeline located in central
Alabama. Initially, the acquisition was financed by Midcoast issuing a $500,000
subordinated debenture ("Debenture") and a $2,700,000 nonrecourse promissory
note ("Note") to Williams. The Debenture accrued interest at 10% and had a final
maturity of September 15, 1996 but was redeemable at the option of Midcoast. The
Note was non-interest bearing and was due on October 9, 1995. However, the
Debenture and the Note were paid in full on October 2, 1995 using the proceeds
from the sale of Five Flags (see Note 4) and borrowings of $1,200,000 from an
affiliate owned by a former officer and director of the Company (see Note 8). In
December 1995, the $1,200,000 related party note was repaid using a new
$1,500,000 credit facility with a commercial lender (see Note 7).

In January 1996, the Company and three unaffiliated parties jointly formed
Starr County Gathering System, a Joint Venture (the "Joint Venture"). The
companies joined together for the purpose of acquiring, owning and operating
pipelines. Effective January 1, 1996, the Joint Venture acquired a gas gathering
system consisting of approximately 10 miles of pipeline located in Starr County,
Texas from an unaffiliated third party. The Joint Venture paid cash
consideration of $164,400 for the system. The Joint Venture financed the entire
purchase price with a credit facility obtained from a commercial lender.
Midcoast as 60% owner of the Joint Venture has guaranteed 60% of the loan value.
Midcoast will act as manager of the Joint Venture and operate the systems.

On February 28, 1996, the Company and Resource Energy Development Company,
L.L.C. ("Resource"), an unaffiliated third party, jointly formed Pan Grande
Pipeline, L.L.C. ("Pan Grande") a Texas Limited Liability Company each owning a
50% interest. The companies joined together for the purpose of acquiring, owning
and operating pipelines. On March 1, 1996, Pan Grande acquired six pipeline
systems consisting of approximately 77 miles of pipeline located in Texas from
an unaffiliated third party. Cash consideration of $1,000,000 was paid by Pan
Grande for the systems. Pan Grande financed $800,000 of the acquisition with a
credit facility obtained from a commercial lender. Midcoast as 50% owner of Pan
Grande has guaranteed 50% of the loan value. The remaining $200,000 of the
purchase price was obtained through equal $100,000 capital contributions from
Midcoast and Resource. Midcoast's $100,000 capital contribution was financed
through a loan from an affiliate owned by a former officer and director of the
Company (see Note 8). Midcoast will act as manager of Pan Grande and operate the
systems.

Construction of a one-half mile pipeline in Obion County, Tennessee
commenced in March 1996. The pipeline is being constructed pursuant to a
long-term transportation agreement with an industrial customer

F-10
<PAGE> 69

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

and is expected to be completed in September 1996. Construction costs are
estimated to be $65,000. The construction is being financed through cash
generated from operations and long-term bank financing (see Note 7).

Construction of a two-mile pipeline in Roane County, Tennessee commenced in
March 1996. The pipeline is being constructed pursuant to a long-term
transportation agreement with an industrial customer and is expected to be
completed in August 1996. Construction costs are estimated to be $370,000. The
construction is being financed from cash generated from operations and long-term
bank financing (see Note 7).

6. INVESTMENTS:

In March 1994, the Company signed an agreement to fund $1,265,000 which
represents half of the construction costs of a crude oil gathering pipeline and
a natural gas gathering pipeline near Cook Inlet, Alaska. The agreement provided
for the funds to be advanced in five payments due upon the completion of certain
stages of the pipeline construction. In consideration for the Company's
contribution of funds for construction, Midcoast receives a throughput fee based
on the volumes of barrels/MCF transported through the pipelines. These fees are
subject to certain minimum guaranteed volumes for the first two years which
began upon completion of the pipeline in July 1994. The payments were being
financed with available cash on hand and through short-term loans with an
affiliated company owned by certain former officers and directors of the
Company. The short-term loans were replaced with long-term bank financing in May
1994 (see Note 7).

7. DEBT OBLIGATIONS:

At December 31, 1994 and 1995 and March 31, 1996, the Company had
outstanding debt obligations as follows (in thousands):

<TABLE>
<CAPTION>
DECEMBER 31, 1994 DECEMBER 31, 1995 MARCH 31, 1996
------------------- ------------------- -------------------
CURRENT LONG-TERM CURRENT LONG-TERM CURRENT LONG-TERM
------- --------- ------- --------- ------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Note payable to a bank under a term loan bearing
interest at the bank's prime rate plus 1%, principal
of $30,435 and accrued interest are payable in 35
monthly installments, with a final lump sum payment
of the remaining unpaid principal and interest due on
December 1, 1995..................................... $ 365 $ 304 $ -- $ -- $ -- $ --
Note payable to a bank under a $750,000 working capital
line of credit expiring August 1, 1996. Advanced and
unpaid principal bears interest at the bank's prime
rate plus 1% (10.25% at March 31, 1996) which is
accrued and paid monthly............................. 210 -- 25 -- -- --
Note payable to a bank under a term loan bearing
interest at the bank's prime rate plus 1%, principal
and accrued interest are payable in 32 monthly
installments of $12,720, with a final maturity of
December 15, 1996.................................... 134 145 -- -- -- --
Note payable to a bank under a term loan bearing
interest at the bank's prime rate plus 1% (9.25% at
March 31, 1996), principal and accrued interest are
payable in 59 monthly installments of $6,915, with a
final lump sum payment of the remaining unpaid
principal and interest due on
October 13, 1999..................................... 57 270 59 215 62 197
Note payable to a bank under a term loan bearing
interest at the bank's prime rate plus 1% (9.25% at
March 31, 1996), principal of $3,438 and accrued
interest are payable in monthly installments with a
final lump sum payment of the remaining unpaid
principal and interest due on February 15, 1998...... 42 120 41 79 42 68
</TABLE>

F-11
<PAGE> 70

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

<TABLE>
<CAPTION>
DECEMBER 31, 1994 DECEMBER 31, 1995 MARCH 31, 1996
CURRENT LONG-TERM CURRENT LONG-TERM CURRENT LONG-TERM
------ ------ ---- ------ ---- ------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Note payable to a bank under a term loan bearing
interest at the bank's prime rate plus 1.5% (9.75% at
March 31, 1996), principal of $27,778 and accrued
interest are payable in 35 monthly installments, with
a final lump sum payment of the remaining unpaid
principal and interest due on December 15, 1997...... 333 667 333 333 333 250
Revolving credit line with a bank under a $1.25 million
reducing promissory note bearing interest at the
bank's prime rate plus 1.5% (9.75% at March 31,
1996). Available credit is reduced monthly by $20,833
beginning December 1, 1995. Accrued interest and any
principal amounts as may be required to cause the
outstanding principal to not exceed the amount of
credit then available are payable monthly, with a
final maturity of November 1, 1998................... -- -- 108 1,000 191 917
Revolving credit line with a bank under a $1.5 million
reducing promissory note bearing interest at the
bank's prime rate plus 1% (9.25% at March 31, 1996).
Available credit is reduced monthly by $17,860
beginning February 1, 1996. Accrued interest and any
principal amounts as may be required to cause the
outstanding principal to not exceed the amount of
credit then available are payable monthly, with a
final maturity of January 15, 1999 (Amended in May
1996. See Note 17)................................... -- -- -- 1,300 214 1,250
Note payable to a bank under a term loan bearing
interest at the bank's prime rate plus 1% (9.25% at
March 31, 1996), principal and accrued interest are
payable in 60 monthly payments of $7,185, with a
final maturity of July 15, 2001...................... -- -- -- -- 37 306
Note payable to an affiliate owned by certain former
officers and directors bearing interest at the
Mercantile Bank, Corpus Christi prime rate plus 1.5%
(10.75% at March 31, 1996). Principal and accrued
interest are due in full at maturity on April 1,
1997................................................. -- 275 -- 200 -- 200
Note payable to an affiliate owned by certain former
officers and directors bearing interest at the
Mercantile Bank, Corpus Christi prime rate plus 1%
(10.25% at March 31, 1996). Monthly payments equal to
25% of the net revenue derived from the oil and gas
production acquisition (see Note 5) shall be
allocated to interest then principal. Any remaining
principal and accrued interest shall be due in full
at maturity on April 1, 1997......................... -- -- -- 174 -- 174
Note payable to an affiliate owned by a former officer
and director bearing interest at the Mercantile Bank,
Corpus Christi prime rate plus 5% (14.5% at December
31, 1995). Principal and accrued interest are due in
full at maturity on January 1, 1997.................. -- -- -- 660 -- --
Note payable to an affiliate owned by a former officer
and director bearing interest at the prime rate plus
2.5% (10.75% at March 31, 1996), principal of $1,667
and accrued interest are payable in 59 monthly
installments with a final lump sum payment of the
remaining unpaid principal and interest due on March
15, 2001............................................. -- -- -- -- 20 80
------ ------ ---- ------ ---- ------
$1,141 $ 1,781 $ 566 $ 3,961 $ 899 $ 3,442
====== ====== ==== ====== ==== ======
</TABLE>

In December 1992, the Company entered into a financing agreement with a
bank under which the Company could borrow up to $1,800,000. This credit facility
included a term loan of $1,400,000 which was payable in 36 monthly installments,
the first 35 installments being the amount of $30,435 principal plus accrued
interest, and the 36th and final installment being the amount of the balance of
principal ($334,775) plus accrued interest then remaining outstanding and
unpaid. In conjunction with obtaining a new debt facility

F-12
<PAGE> 71

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

with another bank as discussed in a subsequent paragraph, the term loan was
repaid in full on October 31, 1995.

In addition to the term loan discussed above, the Company had a line of
credit of $400,000 under the bank financing agreement. In September 1994, the
line of credit was renewed and the available line raised to $750,000. The line
of credit, as amended in May 1996, expires on August 1, 1996. Borrowings under
this credit facility are collateralized by the Company's non-transportation
based accounts receivable. At March 31, 1996, the Company had $750,000 of
available funds under this credit facility.

In July 1993, the same bank provided the Company with an additional
$360,000 facility under which the Company obtained advances of funds as needed
for construction of pipelines. In conjunction with obtaining a new debt facility
with another bank as discussed in a subsequent paragraph, the term loan was
repaid in full on October 31, 1995.

In May 1994, the Company obtained a $1,000,000 credit facility for
financing of the Company's investment in transmission facilities in Alaska.
Under this facility, the Company was able to repay the short-term loans of
$316,250 advanced by an affiliate owned by certain former officers and
directors, as discussed in Note 8 herein, as well as obtain the funds as needed
for the Company's investment in Alaska. The agreement called for monthly
payments of accrued interest with the principal due in full at maturity on
January 15, 1996. Borrowings under this facility bore interest at the bank's
prime rate. Affiliates owned by certain former officers and directors of the
Company pledged U.S. Treasury Bills and Certificates of Deposit as collateral
for this facility for which they were compensated as discussed in Note 8. In
December 1994, this facility was repaid and replaced with a long-term financing
agreement with a new bank. Under the new agreement, principal and accrued
interest are paid in 35 monthly installments of $27,778 plus accrued interest
with a final lump sum payment of the remaining unpaid principal and interest due
on December 15, 1997. This facility is secured by the throughput fee the Company
is receiving on its investment in Alaska (see Note 6).

In October 1994, the Company obtained $335,000 under a long-term financing
from a bank. The funds were utilized to partially finance the construction of a
three-mile pipeline in Kansas City, Kansas. In connection with this financing
agreement, one of the Company's pipeline systems is subject to a negative pledge
to keep the pipeline free and clear of all liens and encumbrances.

In November 1994, $165,000 was extended by a bank to partially finance the
construction of a pipeline in Albany, New York. Under this agreement, the term
loan, as amended, is payable in monthly installments of $3,438 principal plus
accrued interest and the final installment on February 15, 1998 being the amount
of the balance of principal and accrued interest of $34,653 then remaining
outstanding and unpaid. In connection with this financing agreement, one of the
Company's pipeline systems is subject to a negative pledge to keep the pipeline
free and clear of all liens and encumbrances.

In October 1995, the Company entered into a new financing agreement with an
existing bank lender. The new agreement provides for an initial $1,250,000
revolving line of credit with the amount of available credit being reduced by
$20,833 per month beginning December 1, 1995. Upon maturity at November 1, 1998,
the balance of principal plus accrued interest then remaining outstanding and
unpaid is payable on full. The funds were used to repay existing bank debt. In
connection with this financing agreement, eight of the Company's pipeline
systems are subject to a negative pledge to keep the pipelines free and clear of
all liens and encumbrances. At March 31, 1996, the Company had $59,164 of
available funds under this credit facility.

In December 1995, the Company entered into a new financing agreement with a
bank lender. The agreement provided for an initial $1,500,000 revolving line of
credit with the amount of available credit being reduced by $17,860 per month
(amended in May 1996. See Note 17). Upon maturity at January 15, 1999, the
balance of principal plus accrued interest then remaining outstanding and unpaid
is payable in full. The funds were used to repay $1,200,000 in debt owed to an
affiliate for partially financing the Magnolia acquisition (see Note 5) and
other working capital needs. In connection with this financing agreement, a
$50,000 certificate of

F-13
<PAGE> 72

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

deposit and all of Magnolia's stock has been pledged as collateral. Also,
Magnolia's pipeline system is subject to a negative pledge to keep the pipeline
free and clear of all liens and encumbrances. At March 31, 1996, the Company had
no available funds under this credit facility.

In March 1996, $343,000 was extended by a bank to partially finance the
construction of two pipelines in Tennessee. Under this agreement, the term loan
is payable in 60 monthly installments of principal and accrued interest of
$7,185 beginning August 15, 1996. In connection with this financing agreement,
all proceeds from the transportation agreements with the industrial customers on
the two pipelines to be constructed are pledged as collateral.

All of the above referenced bank debt has been personally guaranteed by the
three largest stockholders of the Company, one of which is also an officer and
director of the Company.

In December 1994, an affiliate owned by former officers and directors of
the Company provided a loan of $275,000 of which $75,000 was repaid during 1995.
The loan, as amended, accrues interest at the prime rate plus 2.5% and matures
on April 1, 1997. The proceeds of the loan were used for general corporate
purposes including the repayment of other indebtedness. No collateral was
required to obtain this loan.

In December 1995, an affiliate owned by a former officer and director of
the Company provided a loan of $660,000. The proceeds of the loan were used for
general corporate purposes including the repayment of other indebtedness. No
collateral was required to obtain this loan. In January 1996, the loan was
repaid in full.

In March 1996, an affiliate owned by a former officer and director of the
Company provided a loan commitment of $175,000. The Company drew $100,000 to
fund its equity contribution in a new entity (Pan Grande) in which the Company
has a 50% interest (see Note 5). The note, as amended, bears interest at the
prime rate plus 2.5% and is payable in 59 monthly installments of $1,667 plus
accrued interest and a final installment at March 15, 2001 in the amount of the
remaining principal and accrued interest then outstanding and unpaid. The note
is secured by the Company's interest in Pan Grande.

The Company is in compliance with various normal covenants and certain
financial ratios as required by its financing agreements.

The aggregate maturities of long-term debt for the five years following
December 31, 1995 are as follows:

<TABLE>
<CAPTION>
FOR THE YEAR ENDING
DECEMBER 31 (IN THOUSANDS)
- ------------------- --------------
<S> <C>
1996.......................................... $ 541
1997.......................................... 1,972
1998.......................................... 1,036
1999.......................................... 953
2000.......................................... --
------
Total............................... $4,502
======
</TABLE>

8. RELATED PARTY TRANSACTIONS:

During 1994, an affiliate owned by certain former officers and directors of
the Company provided short-term loans to fund the Company's investment in Alaska
(see Note 6) until long-term bank financing was obtained. Short-term loans of
$316,250 were extended and subsequently repaid during 1994 including interest

F-14
<PAGE> 73

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

of $4,005 which was accrued at the prime rate plus 5%. In addition, a $275,000
loan was provided in 1994 which, as amended, bears interest at the Mercantile
Bank, Corpus Christi prime rate plus 1.5%. Interest is payable monthly and
principal and remaining accrued interest are due in full at maturity on April 1,
1997. The proceeds of the loan were used for general corporate purposes
including the repayment of other indebtedness. Principal of $75,000 was repaid
in November 1995 and cash payments of $30,057 were made for interest as of March
31, 1996.

Affiliates owned by former officers and directors of the Company extended
the collateral to obtain the long-term bank financing for the Alaska investment.
The collateral was outstanding for a period of approximately eight months at
which point the Company replaced the loan with another commercial lender and the
collateral requirement was extinguished. In consideration for extending the
collateral on the initial loan, the Company assigned a five percent net revenue
interest on the net income derived from the Company's investment in the oil and
natural gas gathering pipelines near Cook Inlet, Alaska. However, the five
percent net revenue interest applies only after all costs associated with the
investment have been recouped by the Company. As a result, no amounts have yet
been paid under the assignment of the net revenue interest.

In May 1995, an affiliate owned by former officers and directors of the
Company provided a $173,822 loan to partially finance the acquisition of a 23%
working interest in oil and gas production from two leases located in Starr
County, Texas. The loan, as amended in March 1996, bears interest at the
Mercantile Bank, Corpus Christi prime rate plus 1% and matures on April 1, 1997.
Cash payments of interest amounting to $3,346 and $7,477 were made during the
twelve months ended December 31, 1995 and three months ended March 31, 1996,
respectively. No collateral was required to obtain this loan, although, as
additional consideration for extending the loan, the affiliated company was
assigned a one-half percent working interest in the oil and gas properties. An
additional one-half percent working interest in the properties will be assigned
to Texline if all principal and interest amounts due under the loan are not paid
by August 1, 1996.

The Five Flags acquisition discussed in Note 4 above was financed by a
former officer and director of the Company. A $1,872,450 promissory note was
executed by the Company and called for monthly payments of interest beginning
April 1, 1996 until December 31, 1996 at which time both principal and accrued
interest would be due in full. Interest accrued at the prime rate plus 2%.
However, the note plus accrued interest of approximately $10,500 was repaid in
full on October 2, 1995 using the proceeds from the sale of the Five Flags
investment.

In addition to the $660,000 general corporate purposes loan provided in
December 1995 and repaid in January 1996 (including accrued interest of $4,039)
as discussed in Note 7 herein, $1,200,000 was borrowed from an affiliate owned
by a former officer and director of the Company on October 2, 1995. These funds
were used in conjunction with the remainder of the sales proceeds of Five Flags
to fully retire the $500,000 Debenture and $2,700,000 Note due the seller of
Magnolia. The loan agreement called for interest to be accrued at the prime rate
plus 5% and was due monthly beginning April 1, 1996. The loan was to mature on
January 31, 1997, however, upon consummation of the new $1,500,000 bank credit
facility in December 1995, the note plus accrued interest of $35,260 was repaid
in full.

As additional consideration for extending the $1,200,000 loan, Midcoast
granted the affiliate a 5% net revenue interest in Magnolia's earnings before
interest, income taxes and depreciation to be paid on a monthly basis. The net
revenue interest, as amended in May 1996, applies only after Magnolia's
acquisition cost has been recouped by the Company. At March 31, 1996, no amounts
have yet been paid under the assignment of the net revenue interest. Midcoast
has the right to repurchase this net revenue interest from the affiliate for a
cash payment of $25,000. However, the repurchase amount is increased an
additional $25,000 on November 1, 1995 and each following month up to a maximum
of $500,000.

In March 1996, the Company borrowed $100,000 from an affiliate owned by a
former officer and director of the Company for its equity contribution in Pan
Grande (in which the Company owns a 50% interest, see

F-15
<PAGE> 74

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Note 5) pursuant to a promissory note. The note, as amended, bears interest at
the prime rate plus 2.5% and is payable in 59 monthly installments of $1,667
plus accrued interest and a final installment at March 15, 2001 in the amount of
the remaining principal and accrued interest then outstanding and unpaid. The
note is secured by the Company's interest in Pan Grande. The affiliate has
committed to lend up to an additional $75,000 in the event an additional system
is purchased by Pan Grande. In consideration for the financing of the equity
contribution and the commitment for additional financing, the Company issued the
affiliate 4,460 shares of the Company's common stock.

9. COMMITMENTS AND CONTINGENCIES:

EMPLOYMENT CONTRACTS

The Chief Executive Officer and President of the Company, has an employment
agreement with the Company which terminates in December 1997 pursuant to which
he receives a base annual salary of $125,000 adjusted for salary increases the
Board may approve. In 1994 and 1995, two key employees of the Company entered
into three and four year employment agreements, respectively. These agreements
may be terminated by mutual consent or at the option of the Company for cause,
death or disability. In the event termination is due to death, disability or
defined changes in the ownership of the Company, the full amount of compensation
remaining to be paid during the term of the agreement will be paid to the
employee or their estate, after discounting at 12% to reflect the current value
of unpaid amounts.

CONSULTING AGREEMENT

In February 1996, the Company executed an engagement letter with Triumph
Resources Corporation for the purpose of assisting the Company with a
contemplated sale transaction involving certain Magnolia assets. The agreement
calls for a monthly retainer of $8,000 for a period of twelve months in addition
to three year warrants to purchase 34,349 shares of the Company's common stock
at $7.85 per share.

LEASES

In March 1996, Midcoast entered into a new noncancelable operating lease
for its office space which expires on January 31, 1999. Previously, Midcoast had
another noncancelable lease which expired in June 1995 and converted to a
month-to-month arrangement until the new lease was executed. Rent expense of
$45,400, $50,500, and $50,600 was incurred during the years ended 1993, 1994 and
1995, respectively under these operating leases. During the three months ended
March 31, 1995 and 1996, $12,500 in rent expense was incurred in both periods.
As of March 31, 1996, future minimum lease payments due under this lease are
approximately $53,068 in 1996, $73,125 in 1997, $77,859 in 1998, and $6,488 in
1999.

10. CAPITAL STOCK:

At March 31, 1996, the Company had authorized 6 million shares of common
stock of which 1,470,141 shares were issued and outstanding. There are 79,403
shares issued and outstanding at March 31, 1996 which are subject to a vesting
schedule in conjunction with employee shareholder agreements entered into during
1994 and 1995 (see Note 15).

There were 1 million shares authorized and 200,000 shares outstanding of
the Company's 5% cumulative preferred stock ("5% Preferred") at March 31, 1996.
The 5% Preferred paid quarterly dividends based on an annual rate of 5% of the
stated liquidation value and was redeemable in whole or in part at the Company's
option at a price per share based on the liquidation value ($5.91 per share).
The 5% Preferred voted as a separate class with respect to any change in the
preferences or other rights attributable to the 5% Preferred. Upon the failure
to declare or pay quarterly dividends for two consecutive quarterly periods, the
holders of the 5% Preferred also had the right to elect one director until such
time as all accrued dividends had been paid.

F-16
<PAGE> 75

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Subsequent to March 31, 1996, the Board approved increasing the authorized
number of common shares to 10 million, authorizing an approximate 4.46 to 1
stock split, redeeming the 5% Preferred and amending the Company's Articles of
Incorporation to reflect only one class of outstanding securities, the Company's
common stock (see Note 17).

11. INCOME TAXES:

The Company has a net operating loss ("NOL") carry forward of approximately
$15.1 million expiring in various amounts from 1999 through 2008. In addition,
the Company has an investment tax credit (ITC) carry forward of approximately
$354,000 which expires primarily in 1997. These loss carryforwards were
generated by the Company's predecessor. The ability of the Company to utilize
the carry forwards is dependent upon the Company maintaining profitable
operations and staying in compliance with certain Internal Revenue Service
("IRS") code provisions and regulations associated with a change in shareholder
control. Failure to adhere to these IRS requirements could result in a
significant limitation of the Company's ability to utilize its NOL and ITC
carryforwards and could also result in a loss of utilization altogether.

The tax effect of significant temporary differences representing deferred
tax assets and liabilities at December 31, 1994 and 1995, are as follows (in
thousands):

<TABLE>
<CAPTION>
DECEMBER 31
-------------------
1994 1995
------- -------
<S> <C> <C>
Net operating and capital loss carry forwards.................... $ 5,183 $ 5,124
Investment tax credit carryforwards.............................. 354 354
Alternative minimum tax credit................................... -- 44
Financial basis of assets in excess of tax basis................. (644) (644)
Valuation allowance.............................................. (4,893) (4,834)
------- -------
Net deferred tax assets.......................................... $ -- $ 44
======= =======
</TABLE>

A reconciliation of the 1993, 1994 and 1995 provision for income taxes to
the statutory United States tax rate is as follows (in thousands):

<TABLE>
<CAPTION>
1993 1994 1995
----- ---- -----
<S> <C> <C> <C>
Federal tax computed at statutory rate...................... $ 278 $ 50 $ 771
Utilization of net operating loss carryforwards............. (278) (50) (771)
Federal alternative minimum tax............................. 16 -- --
Provision for state income taxes............................ 37 -- --
----- ---- -----
Actual provision............................................ $ 53 $ -- $ --
===== ==== =====
</TABLE>

12. MAJOR CUSTOMERS:

For the year ended December 31, 1993, the Company derived over 10% of its
sale of natural gas and transportation fees from Mid-America Pipeline Company,
Petro PSC, L.P. , and Seminole Pipeline Company. They accounted for 32%, 14%,
and 12%, respectively.

For the years ended December 31, 1994 and 1995, the Company derived over
10% of its sales of natural gas and transportation fees from Mid-America
Pipeline Company and Westlake Petrochemicals Corporation. They accounted for 42%
and 21% during 1994, and 40% and 14% during 1995, respectively.

F-17
<PAGE> 76

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

13. CONCENTRATION OF CREDIT RISK:

The Company derives revenue from gas transmission and gathering services
for commercial companies located in Alabama, Alaska, Kansas, Louisiana, New
York, Oklahoma, and Texas. Two of Midcoast's largest customers account for 49%
or approximately $1.13 million of the outstanding accounts receivable at
December 31, 1995 (42% or approximately $895,000 at March 31, 1996). These
accounts receivable were subsequently collected under normal credit terms and
the Company believes that future accounts receivable with these companies will
continue to be collected under normal credit terms based on previous experience
which spans several years. The Company performs ongoing evaluations of its
customers and generally does not require collateral. The Company assesses its
credit risk and provides an allowance for doubtful accounts for any accounts
which it deems doubtful of collection. At December 31, 1995 and March 31, 1996,
no provision for doubtful accounts was provided.

The Company maintains deposits in banks which may exceed the amount of
federal deposit insurance available. Management periodically assesses the
financial condition of the institutions and believes that any possible deposit
loss is minimal.

14. FAIR VALUE OF FINANCIAL INSTRUMENTS:

The Company's financial instruments consist of trade receivables and
liabilities, notes payable to affiliates and various banks. The Company believes
the carrying value of these financial instruments approximate their estimated
fair value.

15. EMPLOYEE BENEFITS:

The Company issued a total of 13,381, 36,132 and 63,343 common shares of
the Company's common stock to certain key employees in 1993, 1994 and 1995,
respectively. Of the shares issued in 1994 and 1995, 35,686 and 57,991
respectively were issued in connection with shareholder agreements with certain
employees. The shares vest in equal amounts: the 35,686 shares over a five year
period and the 57,991 shares over a four year period. The shares were valued at
the estimated fair market value on the date of issuance. Compensation expense is
being recognized rateably over the vesting period.

In May 1996, the Board of the Company adopted the Midcoast Energy
Resources, Inc. 1996 Incentive Stock Plan (the "Incentive Plan"). All employees,
including officers (whether or not directors) of the Company and its
subsidiaries are currently eligible to participate in the Incentive Plan.
Persons who are not in an employment relationship with the Company or any of its
subsidiaries, including non-employee directors, are not eligible to participate
in the Incentive Plan. Under the Incentive Plan, the Compensation Committee may
grant incentive awards (the "Incentive Awards") with respect to a number of
shares of Common Stock that in the aggregate does not exceed 200,000 shares of
Common Stock, subject to adjustment upon the occurrence of certain
recapitalizations of the Company.

The Incentive Plan provides for the grant of (i) options, both incentive
stock options and non-qualified options, (ii) shares of restricted stock, (iii)
performance awards payable in cash or Common Stock, (iv) shares of phantom
stock, and (v) stock bonuses (collectively, the "Incentive Awards"). In
addition, the Incentive Plan provides for the grant of cash bonuses payable when
a participant is required to recognize income for federal income tax purposes in
connection with the vesting of shares of restricted stock or the issuance of
shares of Common Stock upon the grant of a performance award or a stock bonus,
provided, that such cash bonus may not exceed the fair market value (as defined)
of the shares of Common Stock received on the grant or exercise, as the case may
be, of an Incentive Award. No Incentive Award may be granted under the Incentive
Plan after ten (10) years from the Incentive Plan adoption date.

F-18
<PAGE> 77

MIDCOAST ENERGY RESOURCES, INC., AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

16. ABANDONMENT OF PIPELINES:

In 1992, a complaint was filed before the Alabama Public Service Commission
("APSC") by a local distribution company alleging that Gas Utilities or its
assignees were required to obtain a certificate of necessity and public
convenience before the pipeline may be operated. As a result, an injunction was
ordered by the Circuit Court of Hale County, Alabama, on October 8, 1992,
against further construction on the pipeline until the matter was resolved
before the APSC.

Based upon the complaint filing, the APSC asserted jurisdiction, thereby
requiring their certification of the pipeline, which would be extremely
difficult and costly to obtain; therefore, the Company elected to write-off its
investment in the pipeline ($210,687) during the third quarter of 1993. The
Company pursued relief through the Alabama judicial system but did not prevail.
The Company is currently considering other regulatory alternatives but no
assurances can be made that the Company will recover its investment in the
pipeline.

Also in 1993, the Company disposed of most of the recoverable assets of an
inactive gas gathering system and wrote-off the remaining net book value of
$35,981.

17. SUBSEQUENT EVENTS:

The Board and a majority of the existing shareholders have authorized
increasing the number of authorized common shares from 6,000,000 shares to
10,000,000 shares. In addition, the Board authorized an approximate 4.46 for 1
stock split in anticipation of the Company registering with the United States
Securities and Exchange Commission 1,150,000 shares (after consideration of the
stock split) of its common stock, including the Company's grant of an option to
the underwriters to purchase up to 150,000 shares to satisfy over-allotments in
the sale of the Company's common stock. Under the terms of the underwriting
agreement, the underwriters will also receive warrants to acquire 100,000 shares
at 142% of the initial offering price per share. The securities underlying these
warrants are subject to piggyback registration rights.

In May 1996, the Board approved the redemption of the 5% Preferred for
$118,367 held by a director and officer and two former directors and officers of
the Company. The shares were redeemed for ten percent (10%) of the stated
liquidation value ($1,183,665). Subsequently, no shares of the Company's
preferred stock remain outstanding. Following redemption of the Company's 5%
Preferred, a majority of the shareholders approved an amendment to the Articles
of Incorporation to reflect only one class of outstanding securities, the
Company's common stock.

In May 1996, Magnolia acquired nine gathering pipeline systems and one
transmission pipeline system from TSGGC. The systems were acquired pursuant to a
purchase and sale agreement dated March 12, 1996 for a total purchase price of
$390,000 less purchase price adjustments giving effect to operating income since
the effective date of January 1, 1996. These systems total approximately 113
miles of 2 inch to 10 inch diameter pipeline with associated equipment. Five
systems (Fayette, Happy Hill, Moores Bridge, Detroit and Sizemore) are located
in Alabama, and five systems (Millbrook, Greenwood Springs, Heidelberg-TGP,
Heidelberg-Koch and Baxterville) are located in Mississippi. The bulk of the
systems are located within 100 miles of the Magnolia System and it is the
Company's intention to integrate the operation of these systems with the
Magnolia System. TSGGC had acquired these systems in 1994 as part of a larger
acquisition package. The acquisition was financed by amending an existing credit
facility with a bank as discussed below.

In May 1996, the Company's $1,500,000 revolving line of credit with a bank
was amended to increase the available credit by $350,000 and adjust the monthly
reduction of availability from $17,860 to $23,000. This amendment was made to
finance the TSGGC acquisition discussed in the preceding paragraph.

F-19
<PAGE> 78

================================================================================

NO DEALER, SALESMAN OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS AND,
IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS
HAVING BEEN AUTHORIZED BY THE COMPANY OR THE UNDERWRITER. THIS PROSPECTUS DOES
NOT CONSTITUTE AN OFFER OF ANY SECURITIES OTHER THAN THOSE TO WHICH IT RELATES
OR AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, TO ANY PERSON IN ANY
JURISDICTION WHERE SUCH AN OFFER OR SOLICITATION WOULD BE UNLAWFUL. NEITHER THE
DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED HEREIN IS
CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF.

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

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Available Information.................. 2
Prospectus Summary..................... 3
Risk Factors........................... 7
Use of Proceeds........................ 11
Market for the Company's Common Stock
and Dividend Policy.................. 13
Dilution............................... 14
Capitalization......................... 15
Selected Financial Data................ 16
Management's Discussion and Analysis of
Financial Condition and Results of
Operations........................... 17
Business and Properties................ 23
Management............................. 43
Principal Stockholders................. 50
Shares Eligible for Future Sale........ 51
Description of Securities.............. 53
Underwriting........................... 55
Legal Matters.......................... 57
Experts................................ 57
Glossary............................... 58
Index to Financial Statements.......... F-1
</TABLE>

================================================================================

1,000,000 SHARES

[MIDCOAST ENERGY RESOURCES, INC. LOGO] MIDCOAST ENERGY RESOURCES, INC.

COMMON STOCK

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

PROSPECTUS

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

COLEMAN AND COMPANY
SECURITIES, INC.

DICKINSON & CO.

NOLAN SECURITIES
CORPORATION

August 9, 1996

================================================================================